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American Water Works’ (AWK) CEO Susan Story on Q3 2015 Results – Earnings Call Transcript

American Water Works Company, Inc. (NYSE: AWK ) Q3 2015 Results Earnings Conference Call November 05, 2015, 09:00 AM ET Executives Greg Panagos – VP, IR Susan Story – President and CEO Walter Lynch – COO, President, Regulated Operations Linda Solomon – SVP, CFO Analysts Ryan Connors – Boenning & Scattergood Richard Verdi – Ladenburg Thalmann Michael Gaugler – Janney Montgomery Scott David Paz – Wolfe Research Operator Good morning and welcome to the American Water’s Third Quarter 2015 Earnings Conference Call. As a reminder, this call is being recorded and is also being webcast with an accompanying slide presentation through the Company’s Investor Relations Website. Following the earnings conference call, an audio archive of the call will be available through November 12, 2015, by dialing 412-317-0088 for U.S. and international callers. The access code for replay is 10074632. The online archive of the webcast will be available through December 7, 2015, by accessing the Investor Relations page of the Company’s website located at www.amwater.com. I would now like to introduce your host for today’s call, Greg Panagos, Vice President of Investor Relations. Mr. Panagos, you may begin. Greg Panagos Thank you, Frank and good morning, everyone. Thank you for joining us for today’s call. We’ll do our best to keep the call to about an hour. At the end of our prepared remarks, we’ll open the call up for your questions. As Gary said, my name is Greg Panagos, and I’m the new Vice President of Investor Relations for American Water. Before I read you our forward-looking statements, I would just like to say I’m happy to be here and excited about the opportunity with American Water. Before I read you our forward-looking statement I’d like to say I’m happy to be here and excited about the opportunity with American Water. During the course of this conference call, both in our prepared remarks and in answer to your questions, we may make statements related to future performance. Our statements represent reasonable estimates and assumptions. However, these statements deal with future events. They are subject to numerous risks, uncertainties and other factors that may cause the actual performance of American Water to be materially different from the performance indicated or implied by such statements. These matters are set forth in the company’s Form 10-K and in its other periodic SEC filings. I encourage you to read our Form 10-Q for this quarter, which is on file with the SEC for a more detailed analysis of our financials. Also reconciliation tables for non-GAAP financial information discussed on this conference call can be found in the appendix of the slide deck for the call, which is located at the Investor Relations page of the Company website. We’ll be happy to answer any questions or provide further clarification if needed during our question-and-answer session. All statements in this call related to earnings and earnings per share refer to diluted earnings and earnings per share from continuing operations. And now I would like to turn the call over to American Waters’ President and CEO, Susan Story. Susan Story Thanks, Greg. Good morning, everyone and thanks for joining us. With me today are Linda Sullivan, our CFO, who will go over the third quarter financial results and Walter Lynch, our COO and President of Regulated Operations, who will give key updates on our regulated business. Turning to Slide 5, we reported earnings of $0.96 per share for the third quarter, a 10.3% increase above the third quarter of 2014. Excluding the 2014 cost impact of the Freedom Industries’ chemical spill, third quarter year-to-date adjusted earnings increased 9.4% compared to the same period in 2014. Our employees continue to deliver strong operational and financial results reflected in our ongoing investment in our infrastructure, our improved operational efficiencies and the expansion of customers in our regulated and market based businesses. These results continue our progress toward achieving our long-term growth goal of 7% to 10% EPS through 2019. Based on our performance today, we’re narrowing our earnings guidance range to $2.60 to $2.65 per share. Slide 6 highlights the progress we’re making on our strategies across our businesses. We invested $970 million in capital year-to-date through September. The majority of this investment is in our regulated business, which is the core and foundation of our growth. These investments are mainly for infrastructure to continue providing safe, clean and reliable water services for our customers. Walter will talk further about our ongoing O&M efficiency efforts, which allow us to mitigate build increases to our customers despite this critically needed capital investment. In addition, we continue to invest in regulated acquisitions. Year-to-date, we closed seven acquisitions totaling or adding about 19,200 customers and we have 16 pending acquisitions, which when approved and closed will give us the