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Clean Energy Fuels’ (CLNE) CEO Andrew Littlefair on Q4 2015 Results – Earnings Call Transcript

Operator Greetings, and welcome to the Clean Energy Fuels Fourth Quarter and Year End 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I’d now like to turn the conference over to your host Mr. Tony Kritzer, Director of Investor Relations. Go ahead Mr. Kritzer. Tony Kritzer Thank you, operator. Earlier this afternoon, Clean Energy released financial results for the fourth quarter and full year ending December 31, 2015. If you did not receive the release, it is available on the Investor Relations section of the Company’s website at www.cleanenergyfuels.com, where the call is also being webcast. There will be a replay available on the website for 30 days. Before we begin, we’d like to remind you that some of the information contained in the news release and on this conference call, contains forward-looking statements that involve risks, uncertainties, and assumptions that are difficult to predict. Words of expression reflecting optimism, satisfaction with current prospects, as well as words such as believe, intend, expect, plan, should, anticipate, and similar variations, identify forward-looking statements, but their absence does not mean that the statement is not forward-looking. Such forward-looking statements are not a guarantee of performance, and the Company’s actual results could differ materially from those contained in such statements. Several factors that could cause or contribute to such differences are described in detail in the Risk Factors section of the Clean Energy’s Form 10-K, filed March 3, 2015. These forward-looking statements speak only as of the date of this release. The Company undertakes no obligation to publicly update any forward-looking statements or supply new information regarding the circumstances after the date of this release. The Company’s non-GAAP EPS and adjusted EBITDA will be reviewed on this call, and excludes certain expenses that the Company’s management does not believe are indicative of the Company’s core business operating results. Non-GAAP financial measures should be considered in addition to results prepared in accordance with GAAP, and should not be considered as a substitute for, or superior to, GAAP results. The directly comparable GAAP information, reasons why management uses non-GAAP information, a definition of non-GAAP EPS and adjusted EBITDA, and a reconciliation between these non-GAAP and GAAP figures is provided in the Company’s press release, which has been furnished to the SEC on Form 8-K today. Participating on today’s call from the Company is President and Chief Executive Officer, Andrew Littlefair; and Chief Financial Officer, Bob Vreeland. And with that, I will turn the call over to Andrew. Andrew Littlefair Thank you, Tony. Good afternoon everyone and thank you for joining us. I’m going to keep my remarks focused on what we feel are the most important takeaways from 2015 and looking forward into 2016. For the fourth quarter, we delivered 78.3 million gallons to our customers. This is an 8% increase over the 72.4 million gallons we delivered during the fourth quarter of 2014. For the full year, we delivered 308.5 million gallons, 16% or 43-million-gallon increase. I think it’s important to remind everyone that despite the global oil price decline and the rippling effects it has caused throughout the energy industry, we’ve continued to grow our delivered volumes in every single quarter. We’re growing in the most challenging energy market in quite some time and our recurring revenue model is intact. We reported fourth quarter revenue of a $119 million which included $31 million of alternative fuel tax credit. For the full year, we reported revenue of $384 million. Revenue was down compared to last year, principally because of three reasons including lower commodity costs. While lower natural gas commodity prices are good for us and for our customers, they do impact our top line revenue. Revenues were also impacted by continued softness in the global compressor business due to lower oil prices and a strong U.S. dollar. And finally, our station construction revenues were down as compared to 2014 because we completed more station upgrade projects and fewer full stations. All total, we completed 67 station projects in 2015. It is important to note that our station construction projects tend to be cyclical between station upgrades versus full stations. And we anticipate construction revenues in 2016 to benefit from an increase of full station projects. We currently have more refuse station construction projects in the pipeline for 2016 than we’ve ever had in our history. We believe our robust construction pipeline is solid indicator that our customers continue to make investments in expanding their fleets and committed to their sustainability goals. As I’ve emphasized on previous earnings calls, natural gas fuelling is the most effective immediate solution a company can take towards achieving greater sustainability. These environmental benefits will be unmatched with the Cummins Westport Low NOx engine, especially when combined with our Redeem renewable fuel. This combination is cleaner than running an electric vehicle that is plugged into the grid. As we announced in early February, Redeem sales more than doubled in 2015 to 15 million gallons and have become an important fuel for customers like UPS, Ryder, Republic Services, and many transit agencies. Another significant point I’d like to make is that beginning in the third quarter of last year, we crossed over into positive adjusted EBITDA. We’re positive again in the fourth quarter with adjusted EBITDA of $32.9 million. Excluding the alternative fuel tax credit, our adjusted EBITDA was positive $1.9 million. Furthermore, we believe that we will continue to trend positively each quarter of 2016. Lastly, I want to provide an update on our capital structure. We finished 2015 with approximately $147 million of cash and investments on the balance sheet. Our highest and most immediate priority is to address the 2016 convertible notes, and we were paid $16 million of those notes with cash earlier this week. We expect to repay the remaining balance with the combination of cash and stock. We have also recently bought back $32.5 million of our 2018 convertible notes. Also, so far in the first quarter, we reduced our convertible debt by $92.5 million. But, I want to emphasize that we already have several incoming sources of cash including positive EBITDA, a credit line based on working capital, the alternative fuel tax credit and proceeds from our at-the-market-stock sale program. Our principal uses of cash this year will be for CapEx, interest expense, the opportunistic buyback of the 2018 convertible notes, and paying the remainder of the cash portion of the 2016 convertible notes. We believe our cash position will be about the same at the end of 2016 as it was at the end of 2015; this, even after addressing the 2016 converts and the portion of the 2018 convertible notes. Our CapEx budget for 2016 is about $25 million, which has been reduced by more than 50% from 2015. This will be a targeted only for projects for key anchor fleet customers. I want to reiterate that our business continues to grow because our largest customers continue to invest in their natural gas fleet operation. And our scale and expertise allows us to be their partner of choice across the country. We also continue to gain new customers across our markets of transit, refuse and trucking. The natural gas fuelling industry although facing current headwinds, will continue to be the most cost effective