El Paso Electric Company’s (EE) CEO Mary Kipp on Q4 2015 Results – Earnings Call Transcript
Operator Good day. And welcome to the El Paso Electric Company Fourth Quarter 2015 Earnings Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Lisa Budtke. Please go ahead. Lisa Budtke Thank you, Diana. Good morning, everyone. Thank you for joining the El Paso Electric Company fourth quarter 2015 earnings call. My name is Lisa Budtke, and I’m the Director of Treasurer Services and Investor Relations for El Paso Electric. On the call with us today are CEO, Mary Kipp; CFO, Nathan Hirschi; and other members of the senior management. You should have a copy of our press release and today’s presentation. And if you do not, you can obtain them from the website on our Investor Relations page. We currently anticipate that our 2015 Form 10-K will be filed with the Securities and Exchange Commission on or before Monday, February 29, 2016. A replay of today’s call will be available shortly after our call ends, and will run through March 9. The details as they relates to the replay are disclosed in our press release. On Slide 2 of our presentation you will see our Safe Harbor provisions. In summary, our earnings presentation, comments and answers to your questions may include statements that are not historical and that constitute forward looking statement. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the company’s actual results in future periods to differ materially from the expectations stated here. As the format of this presentation does not permit a full discussion of these risks, please refer to our Form 10-K and other SEC filings for a discussion of risk factors that should be considered. These filings may be obtained upon request from the Company, on our website or from the SEC. The Company cautions that the risk factors discussed in these filings are not exhaustive, and do not undertake to update any forward-looking statement that maybe made from time to time by or on behalf of the Company. At this time, I would like to turn the call over to Mary. Mary Kipp Good morning, everyone. On Slide 3 of the presentation I’ll briefly cover our financial performance in 2015. During the fourth quarter, we were able to record positive earnings of $0.02 per share despite the negative impact resulting from regulatory lag associated with the placement of new assets into service in the first quarter of 2015 without a corresponding increase in revenues. For the year, we reported net income of $81.9 million, or $2.03 per share which was right at the mid point of our guidance range issued during our third quarter earnings call. Also of note on January 28, 2016 the Board of Directors declared a quarterly cash dividend of $0.295 per share payable to shareholders on March 31, 2016. If you now turn to Slide 4 of the presentation, I’d like to point out some of the significant highlights that the company achieved in 2015. As I look back on all of the challenges we faced at 2015, I am extremely proud of the achievements made by the company during a very dynamic year. We began the year by completing construction of the first two generating units at the Montana Power Station. These first two units were completed on schedule and are currently providing enough energy to serve 80,000 homes in our growing service territory. We also completed construction of our new 100,000 square foot Eastside Operation Center in early 2015. The new operation center incorporates green design features which include energy efficiency and water conservation concepts. The operation center will also consolidate many of our El Paso warehousing, fleet, line crew and engineering personnel into one location, allowing us to improve the efficiency of operations, including outage response time. One of the biggest accomplishments in 2015 was the filing of rate cases in both Texas and New Mexico. The cases were necessary to seek recovery of approximately $1.3 billion that has been invested in new electric plant to meet customer growth and grid modernization since June 2009. I am also pleased with the progress of construction on the latest addition to our portfolio of local generation. Construction of Montana units 3 and 4 is on schedule on budget and is progressing well. In 2015, our consistently growing service territory and hotter than normal summer weather combined to create another native peak record of 1,794 megawatts achieved on August 6, 2015. This was the second native peak record achieved by the company during 2015. El Paso Electric has set a new native peak record in 10 out of the last 11 years. I am also pleased that Palo Verde had another stellar year in 2015 increasing its capacity factor to 94%. Palo Verde recorded its highest output ever in 2015 and once again ranks as the nation’s largest power producer for the 24th consecutive year. Also during 2015, the company was able to successfully implement a management transition strategy. Several key management positions were filled from within the company in 2015 which will leave the company well positioned for the future and will enable us to provide the safe and reliable service that our community has grown to know. Also in 2015, our employees’ commitment to excellence and our continued focus on our customers allowed us to maintain favorable customer satisfaction rating. I am also happy to see how the El Paso Electric family came together to benefit the local community last year. Our employees devoted their time and effort by volunteering almost 10,000 hours to our communities. At this time, I’d like to turn to Slide 