in environmentally beneficial solution for commercial fleets and is here to stay. The pressure of consumer-facing companies to reduce their carbon footprint and emission levels, only [Technical Difficulty] Operator Ladies and gentlemen, please stand by. Ladies and gentlemen, we do apologize for the inconvenience. Our speaker line has disconnected. Give us one moment, and we’ll get them right back. Sorry about that. Gentlemen, we’re back. Andrew Littlefair Good. Well, sorry everybody. It looked like our call dropped. I was just wrapping my remarks. Let me just say that our focus for 2016 is very straight forward, deleveraging the balance sheet; conserving cash; and growing volumes. And with that I’ll turn the call over to Bob. Bob Vreeland Thank you, Andrew and good afternoon to everyone. Overall we had a good fourth quarter with 8% volume growth from a year ago and positive adjusted EBITDA. As Andrew mentioned, annual volumes grew by 43 million gallons or 16.4%. We’ve seen growth in all of our sectors including refuse, transit, trucking and industrial. On our renewable natural gas, we saw decline compared to 2014 due to the sale of our Dallas biomethane plant at the end of 2014. Our revenues for the fourth quarter of 2015 and for the year were less than the same periods in 2014, which is consistent with what we have seen during the first three quarters of 2015. However, it’s important to note that we have improved our adjusted EBITDA in 2015, despite the lower revenue, in part as a result of lower commodity costs, improved operating results at our compression business, lower SG&A spending, together with gross profit margin benefits from our volume growth. Our gross profit margin per gasoline gallon equivalent for the fourth quarter including our low carbon fuel standards credits or LCFS credits was $0.28 per gallon, which compares to $0.28 per gallon in the fourth quarter of 2014. For clarification, we have included the LCFS credits in our volume related revenue and gross profit margin per gallon similar to how we include our RIN credits in our volume related revenue and margin per gallon, and will continue this approach on a go forward basis. While we have seen some pressure on fuel margins from this low oil and diesel price environment, the environmental credits or RINs in the LCFS have benefited our gross profit margin per gallon in 2015. This is testament to the fact that we have both economics associated with fuelling natural gas and additional economic benefits from the environmental attributes of our product offering. Clean Energy Compression Corp. also saw improvements in gross margin as we continue to move in to a standardized product offering. Our SG&A spending of $26.6 million in the fourth quarter of 2015 was 12% lower than a year ago and 4% lower than the third quarter. Throughout 2015, we took appropriate actions on SG&A spending, given the lower price environment and have seen a reduction each quarter. On a year-over-year basis, we have reduced SG&A by approximately $13 million or 10%. And compared to 2013, SG&A has been reduced 18% or $24 million while volumes have increased 44%. Also because we have been successful in sourcing LNG from 27 different locations across the U.S. and since we are closely monitoring and reducing our CapEx, we cancelled our $200 million credit facility with GE, which we put in place three years ago, specifically to finance the construction of two additional LNG plants. Since we never initiated construction of the LNG plants, this facility was undrawn. However, the cancellation of the credit facility meant we could cancel $4 million issued but on debts and warrants. This had the effect of the $54.9 million non-cash interest charge of Q4 and saved us around $1 million annually in cash from not having to pay standby commitment fees. Our adjusted EBITDA for fourth quarter of 2015 was $32.9 million compared to the $37.2 million in 2014, although from a comparability standpoint, 2014 included a $12 million gain from the sale of our Dallas biomethane plant. Our adjusted EBITDA has improved each quarter in 2015, crossing over the positive adjusted EBITDA in Q3 and again in Q4. We see this trend continuing into 2016. For the year, adjusted EBITDA was $27.8 million compared to $23.7 million in 2014. Keep in mind, 2014 included the $12 million gain. Regarding the alternative fuel tax credit what we refer to as VETC, we recorded $31 million of VETC revenue in December 2015, representing VETC for the full year of 2015. On a side note, we collected the $31 million last week. Going forward, in 2016, we will recognize VETC on a quarterly basis, since the tax credit is in effect through the end of 2016. As Andrew mentioned, we have reduced our convertible note debt by $92.5 million thus far in the first quarter of 2016. We utilized existing cash and established a $50 million line of credit, which has a significantly lower interest rate than the convertible debt and is collateralized by a portion of our short-term investments. With that operator, we’ll open the call for questions. Question-and-Answer Session Operator Thank you, gentlemen. At this time, will be conduction a question-and-answer session. [Operator Instructions] Our first question comes from the line of Rob Brown from Lake Street Capital Markets. Please proceed with your question. Rob Brown On your gallon volume growth, you had nice growth in 2015. What sort of you’re thinking on 2016, should you be able to get double-digit volume growth in 2016 as well? Andrew Littlefair Rob, we probably don’t typically quote a number on that going forward in giving guidance. But one of the strengths that we have is our recurring model. So, we’re seeing very good continuation of the strength of our refuse business and we’ve actually had some good wins in transit. And our transit customers continue to take transit buses. So, we’ll have increase in volume. I’m not going to go out on a limb right and give you exactly if it’s going to be double digits or not. But we have built in our budget a good volume growth. And I don’t know that it will hit — for years and years, we are in the 20% range, Rob, or down a little bit on last year, could be a little bit challenge compared to 2015. But I think it will be in that neighborhood because our existing customers continue to take more vehicles. Rob Brown And then, you talked about a new contract pipeline — sorry, new contraction pipeline being quite large. Can you talk sort of how many units or what industries they’re for, and maybe scope that a little bit? Andrew Littlefair We kind of have two buckets of contraction, some of our own account. And when you look at that CapEx, you have to take out — $25 million, you have take out a portion of that for some trailers that will happen at our Natural Gas Advantage subsidiary. The remainder or the majority of it’s for new stations. And those are for our account; those are station that we own. And you can figure, those stations range around $1.5 million apiece or so. Some of that money in that $25 million will go to open up our truck-stop stations, as we make some of those; we had some CNG to it and things like that. But the bulk of our construction, which should be on the par, I would say in terms of just building stations, if you think of that that way, we did, as I said in my remarks, 57 or so last year. We’ll be in that almost identical, if not up a few from that. Most of those stations will be for our customers and we sell those stations for those customers. And majority of that will be worked and we’ll do for our refuse customers. We really have seen our refuse customers across the board continue to add vehicles, add stations. As I mentioned in my prepared