5 where I will discuss the company’s 2016 objectives. Construction of Montana units 3 and 4 continues as planned. We expect unit 3 to be available for commercial operation in time for our summer peak and we anticipate that unit 4 will be placed into service by the end of this year, which are among our main objectives for 2016. Placing these two generating units into commercial operation by the end of the year is one of the main objectives for the company. Also in 2016, we anticipate further lowering our carbon footprint by becoming a coal free utility. We intend to sell our 7% ownership interest in Four Corners the Units 4 and 5 and associated common facilities to Arizona Public Service Company in July pending regulatory approval. This transaction will not only allow us to become a cleaner utility but it will help limit the company’s financial obligations relating to changing environmental regulations. Our 2016 objectives also include the negotiations of a new collective bargaining agreement with the International Brotherhood of Electrical Workers Local 960, which represent approximately 38% of our local workforce. The current agreement expires in September of this year. We look forward to working with our union to reach a new agreement that allows us to continue to provide our customers with a high level of service. The addition of affordable large scale solar projects to our generation mix has been an objective of the company for several years now. We currently receive over 5% of our total generating capacity from solar resources. As the cost of producing large scale solar continues to decrease, we’ll be exploring the possibilities for expanding this resource. In the near term, our integrated resource plan called for the addition of 8 megawatts of large scale solar to be added to our system by year end. Over the past several years El Paso Electric has consistently ranked near the top for grid reliability as complied by the Public Utility Commission of Texas. And we are confident we will continue on that trend in 2016. In addition, our customer care department has made it a priority to always try to improve upon the good results of recent customer satisfaction surveys. And additional objective that is very important to our company is to continue to improve communication and relationships with all our stakeholders. Last but not least the next round of rate cases will be primarily driven by the need to recover cost for Montana Units 3 and 4. These cases are currently anticipated to be filed in early 2017. If you will now turn to Slide 6, I’ll provide some details on our current rate case filings in Texas. In Texas, we initially filed for an increase in non-fuel base revenues of $71.5 million which was then revised to $63.3 million. The filing also included a requested return on equity of 10.1% and in equity ratio of 49.5%. On January 21, 2016, the company filed a joint motion to abate the procedural schedule for our Texas rate case filings. The joint motion was filed on behalf of the company, the city of El Paso, the Public Utility Commission of Texas Staff, the Office of Public Utility Council and the Texas Industrial Energy Consumers. The motion to abate the procedural schedule was filed in order to facilitate ongoing settlement talks. We continue to work towards a settlement with all parties and we will continue to file weekly updates with the PUCT regarding progress. We anticipate that the company will begin billing customers for the new rates during the second quarter of this year, but pursuant to legislative changes, we have the ability to surcharge customers for new rates relating back to consumption beginning on January 12, 2016. On Slide 7, I’ll provide a brief update of our New Mexico regulatory filing. In New Mexico, our original rate case filing requested a non-fuel base rate increase of $8.6 million, which we subsequently lowered to $6.4 million. Hearings on the merits of the general rate case took place in mid- November. Last week the hearing examiner recommended a $640,000 non-fuel base rate increase. Although we are not in agreement with all the items contained within the hearing examiner’s recommendation, we recognized that this is just another step in the process and look forward to making our case before the full New Mexico Commission. The commission currently is schedule to issue a final order by April 8, 2016 although this deadline maybe extended by the commission up to two months. All parties in the case will be filing exceptions to the hearing examiner’s recommendation in the coming weeks. After which there will be an opportunity for parties to respond to those exceptions. The primary reason for the difference between our request of $6.4 million and the hearing examiner’s recommendation of $640,000 is due to approximately $97.7 million for pension and other post employment benefit liabilities on a total company basis being included as a rate base offset. Another reason for the difference between our ask and the hearing examiner’s recommendation involves return on equity. We’ve requested an ROE of 9.95% and the hearing examiner’s recommended an ROE of 9.6%. These two items comprise a little over 1/2 the difference. Several smaller cost of service items make up the remaining difference. A critical component of the hearing examiner’s recommended decision is that substantially all of our plant in service was deemed reasonable and necessary. The treatment of our pension and other post employment benefit liability as a rate base offset is one of the items to which we will file an exception. Our attorneys and other members of the regulatory team are still evaluating the recommended decision and are identifying all items to which we will accept. We currently anticipate that a final order from the New Mexico Commission could be issued in the second quarter. Also along the regulatory front in New Mexico, we recently participated in hearing regarding the sale and abandonment of our 7% ownership in Units 4 and 5 and related facilities at the Four Corners plant. On February 2, the company filed an opposed joint stipulation reflecting a settlement agreement. We anticipate receiving a final order by the first half of this year. In December 2015, the Federal Energy Regulatory Commission authorized Arizona Public Service Company to purchase our ownership interest in Units 4 and 5 and common facilities of Four Corners. So we anticipate closing this transaction in July of 2016. If you will turn out to Slide 8, our potential timeline for the next round of rate cases has not changed. In New Mexico, the company anticipates filing a rate case in a first quarter of 2017 using an historic test year ended September 30, 2016. Although Montana Power Station unit 4 is not scheduled to be placed into service until December of 2016, precedent in New Mexico allows us to include in rate base plant addition completed within five months of the test year and date. A final order in new rates would then be anticipated to take effect during the first quarter of 2018. Looking at the Texas timeline, we also anticipate filing our rate case in the first quarter of 2017 using an historic test year ended September 30, 2016. Our timeline reflects a potential final order to be issued during the first quarter of 2017. However, due to legislative changes we have the ability to surcharge customers for new rate relating back to consumption beginning on the 155th day after the rate case is filed. This means the effective date for new rates could be applied as early as the third quarter of 2017 even if the schedule for the rate case were to be extended. I’d now like to turn the call over to Nathan who will discuss our financial results. Nathan Hirschi Thank you, Mary. Turning to Slide 9, we list the key earnings drivers for the fourth quarter and the year compared to the prior year. Beginning with the negative drivers for the quarter, earnings were lowered by $0.07 per share due to decreased AFUDC resulting from lower balance of the construction work in process. As we’ve discussed, this was primarily due to the placement of service of Montana Units 1 and 2 and the Eastside Operation Center in the first quarter of 2015. Placing these assets into service also contributed to increase depreciation expense resulting in a $0.03 per share reduction in earnings for the quarter. The impact of regulatory lag associated with placing these assets into service without a corresponding increase in revenue was expected and is the primary reason that we have filed the rating for rate increases in Texas and New Mexico. Increased administration and general expense also decreased earnings per share by $0.04 for the quarter and was primarily due to increased payroll cost and employee incentive compensation as well as increased payroll and benefits cost. Also during the quarter, interest accrued on $150 million senior notes issued in December 2014 negatively impact earnings by $0.02 per share. Earnings also declined during the quarter by $0.02 per share due to decrease deregulated Palo Verde Unit 3 revenues reflecting a decline in the price of natural gas when compared to the same period of last year. On the positive side, net income for the fourth quarter of 2015 compared to the same period last year was positively affected by a decrease in operation and maintenance expense related to our fossil fuel generating units. The decrease in expense was primarily due to decrease maintenance at the Four Corners and Newman plants. The lower level of O&M expense resulted in an increase in earnings of $0.06 per share. However, a planned outage at Four Corners was moved from the fourth quarter of 2015 to the first quarter of 2016. So we will have a corresponding increase in the first quarter. Retail non-fuel base revenues also increased during the fourth quarter primarily driven by an increase in number of customer in a residential customer class and slightly more favorable weather conditions. Non-fuel base revenues increased earnings by $0.02 per share when compared to the same period of 2014. As you can see on the same slide, many of the same drivers then impacted the fourth quarter earnings also serve as drivers for the year-to-date results of $2.03 per share. The earnings drivers that impacted the year-to-date results that were not already mentioned for the fourth quarter were investment and interest income and the Palo Verde performance rewards. Investment and interest income had a positive impact on earnings for the year due to gains resulting from the further diversification and rebalancing of our Palo Verde decommissioning trust portfolio, which increased earnings by $0.07 per share. Palo Verde performance rewards impacted the year negatively by $0.04 per share due to the performance rewards associated with the 2009 to 2012 performance periods being recorded in 2014 with no comparable amount in 2015. As these amounts are normally recorded upon the completion of our Texas fuel reconciliation filings. If you now turn to Slide 10, we have provided a chart to illustrate the weather conditions experienced in our service territory during the past 10 years. The chart includes