remarks, we kind of see the construction business ebb and flow, Republic is good example and so is Waste. But, Republic will build stations for Republic in one given year. The next year, they add another 10 or so percent of vehicles at those sites. And so, we will necessarily build more stations, will increase the size of those stations. And then the next year we typically add more stations and so goes. So, the majority of the stations that we’ll see in our construction business will go for refuse. And then we will have pretty good business this year on the transit side, some of which we announced yesterday. Rob Brown And then last question on your balance sheet. I think you said you paid down your — good chunk of your convert in the first quarter here. What’s sort of your plan? I guess it’s due in August. Do you plan to pay — kind of what’s the timing on that rest of that payment, and what’s your plan there? Andrew Littlefair What we said, Rob, is we would take care of it, before it’s due, right? We have several months. And so, it’s really a balance of using cash and stock. We would rather — to the extent, we are going to use stock, we’d like it to be at a higher price and because it therefore will be less dilutive to the Company and its shareholders. And so we will keep an eye on that. We are in very close communication, as you would imagine with those noteholders, having just sent them something $60 million. They understand what we are trying to do, as they are working with us, I think in a very cooperative fashion. And because there wasn’t really anything in those notes that would allow us to prepay. So, they are working with us. And we would like to use as much cash as possible. And so I would say, just watch us over the next several months, as we look to what the oil price does and other things. In the sort of in the summer here, we’ll begin to take care of, clean it all up. Operator Our next question comes from the line of Eric Stine from Craig Hallum. Please proceed with your question. Eric Stine Maybe just [ph] an overall market picture, I mean clearly the people on the fence are probably not doing a whole lot. But just curious, are you seeing any changes to the plans as some of the first movers, any changes in behavior from the shippers due to low oil prices? Andrew Littlefair Eric, you have it exactly the way I talk about it. I mean if you kind of break our business down and you have those customers that have been with us a long time, and I don’t see that there is — has any — hasn’t been really any chink in the armor. Those refuse customers, I mean there hasn’t been a one that has — that decided to go back to diesel. And really that’s been the case even in our over-the-road trucking customers. UPS is continuing to move forward on big deployment of natural gas trucks. But certainly, our transit customers and our refuse guys are moving forward. And I really feel like the economics are still there. We have to remind for the people on the call, let’s remember, we still have an economic proposition, not as good as it was a year ago. But we are still saving versus the other fuel. And Eric, the other I think important point is with all of this going on, with the climate change and talks in Paris, and what you see all the time is sustainability is and continues to be really important thing that these consumer companies, what we call the shippers, they are very mindful of that. And the new rule’s being talked about in California going forward, starting the next couple of years. The introduction of low NOx engines has really kind of raised the bar in terms of NOx emissions. And so, look, this isn’t lost. I spoke to the executive leadership of the American Trucking Association out here in California a month ago, and they are very mindful of fact that the bar continues to be raised in terms of them being cleaner and less carbon. So, right now, while we’re a little pressed on the economics, the payouts gone from maybe at $1 — maybe one year payback little longer to — now it’s closer to two years, we still have an economic offering. And our shipper friends are still putting pressure on our contracted carriers to look for the cleanest option. And so, you’re right. Those that were on the fence this — $1.60 diesel in the Southeast, this has been very challenging, and I understand why they continue to watch. And those people that have been invested continue to move forward with the program. Eric Stine And maybe just sticking with the emissions angle, there’s been a lot of chatter lately about pairing Redeem with the low NOx 8.9-liter that I believe is coming out next month. Just curious, I mean are there any fleet opportunities you see out there that are weighting on that engine? And then maybe any government programs whether it’s Prop 1B funding or others that fit into that? Andrew Littlefair It’s a good point, Eric. I think we really have captured fuels. In fact there was a conference, industry conference, pretty well attended out here at Long Beach couple of weeks ago where it was called game changer, and it was the introduction of this low NOx engine. And remember this engine is 90% less NOx and you compare it — I mean sorry you combine it with our Redeem product and you’re 90% less carbon. That’s really powerful. In my remarks, I said it’s even — it’s cleaner than electric vehicle. And it’s substantially cleaner than anything that’s on the books right now. So, we see that as very important thing in the future. It won’t come to the 12-liter for another couple of years in 2018. You are exactly right, that engine is now — if you are ready to order one of those engines, you go to the OEMs and that process is kind of in the works, as we speak. I think you are going to see some efforts to put these engines with that fuel in the port of LA as they continue to work on cleaning up the environment down there. There’s talk of new standards in California where a portion of renewable natural gas will be required, going forward. So, yes, I really think that for natural gas the renewable fuel is going to be an important piece, as well as this engine. I’m excited about it because it really ups the game, ups the ante for all the other competing alternative fuels. I mean the electrics can’t there on heavy duty on cost basis, and other fuels are just really miles behind. So, when we get a little help on the oil price, you’re going to be able to see really powerful economics again and this environmental advantage with the low NOx and with the low carbon fuel. Eric Stine Maybe just last one from me, just on the SG&A, just any thoughts on additional levers there; good to see that come down again, just wondering how we should think about that trending in 2016? Bob Vreeland Hi, Eric; it’s Bob. Trending, there’s room there. I don’t know that it’ll reduce every single quarter but there’s more room to — that that will trend a little bit down, probably for the whole year. Andrew Littlefair We’ve made additional trim, additional reduction. Keep in mind, we’re growing. And so there’s a limit here. I mean, as Bob mentioned for the last couple of years, we’ve grown 40% on volume or so and we’ve reduced our SG&A by 18% or whatever it is. And we’re continuing to cut this year. We’re beginning to get to the point where it’s — we’re getting kind of close to I think being at about the right level on the SG&A spending. So, I guess if you look at it going forward, if you’re doing some modeling, you’re beginning to get it about I think where you could kind of level it off, at this level. We may see it come down a little bit more. Bob Vreeland Right. And that’s just because some of the actions that we’ve taken. You haven’t seen a full year in ‘15, and so it’s not so much about taking more actions, it’s about kind of feeling the effects of what we’ve already done for a full year. But that ends up being a little bit less than say, if you were to go in and start taking some other actions. Operator Our next question comes from the line of Ian Scime with Highbridge Capital. Please proceed with your question. Ian Scime This is really just a housekeeping item. So, first off, we’re really encouraged to see the proactive measures that you guys are taking to address the balance sheet. So just a quick question on VETC. Additional $31 million that you guys got came in after quarter-end, correct? So, if I think about your pro forma cash before the debt repurchases, it’s actually closer to $180 million. Is that correct? Bob Vreeland Yes, we received that here in the last week. Ian Scime And then going forward, it’s on a quarterly basis, correct? Bob Vreeland Yes. And there is a filing piece. So, we’ll recognize it in our numbers for sure. The collection then is a little bit depending upon the U.S. government. Operator Our next question comes from the line of Pavel Molchanov from Raymond James. Please proceed with your question. Pavel Molchanov First, kind of a small housekeeping follow-up on the previous question. What was operating cash flow in Q4? It was still negative because you hadn’t collected the VETC, is that right? Bob Vreeland Yes. It was about negative 11 in Q4. Pavel Molchanov Okay, got it. Bob Vreeland So, because we were year-to-date about negative 1, and we ended 2015 at negative 12. Pavel Molchanov Okay, perfect. And then little more broadly. So, you guys have had some PR about supplying LNG fuel ships on the West Coast. There was a deal signed couple of weeks ago between Shell and Maersk to develop the LNG marine fuel market. Is that still kind of an early stage opportunity or are you actually seeing some more substance to that addressable market? Andrew Littlefair I think it’s still early. But, as I think you pointed out, it seems to continue to — we keep seeing twins pop up here and there. I think there has been a few other ship announcements on both coasts. It seems like there is a trend there but it’s slow, right? You’ve got to repower these ships, it takes time and drydock and these engines, it seems to me slow. So, I don’t think you are going to see it hockey stick here but it seems like there is more happening all the time on that front. Pavel Molchanov Okay. Is there any hope for LNG volumes because it seems like they’re on a continual downward trend for you guys? Bob Vreeland They’re a little flat, yes. but — and I would say there is hope. Yes, absolutely because… Andrew Littlefair Yes, I think so. I think you are going to see — our view is that as the adoption rate picks up — I mean it’s going to be essentially flat I think on the heavy duty trucking side. We saw — LNG was flat mainly, the trucking increased actually but it was flat because of the oil patch and where we’re selling LNG and the oil patch. So, last year that part of the business, the stationary part was down. I think that over a longer period of time, and leaving the oil patch aside and have small plants and some other things that we’ve done is that we still believe, and I know you and I have disagreed over time on this but we see that the LNG will be viable in the regular part of the business. It’s been successful. Our Raven friends who have just added more trucks here that we’ve released yesterday and we have some other customers that are doing the same. So, I think as we kind of get by this environment where it’s been relatively flat, where you see the CNG versus LNG split got 70-30 or so, I still think there is plenty of room for the LNG. So, I think and over time, as this spreads and goes into more fleets, gets a little deeper into the country and it becomes the more sleeper cast, [ph] more a regular route, you will see LNG take a good care of that market because of the advantages that it has range and weight and another things. Operator There are no further questions at this time. I’d like to turn the conference back over to Andrew Littlefair for any closing comments. Andrew Littlefair Good. Thank you, operator. And thank you all for dialing in this afternoon. We look forward to updating you all on our progress next quarter. Bye-bye. Thank you. Operator Ladies and gentlemen, this does conclude today’s teleconference. Thank you for your time and participation. You may disconnect your lines at this time. 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‘We Front-Loaded An Enormous Stock Market Rally’

Richard W. Fisher served as the President of the Federal Reserve Bank of Dallas for more than a decade (2005-2015). His appearance on CNBC this week offered remarkable insight into why voting members on the Federal Reserve Open Market Committee (FOMC) embraced zero percent rate policy as well as quantitative easing (QE) for so many years. One of the most controversial statements? Fisher candidly admitted, “What the Fed did, and I was part of it, was front-loaded an enormous market rally in order to create a wealth effect.” He did not say that the Fed sought to achieve maximum employment. He did not bring up inflation targeting or stable prices either. Rather, one of the world’s most influential people in any room acknowledged that the Fed wanted to push stocks higher to make participants feel wealthier. How was this wealth effect supposed to benefit workers? Or promote stable rates of inflation? Presumably, when people feel wealthy, they spend more. When they spend more, corporations see more revenue from the goods and services that they provide. When companies achieve better top-line and bottom-line results, executives express greater confidence by adding new employees. When an increasing number of workers find jobs, unemployment falls to lower and lower levels until, eventually, maximum employment spurs wage growth and desirable levels of inflation. That was the plan. However, there have been several problems with the Fed’s wealth effect ambitions. For one thing, keeping borrowing costs so low for so long primarily benefited those who were already in decent shape. Wealthier folks have super-sized stakes in the stock market and were able to increase the value of their portfolios substantially; less wealthy folks have seen erosion in real (inflation-adjusted) household income – money that most live month-to-month on. Those in the highest marginal tax brackets were able to add to their real estate holdings. In contrast, very few families in the middle or lower-middle class had the resources to acquire short sales or foreclosures. Another problem with the Fed’s wealth effect agenda? Corporations leveraged themselves to the hilt. Borrowing money on the “ultra-cheap” allowed them to buy back copious amounts of stock shares. That helped shareholders of those stocks, but it did not bring back labor participation rates to pre-recession levels. The all-important 25-54 year-old demographic is still hemorrhaging workers. Corporations never really went on the anticipated hiring binge. Instead, they went on a seven-year stock buying spree with the Fed’s easy money. Total debt levels have doubled since 2007. And while the average interest rate paid on corporate debt has declined, interest expense has risen dramatically. Do we even want to ruminate about what will happen if the Fed pushes borrowing costs up appreciably in 2016 and 2017? As it stands, corporations already need to allocate significantly more net income toward servicing the interest on existing loans. So Richard Fisher acknowledged what many people believed all along. Specifically, the Fed’s primary goal since the banking crisis in 2008 