a comparison of normal weather to the actual weather recorded in our service territory. As you can see heating degree days in 2015 were 10.3% higher than the same period last year but remain 3.6% below the 10 year average. In 2015, cooling degree days were 5.3% higher than the 10 year average and 6.3% higher than 2014, which helped to drive the increase in revenues from our residential customers and primarily impacted our third quarter results. Now turning to Slide 11, we’ve provided a comparative analysis of the changes in retail non-fuel base revenues and megawatt hour sales by customer class for the fourth quarter of 2015 compared to the same period of 2014. During the quarter, total retail non-fuel base revenues increased by $1.4 million pretax, or 1.2% over the same period in 2014. The increase was primarily due to a 2.6% increase in megawatt hour sales to the residential customer class which also recorded a 3% increase in non-fuel base revenues reflecting favorable weather and 1.4% increase in the average number of customer served. As we have provided the same analysis for the year on Slide 12. For the year total retail non-fuel base revenues increased by $14.3 million, pretax were 2.6% over the same period in 2014. Most of this was attributable to increase sales to the residential class, hotter than normal summer weather was largely responsible for the 5.1% increase in residential non-fuel base revenues when compared to the same period in 2014. Now turning to the Slide 13, our cash capital expenditures for 2015 for additions to electric utility plant were $281.5 million. In terms of cash dividends, we paid $47.1 million during the 12 months ended December 31, 2015. On December 31, 2015 we have liquidity of approximately $166 million including a cash balance of $8.1 million and borrowing capacity available to us on our credit facility. As we continue to make progress on our current construction program, we anticipate returning to the debt markets in the first half of 2016 to issue long-term debt. Now turning to Slide 14, I’d like to provide our five years projections of capital expenditures. On this chart you will see that we plan to spend $231 million on construction expenditures in 2016. Over the next five years, we currently anticipate spending approximately $1.1 billion to ensure that we have the generating capacity required to meet our customers’ growing demand for electricity. The projection also includes expanding and updating our transmission and distribution infrastructure. These amounts are subject to revision as we continue to adjust and revise our construction plans. Now turning to Slide 15, I would like to discuss everybody’s rate base projection based on our current construction plan. As Mary mentioned earlier, we anticipate Montana Units 3 and 4 to be placed in commercial operation by the end of 2016. After the completion of these two units, total rate base is expected to grow to approximately $2.1 billion. This amount is an approximation of our rate base at the time of our next rate case filings in 2017. Turning to Slide 16, I would like to wrap up today’s presentation with some comments regarding our 2016 earnings drivers. Once we get further down the road on our rate cases, we will provide specific guidance. For now, we will discuss some key earnings drivers for 2016. As you can see there are several factors that will negatively impact earnings in 2016. Most of the negative drivers are directly related to the regulatory lag which will especially impact the first quarter and in fact could result in negative earnings per share for the first quarter of 2016. The primary components of regulatory lag in 2016 are higher property taxes, lower AFUDC, increased O&M, depreciation expense and interest expense. Other items that are anticipated to negatively impact earnings include a higher effective tax rate, a return to normal weather conditions and a decrease in investment and interest income. The effective tax rate is anticipated to increase to approximately 36% for the next several years due to higher state income taxes and a reduction in the manufacturing credit due to bonus depreciation being extended through 2016. Earnings are anticipated to be positively impacted by rate increases in Texas and New Mexico as well as customer growth. Again just emphasize the point it is possible that we could have negative earnings per share in the first quarter of 2016. At this time, I’d like to turn the call back over to Lisa. Lisa Budtke Thanks, Nathan. Diana, please open the call for questions. Question-and-Answer Session Operator [Operator Instructions] We will go first to Brian Russo of Ladenburg Thalmann. Brian Russo Hi, good morning. Good, thanks. Can you quantify if any the impact to rate case from bonus depreciation? Nathan Hirschi Yes. The bonus depreciation will help us out — will give us about $30 million effect in 2016, and then over the next — until it expires in 2019 it will be about $65 million benefit. So a moderate benefit and it has been factored into that to the rate base charge that we showed on schedule on 15. Brian Russo Okay. So and I apologize but I didn’t — wasn’t — didn’t have time to compare slide 15 with your prior update but there have been some adjustments on that slide. Nathan Hirschi Some adjustments although it’s pretty consistent with what we’ve shown in the past. Brian Russo Okay. So I guess the $65 million is the cash flow benefit. Is there any rate base offset? Nathan Hirschi Yes. That it will both be a cash flow benefit and the rate base offset. But that’s at the