has been to push stock and real estate markets to new heights. In doing so, they hoped that the wealth effect would indirectly achieve its dual mandate of stable prices and maximum employment. Of course, when you front-load an enormous stock market rally, won’t stock prices reach exorbitant valuation levels? Is there a painful period of reckoning on the back side? Did anyone at the Fed consider what history teaches us about overvalued stock markets and overvalued real estate markets? Mr. Fisher may not have given the questions much thought during his tenure his tenure on the FOMC. However, he revealed his current thinking to CNBC: These markets are heavily priced. They are trading at 19.5x earnings without having the top-line growth you would like to have. We are late in the cycle. These [markets] are richly priced. They are not cheap. I could see a significant downside. I could also see a flat market for quite some time, digesting that enormous return the Fed engineered for six years. Obviously, the former President of the Dallas Fed cannot predict market direction. Nobody can. And one might argue that a monetary policy wonk does not a valuation guru make. On the other hand, Fisher’s valuation concerns may have merit. For S&P 500 operating earnings of $106.4 (12/31/15) to reach current year-end estimates of $125.6, they would need to grow 18%. At $125.6 and the S&P 500 at 1950, the Forward P/E becomes 15.5. Yet analysts have been ratcheting down expectations from 10% earnings growth to 7.5%. (And in 2015, growth flat-lined entirely). If one generously accepts the wisdom of analysts at 7.5% operating earnings growth, and the S&P 500 at 1950, the Forward P/E on a year-end estimate of $114.4 becomes 17. The 35-year average Forward P/E is 13.2. That’s right. Even after January’s stock carnage that has seen the S&P 500 crater 100 points from 2043 to 1943, the stock market is still pricey. Reverting to the average Forward P/E would require operating earnings to reach $114.4 at year-end AND the S&P 500 to sink to roughly 1515. That would be in line with a typical bear market descent of 28.9% from the peak (2130). Valuation concerns notwithstanding, there’s little doubt that the Fed did indeed front-load an enormous market rally. Here’s how easy it is to tell. Take a peek at how the Vanguard Total Market ETF (NYSEARCA: VTI ) fared as it relates to the Fed’s acquisition of bond assets with electronic dollar credits (a.k.a. “QE”). Specifically, in mid-December of 2012, the U.S. Federal Reserve upped its QE3 program to $85 billion per month in the acquisition of U.S. treasuries and mortgage-backed securities. The program began winding down in 2014 during the “Great Taper,” though the final day of the last asset purchase actually occurred in mid-December of 2014. The 2-year performance for VTI? Approximately 52%. Now visualize what transpired when the Fed officially removed its QE3 stimulus. Through 1/7/16, there has been a whole lot of risk and volatility. There hasn’t been a whole lot of reward. Surprising? Not particularly. In fact, “risk-off” treasury bonds via the iShares 7-10 Year Treasury Bond ETF (NYSEARCA: IEF ) have outperformed “risk-on”stocks since the end of the Fed’s QE. Disclosure: Gary Gordon, MS, CFP is the president of Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC. 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PNM Resources’ (PNM) CEO Pat Vincent-Collawn on 2016 Earnings Guidance Conference – Call Transcript

PNM Resources Inc. (NYSE: PNM ) 2016 Earnings Guidance Conference Call December 18, 2015 11:00 AM ET Executives Jimmie Blotter – Director-Investor Relations Pat Vincent-Collawn – Chairman, President and Chief Executive Officer Chuck Eldred – Executive Vice President and Chief Financial Officer Analysts Brian Russo – Ladenburg Thalmann Anthony Crowdell – Jefferies Leon Dubov – Luminus Management Tim Winter – Gabelli & Company Operator Good morning, and welcome to the PNM Resources 2016 Earnings Guidance Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Jimmie Blotter, Director of Investor Relations. Please go ahead. Jimmie Blotter Thank you, Laura and thank you everyone for joining us this morning for the PNM Resources 2016 earnings guidance conference call. Please note that the presentation for this conference call and other supporting documents are available on our website at pnmresources.com. Joining me today are PNM Resources Chairman, President and CEO, Pat Vincent-Collawn and Chuck Eldred, our Executive Vice President and Chief Financial Officer. As well as several other members of our Executive Management team. Before I turn the call over to Pat, I need to remind you that some of the information provided this morning should be considered forward-looking statements, pursuant to the Private Securities Litigation Reform Act of 1995. We caution you that all of the forward looking statements are based upon current expectations and estimates and that PNM Resources assumes no obligation to update this information. For a detailed discussion of factors affecting PNM Resources results. Please refer to our current and future Annual reports on Form 10-K, Quarterly Reports on Form 10-Q, as well as reports on Form 8-K filed with the SEC. With that, I will turn the call over to Pat. Pat Vincent-Collawn Thank you, Jimmie and good morning, everyone. I hope you all are having a wonderful holiday season. As we approach the end of this very busy and successful year, it’s time to look ahead and provide our earnings guidance for 2016. But first I would like to talk about our most recent and very important news, the New Mexico Public Regulation Commission approval of BART that we’ve received earlier this week. Let’s start on Slide four. I’m very pleased to say that on December 16, the PRC formally approved our plans for the San Juan generating station. This ruling comes almost exactly two years after our initial filing with the commission. We knew that this plan was the best for our customers, for the company, for the state as a whole and the environment. It also paves the way for New Mexico’s compliance with the Clean Power Plan. Now we can move forward with implementation. I would like to congratulate and say the PNM team that has worked tirelessly on BART. This has been a long and challenging process and I am proud of the people, who are responsible for bringing it to a successful conclusion. I would also like to acknowledge and thank the other folks that have been involved including Governor Martinez and her office, various community and business groups. The Navajo Nation, the EPA and many of our interveners who have involved – have been involved extensively for years now. BART has been an all consuming task for many people for quite sometime and I am thankful to see the Commission support, the settlement agreement that we presented to them. We will now move forward with plans to retire Units 2 and 3 at the end of 2017. And we will replace the power with the mix of resources we’ve proposed, which is an additional 132 megawatts from San Juan Unit 4, and additional 134 megawatts from Palo Verde Unit 3, 40 megawatts of solar for which construction is almost complete and a gas peaking plant to be built on the San Juan site. The New Mexico Commission approval was a critical milestone in completing this process. In addition, we need FERC approval on the 203 filing. And we have asked for that to be done before year end. The approval we need is at a staff level. So it does not need to be addressed by commissioners in an open meeting. Once all of the regulatory approvals are received the sale of the mine can be completed. And we will be able to enact the new coal contract and the ownership restructuring agreement for San Juan, which together brings significant savings for our customers. And finally the SNCR equipment has been installed on San Juan Unit 1 and 4 and is expected to be fully operational next month. We will recover the cost of the equipment in the rate case that is currently pending before the commission. That case also includes a previously approved 40 megawatts of solar replacement power. The remaining items related to the BART settlement will be included in the 2018 rate case, which we expect to file in December of 2016. I want to emphasize that the implementation of the BART plan combined with the significant investments we have already made position San Juan for continued operation into the future while meeting and in many cases exceeding environmental regulations. Emissions from BART will put the plant in compliance with the haze regulation and place New Mexico in good shape to comply with the Clean Power Plan. The environmental upgrades we have made between 2006 and 2009 and the installation of the BART result in significant reductions as several emission including a 78% reduction in NOx and 87% reduction in SO2 and 85% reduction in particular matter emissions. In addition the plant has a 99.5% removal efficiency for mercury. Balanced draft will assist the plant in complying with the National Ambient Air Quality Standards by eliminating fugitive emissions of NOx, SO2, mercury and other pollutants. Coal ash at San Juan is dry handled and returned to the former surface mine pit for reclamation. There are no wet coal ash storage ponds or pipes transporting coal ash. Regarding 316(b), San Juan uses the closed cycle cooling systems and is thus well situated to comply with the rule. EPA’s final stream effluent guidelines rule, that was issued earlier this year is expected to have minimum impact on San Juan since it is a zero discharge facility. So the bottom line, we know of no existing, or anticipated environmental regulations that would reduce the viability of our plants going forward. Let’s now move to Slide 5. Looking forward, we continue to focus our strategic financial goals of earning our authorized returns, maintaining investment grade credit ratings and providing above average industry earnings and dividend growth. We remain on track with our earnings growth call, you can see that our 2016 guidance range of $1.55 to $1.76 continues along our 7% to 9% growth trajectory. I’m pleased to say that TNMP is expected to continue to perform well driven by increased loads and recovery of our transmission investments. PNM had a challenging start to 2015 in the regulatory environment, but we’re back on track. The re-file rate case is proceeding as expected. Rate should be effect in the third quarter of 2016. From a customer perspective, when you net the fuel and other savings against the rate request, the overall impact to customer bills is only 5.4%. Over the last few years, we have implemented companywide efforts to strengthen relationship with customers and to improve their experiences with PNM. Despite the challenges we continue to face, we have achieved company record high levels of customer satisfaction. Another regulatory challenge this year was related to the definition of the future test year. Now that the commission has modified its interpretation of the future test to a definition to make it consistent with the statue, there is no longer a need to continue the appeal we filed in the state Supreme Court. We will be taking step to conclude that matter in the next month or so. And obviously, the PRC approval of BART lays the ground work for our 2018 rate case. If you turn to Slide 6, will give you an update on the dividend. As you saw last week, the Board increased the annual dividend by 10%. This makes the annualized dividend $0.88. We continue to target our 50% to 60% payout ratio. The Board will continue to review the dividend each year, and in the near-term we expect continued above average increases. Once we are through our heightened CapEx period, the Board may consider increasing the 50% to 60% payout ratio to bring it more inline with the industry. Now, I’ll turn it over to Chuck Eldred, our Chief Financial Officer for a closer look at the numbers. Chuck Eldred Thank you, Pat and good morning everyone. 2016 will be a transitional year for the Company. We have much for the uncertainty behind us now with the PRC approval of the BART plan, and going forward our regulatory filings at PNM should be focused on recovery of the investments that are required to prudently run our business. At TNMP, we continue to see low growth, and we’ll continue to make prudent investments to support the reliability of that business. Now let’s go to the details of 2016 guidance beginning on Slide 8. On this Slide, we compare the previously issued 2016 earnings potential to the 2016 guidance we’re issuing today. As you can see the ranges between earnings potential and guidance are similar. But there are adjustments to the individual items as you move away from the rate base math that the earnings potential is based on. Beginning with PNM retail, 2016 guidance is at $1.08 to $1.24. This is a slight adjustment to the earnings potential view. The expectations shown here reflects the full ask and varies depending on the implementation date between July 1 and October 1. I’ll provide you with some information to help you make your own assumptions on the rate case in a moment. In addition to the rate case, PNM retail will also be affected by other drivers. For example, regulatory lag for the first portion of the year and load, which we continue to forecast conservatively. Next is renewables at $0.06. This is inline with the earnings potential previously shared. Per transition earnings potential showed a range of $0.08 to $0.10, but we’re guiding this business to be $0.09 to $0.10. The tightened range is based on our forecast for 2016. However unit three is fully hedged for 2016 and we have updated the guidance for the prices we expect to see. Items not in rates is expected to be inline with the midpoint of 2015 at $0.03 to $0.04. This brings total PNM to $1.12 to $1.30. Santa Fe continues to be an example of what the differences between our earnings potential and guidance. Santa Fe is expected to continue to have key cost filings and strong load growth. Therefore guidance is $0.49 to $0.51, which is above their earnings potential, but slightly lower than the 2015 midpoint. Corporate and other is also a little higher than the earnings potential that we have discussed with benefits in 2016 provided by the retirement of the 9.25% debt in 2015 and the restructuring agreement in the San Juan. That brings the total range of 2016 to $1.55 to $1.76. Once we have the rate case finalized, we’ll be able to provide an updated guidance range for you. Now turning to Slide 9, we continue to see positive movement in Albuquerque’s employment growth, outpacing the state in New Mexico and getting closer to the U.S. rate. We also continue to forecast customer growth at PNM at 0.5%. We’re forecasting low growth at a range of flat to down 2%, while we see signs of the economy continues to stabilize, we do not see enough growth to counterbalance the effects of energy efficiency. Now turning to Slide 10, I walk through the assumptions related to PNM’s general rate case in 2016. As you remember, we filed for $123.5 million increase based on a 10.5% ROE. Implementation of this full request on July 1 would increase PNM’s EPS by $0.40. A 25 basis points difference in the ROE would impact EPS by $0.04 on an annualized basis. Implementation of full request after July 1st would also reduce the amount in 2016. There you can see some sensitivities around