end of the four year period. For 2016, it kind of have an offsetting effect, we think we will be in NOL position so it won’t really have that dramatic effect for 2016. It will — we will generate bonus depreciation that we didn’t initially anticipate. Some of that will be offset by some NOLs. So won’t have that dramatic effect. Brian Russo Okay. Understood. And then on the CapEx slide, it looks like there were some upward increases in the annual CapEx. Can you maybe talk about that? Nathan Hirschi Well, yes, it’s very comparable to what we saw last year actually. What we had was we had — what we had last year is relatively high year in 2015, that is $281 million that we expanded this year right. But we added a relatively high year in 2020 when we anticipate building the next two combined cycles. So we ended the year slightly below with the five year projection at $284 million– I am sorry $1.084 billion, which is slightly below what we had in the five year projection last year. But so that stays relatively consistent to what we had last year on a five year basis. Brian Russo Okay. And can you talk about whether normalized load growth in 2015 and kind of what your outlook is? Nathan Hirschi Yes. Well, obviously we had a very good year last year from a revenue perspective and from NOL that was obviously attributable to the very hot summer. If you remember we had — we had 106 days in a row what was over 90 degree. So we had a very nice summer and of the revenue growth we think about half of it was attributable to above average weather. So we think of course we saw solid customer growth which we continue to see at the 1.4% and that’s real positive. And so some of the growth was clearly related to customer growth and they are expanding service territory. And perhaps about $5 million about half of the — $5 million to $6 million about half the growth was revenue — was weather related. Brian Russo All right. And then just with the new legislation and taxes and your ability to capture the rate increase 155 days prior to when rates are effective. How does it kind of like flow through the income statement and it’s kind of like conceptually the margin impact from that. Nathan Hirschi Yes. That’s why the first quarter looks kind of challenging. Although at the day — when we ultimately when we settled the Texas rate case, we will be able to relate back to revenues to usage to January 12. But we won’t record that in the first quarter. We won’t — we don’t have the certainty of the amount of the rate increase or that until we have a final order. So when we have the final order which we anticipate would be likely in the — during the second quarter, that’s when we would pick up the revenue that would relate back and then would be built as a surcharge over perhaps an 18 months period to recover that. So that’s one of the reasons why we have a kind of challenging first quarter that revenue would not — we don’t feel comfortable recording that revenue until the second quarter assuming all the regulatory works out as we had hoped. Brian Russo Okay. So when new rates go into effect you will collect over an 18 months period conceptually rate effective starting in January of 2016. Nathan Hirschi Yes. That’s how we envision it working, yes. Operator Thank you. [Operator Instructions] We will go next to Ben Budish of Jefferies. Ben Budish Hey, good morning, guys. How are you doing? I have a quick question on the Mexico. It looks like with Texas it should be fairly easy to push those rates back to January, is there any kind of sensitivity to like the delay in implementation of rates if –get pushed back into June. Or any guidance on that? Nathan Hirschi Yes. I mean that is one of the issues. We had originally anticipated putting in new rates perhaps April 1 in New Mexico. And as the case continues it will be pushed back a little bit later in the year. We are not sure exactly how quickly it could move pretty — it could move relatively fast from here but it could delay further in the year. We think probably June 30 — June 1 is probably a reasonable day assumption. Mary Kipp And yes because so much of our revenue is dependent on second and third quarters. We are hopeful that we’ll have the new rate in time to take advantage of them during this quarter. Ben Budish Okay, great. And then I saw one of the — obviously the year-over-year drivers below AFUDC. In the release you had mentioned that it was due both to Montana 1 and 2 being put into service and reduction in the rate base, sorry AFUDC rate, is that reduction significant or is that only you are probably looking forward like when 3 and 4 going, I am thinking about the timing and comparing that to one to one end? Nathan Hirschi I am sorry the rate — Ben Budish AFUDC rate, yes. Nathan Hirschi Yes. Now the rate should be relatively constant from what we have now. We just have a more outstanding balance on our short — on our revolving credit facility which kind of drop cause the rate to go down a bit. So you’ll see the rate that we disclose in the 10-K coming up when we file that, that should be pretty close to the rate that we have going forward. Operator [Operator Instructions] And it appears we have no further questions. I’d like to turn the conference back over for additional or closing remarks. Lisa Budtke Thank you, Diana. I just want to thank everyone for joining us on today’s call. And please be safe. Operator Thank you for your participation. That does conclude today’s conference. 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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