the effect of delays in the rate implementation would have on our 2016 EPS. As a reminder, key dates upcoming for the rate case includes staff and intervener testimony due at the end of January, rebuttal testimony due in February, and hearings in March. It’s our objective to stay on the current schedule with this case. Now turning to Slide 11, it reflects the rest of PNM’s assumption for 2016 compared to 2015. The purchase of the 64 megawatts of Palo Verde Unit 2 leases in January were increased earnings by $0.12. This represents a full year impact of the eliminated O&M costs for the actual lease expense, partially offset by increased depreciation and interest expense tied to the purchase. Weather has lowered PNM EPS in 2015 by $0.03 through the third quarter. So we’d assume an increase to get us back to normal weather for 2016. O&M cost associated with the outages should be lower in 2016 by up to $0.02 as we’ve gotten through some major outages at San Juan for the installation of the SNCRs. The outage schedule is in the appendix. Palo Verde Unit 3 earnings are expected to come in $0.12 lower than 2015 as market prices continue to be depressed. These sales are fully hedged for 2016 at an average around the clock price at $26 per megawatt hour. Since Palo Verde 3 will serve the New Mexico retail customers beginning in 2018, we’re not able to sell that power for this asset under the long-term contract, so we’ll be able to – we’ll be exposed to the lower price levels in the meantime. As I mentioned earlier, we have projected low growth at the range of flat to down $0.02 with each percentage point equals a $0.05 of earnings. Also reducing earnings in 2016 is lower AFUDC as our capital spending level comes down from 2015 peak that was in our capital plan. In addition to the 2016 total capital being lowered, $164 million is for the Palo Verde 2 lease purchase. This capital will not earn AFUDC as the asset is already constructed. Depreciation and property tax are expected to increase $0.04 to $0.06 as a result of the capital that is placed into service. Interest expense should be higher in 2016 due to the $250 million of long-term debt that we issued in August of this year. On the third quarter earnings call, I talked about how the FERC Generation and Navopache contract will begin to face out in 2016, reduced in earnings by $0.03 that you can see here. Also you’ll remember that we saw a pickup in 2015 of $0.03 related to the one-time El Paso Natural Gas FERC tariff refund. This will not occur in 2016. Finally, revenue from our renewable rate rider is expected to decline in 2016 as our renewable rate base deprecates. You’ll remember that we added 40 megawatts of solar in 2015, but we have included this in our general rate case and it’s not part of the rider. One item that is typically a driver for us that you do not see on this list that the impact of the Palo Verde Nuclear Decommissioning Trust gains. That’s because the gains are expected to be similar to 2015. As we continue to position the Unit 3 portion of the trust for addition to retail rate base in 2016, you can find an assumption on this item as well as our usual breakdown of quarterly EPS for the company in the appendix. Now let’s turn to TNMP beginning on Slide 12. We continue to see strong growth within this business segment. While employment growth in Houston has decreased from a year-ago, it continues to be positive measure and Dallas continues to outpace the State of Texas in the United States. Keep in mind, the Dallas area accounts for nearly 40% of TNMP’s revenues, while the Houston area accounts for approximately 50% and West Texas makes up less than 10%. I want to note that the West Texas portion of the TNMP’s territory is the Permian Basin. Although the area has been more exposed to oil prices and drilling is down, their production is up. And as a result, we have not seen a reduction in our load. TNMP residential customer growth is forecasted at 1% again for 2016, and overall load is also again projected to increase between 2% and 3%. Now let’s turn to TNMP’s full earnings guidance and drivers on Slide 13. Once again we expect to implement two TCOS increases during the year. We expect to make those filings in January and July with implementation in March and September respectively, adding $0.03 to $0.04 to EPS. We are projecting the load increase of 2% to 3%, which increases earnings by $0.01 per each percentage point. We expect to see O&M to be flat to an increase, this results in drivers that are zero to negative $0.02. We continue to make capital investments to support the growth in our service territory, which leads to increase depreciation of property taxes that we’ve forecasted at $0.02 to $0.03. A portion of these cost related to transition assets which is about 40% of capital are recovered through TCOS filings. Interest expense also rises in 2016, this is in fact of issuing the long-term debt. Next let’s review some of the changes we’re seeing in the corporate and other segment on Slide 14. Well, I know that you’re all familiar with a retirement of our 9.25% debt in 2015, and the associated increase in short-term debt levels. I also want to remind you that San Juan restructuring agreement is expected to go and effect in January 2016, and if the demand charges paid to PNM Resources from the existing parties related to the additional 65 megawatts at Unit 4 is part of corporate and other segment, until it is moved to PNM which will likely occur at the end of 2017. This will result in $0.01 improvement to earnings in 2016. Therefore in total, we expect the corporate and other segment to improve slightly over 2015. So now let’s review some detail on how we’re investing at the business and what that means for earnings beyond 2016. So wrapping up on Slide 15, you can see the earnings potential for each of the remaining years for 2019, our view is consistent with our earnings target of 7% to 9% growth for that time period, and it’s consistent with the numbers that we have seen before. We continue to execute on our current plan to maximize the earnings potential that we can realize in our business by focusing on regulatory outcomes and earning our authorized returns. Now I’ll turn it back over to Pat. Thank you. Pat Vincent-Collawn Thanks, Chuck. We’re focused on execution, we’ve remain committed to achieving constructive regulatory outcomes, maintaining operational excellence, improving customer satisfaction, and running the business efficiently. We’re now happy to take questions. Question-and-Answer Session Operator Thank you. [Operator Instructions] And our next question will come from Brian Russo of Ladenburg Thalmann. Brian Russo Hi, good morning. Pat Vincent-Collawn Good morning, Brian. Chuck Eldred Good morning, Brian. Brian Russo Just Chuck to clarify on PV3 is it completely unhedged in 2017? Chuck Eldred Yes, we – it’s not hedged in 2017 at this point. We typically try to hedge in our rolling 12 month basis and obviously with prices as low as they are. We would like to think that there would be some anticipation or some improvement in 2017, but it’s just too hard to predict. So we’re really on the downside of the lower gas prices and hedging that asset and – but it’s fully hedged in 2016. And that as a result of the lower prices that we’re able to hedge in 2016 resulting into the $0.12 hit… Brian Russo Got it, understood. And then how does the sales assumption in the current rate case of PNM electric compare with your flat to negative 2% outlook assumption for 2016? Pat Vincent-Collawn I’m sorry Brian, would you give us the question again. Brian Russo Yes, just the sales assumption in current rate case filing. How does that compare with your actual outlook for 2016? Chuck Eldred Brian, it’s really – the final would be more flat to what we expect over 2015, but again we’re going to be conservative because we just don’t see enough consistency in the trends to give us comfort to think it would be any better than that and we’re going to continue to be a little more pessimistic on the – thinking about the downside effect of that on a continuous basis. And then address that, and there’s a rate case it’s pending right now. Brian Russo Okay, great. Thank you. Pat Vincent-Collawn Thanks Brian. Operator And the next question comes from Anthony Crowdell of Jefferies. Anthony Crowdell Good morning. Chuck Eldred Good morning. Pat Vincent-Collawn Hi, good morning, Anthony. Anthony Crowdell Just one housekeeping question and something else I think you had said, when do you expect to file the 2018 general rate case? Pat Vincent-Collawn In December of 2016. Anthony Crowdell Got it, okay. And then – and I guess just lastly, if you look at 2015 your regulatory calendar was very busy we had future test years, BART we had settlements I guess people pull out everything else. It looks like things have maybe cleared or maybe a little easier in 2016. I guess my question is has all the emotion that went on in 2015 poisoned the well that when we look at the 2016 rate proceeding going on and then you’re going to file again in December of 2016 for the 2018 case, has all that emotion poisoned the well in the next couple of rate proceedings. Pat Vincent-Collawn I don’t think so Anthony I think that given the fact that we’ve remained constructive throughout the whole 2015 rate case and we’re willing to go back and work with the interveners. I think they’ve really appreciated that and I think the commission even said at the hearing that they appreciated everybody’s positive attitude and working towards the settlement obviously we had one party that did not join that settlement or a couple of parties that didn’t join that settlement. But I think everybody understands that we remain positive, we stay positive, that this was the most complicated case ever to be seen in New Mexico and now we’re kind of back to much more plain-vanilla rate cases. So I don’t think that, that anything got poisoned I think that the way the company and the employees handled itself was very good. Anthony Crowdell And just lastly, the BART proceeding, I think the BART was like – I believe 4 to 1 do you know the last time the commission unanimously approved something? Pat Vincent-Collawn Anthony, we have to get back to you on that for certain, there have been some smaller things the commission has unanimously approved in terms of some riders. I think they unanimously approved opening a workshop and something, so I don’t know off the top of my head, but we will get back to you. And when commissioners have voted against, there have actually been different commissioners voting differently, there was about yesterday for example, some of the folks wanted more time on the SPF rate case and the commissioner said no – it was 4 to 1 but it was commissioner Montoya voting against that as opposed to commissioner Espinoza who voted against the BART proceeding. So it’s been a different mix of commissioners voting, but… Chuck Eldred I think some of the smaller items… Pat Vincent-Collawn Yes. Chuck Eldred Solar at 40 megawatts the delta purchase, which we called the Rio Bravo generating station. There has been a lot of smaller projects throughout the proceedings over the last year that are included in the 2016 rate case that have been approved that have been supported by the commission. So, but, we can go back and give you some answers and details. Anthony Crowdell Thanks and… Pat Vincent-Collawn The future test year unchanged, Anthony when the commission decided to go with the definition that we and SPF had advocated that was unanimous. Anthony Crowdell Okay, great. Thanks for taking my question and enjoy the holidays. Pat Vincent-Collawn Thanks, Anthony, you too. Chuck Eldred Thank you. Operator [Operator Instructions] Our next question comes from Leon Dubov of Luminus Management. Leon Dubov Hi guys, good morning. Pat Vincent-Collawn Good morning, Leon. Chuck Eldred Good morning. Leon Dubov I just want to make sure I understand the assumptions for the rate case that you are having guidance. So if I look at the Slide 8 or the PNM Retail, $1.08 to $1.24, you said that includes the full implementation of – your full ask for the rate case? Chuck Eldred That’s a full ask use in the July 1 and the October 1, and then we’ve adjusted it for load in some of the regulatory lag to reflect that… Leon Dubov So again, this assumes full ask with… Chuck Eldred Full ask, yes… Leon Dubov Or the different implementation dates that’s what make the difference? Chuck Eldred That’s correct. Pat Vincent-Collawn Correct. Leon Dubov Okay. And then I can use that with the sensitivities you gave on the Slide 10, so effectively if we got in August first implementation date, it would be $0.08 off the top end, is that the right way to read that? Chuck Eldred That’s correct. Yes. Leon Dubov Okay. Got, it. Thank you, I just wanted to … Chuck Eldred And again I want to answer that. We are focusing very, very intently on the July 1 date. So the schedule we have out there is, our objective is not to – from our standpoint have any alteration to that timing. Leon Dubov Thank you. Pat Vincent-Collawn Thanks Leon. Operator And next we have a question from Tim Winter of Gabelli & Company. Tim Winter Good morning, and congratulations on getting all of this approved. The BART approval and the test year. Pat Vincent-Collawn Good morning, and thank you, Tim. Tim Winter You should see if Jimmy and Chuck, will let you take a vacation anytime soon. Pat Vincent-Collawn Actually I canceled my vacation to be here today Tim. So, but maybe next year they’ll let me have one. Tim Winter I was wondering if you could talk a little bit about the future test year procedures. Do you have, basically all the procedures and processes setting out to file for that or do you still need to do some more work with the commission? Pat Vincent-Collawn Well, we need to go ahead and take back the appeal at the Supreme Court and finalize that. But in terms of hours we practice this so we now have that in this rate case. That we have under right now, while it is not a future test year we worked through with the staff and interveners to make sure we had the models and the data in a way that they felt was complete. So between that and the fact that we’ve done it before and that SPS has done this before. We feel we’re in good shape to file the one in December of next year. Tim Winter Okay, great. Thank you. Pat Vincent-Collawn Jim, if I need some help getting a vacation next year. Can I call you? Tim Winter Absolutely. Pat Vincent-Collawn Great, thank you. Tim Winter Thanks for having the call. Pat Vincent-Collawn Thanks, Tim. Operator And this concludes our question-and-answer session. I would like to turn the conference back over to Pat Vincent-Collawn for any closing remarks. Pat Vincent-Collawn That’s okay. Thank you all for joining us. I know it’s a busy holiday season for everyone. We’ve had a good year here at PNM. Resources and again I just want to thank everybody at the company and the community and the Governor’s office at the Navajo Nation that worked with us to bring the BART plant to a fruition. I hope you all have a wonderful, safe and happy holiday season. I look forward to seeing you all in the New Year. Thank you. Operator The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect. Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) 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