opportunity to serve an additional 13,300 customers in several of our jurisdictions. We closed the Keystone Clearwater Solutions acquisition in the third quarter. Keystone, while a separate subsidiary is being reported as part of market-based businesses. Last month we were very pleased to be awarded a contract to serve the military community at Vandenberg Air Force Base in California. We now serve 12 military installations across the country. We consider it an honor to provide our service men and women and their families with reliable high quality water and wastewater services for the next five decades and beyond. Our Homeowner Services business continues to grow as well. Within the past couple of weeks, we received a Notice of Intent to award an exclusive contract with Georgetown County Water and Sewer District in South Carolina. Pending contract negotiations we should be able to offer programs to their 22,000 eligible homeowners. Looking forward, we remain confident in our ability to deliver on our long-term earnings per share growth goal of 7% to 10% through 2019. At the end of our prepared remarks, I’ll spend just a few minutes talking about our regulated business and how our investments and our positive financial performance demonstrate our customers and the communities we’re privileged to serve. And with that, Walter will now give an update on our regulated businesses. Walter Lynch Thanks Susan and good morning, everyone. As Susan mentioned, our regulated business have delivered strong results year-to-date. We continue to improve our owned and efficiency ratio as shown on Slide 8. We reached 35.8% for the 12 months ending September 2015. This is the result of a disciplined approach to cost management by our employees. We continue to make steady progress towards achieving our goal of 34% or less by 2020. Achieving sustainable O&M reductions is important to our strategy as it enables us to redeploy these cost savings in the capital investments in our water and wastewater infrastructure with minimal impact on our customer’s bills. A perfect example of our strategy and action as our recent New Jersey rate case order on Slide 9. During the third quarter, the New Jersey Board of Public Utilities approved the 3% or $22 million annualized increase in water and wastewater revenues that became effective on September 21. Since the last rate case in 2012, the company invested more than $775 million to replace and upgrade our water and wastewater infrastructure including approximately 160 miles of water mains and connection pipes. During the same time, New Jersey American lowered their operating expenses by more than $90 million. Those cost reductions supported more than $125 million of infrastructure investment with no impact on customer bills. Also last week in Virginia we filed a rate request for $8.7 million. The request seeks recovery of about $53 million in system investments made since our last rate case in 2012. Our operating expenses in Virginia have declined 2% since our last rate case reflecting our continued success in driving operating efficiencies. We use those cost savings to offset some of the revenue requirement requested for our capital improvement, which again minimizes rate impacts on our customers. We expect the decision in the next nine months. When we talk about owned and efficiency improvement, this is exactly what we mean, inventing to ensure reliable service while limiting the impact of when our customers pay. Moving to California, our team continues to display leadership in dealing with the draught and we’re certainly proud of all of their work to help our customers during this period. Overall five of our six districts are meeting the State Water Resources Control Board reduction targets. In venture accounting where customers are almost meeting their targets, we recently implemented Stage 3 conservation measures. These measures along with other customer outreach is helping us encourage conservation during this draught and we want to thank our customers in California who really stepped up to the challenge. I’ll give a quick update on our Monterey Peninsula Water Supply Project as well. Last month the California Coastal Commission approved an amendment to our permits to operate a test line well. This minor amendment allowed us to restart the well and continue to prove up the operational feasibility of subsurface intakes for this water supply project. The project is undergoing environmental and regulatory review by the California Public Utility Commission and we expect to start construction in the second quarter of 2017. Lastly let me discuss the weather impacts during the quarter. As we mentioned in our second quarter call, we experienced heavy rainfall in our central states during July. We saw this pattern continue in that region through August. Also in the quarter we experienced hot and dry conditions primarily in our northeast region. Due to our geographic diversity, these varying weather conditions largely offset each other in the third quarter, so there was no net material impact on our financials. Now I’ll turn the call over to Linda for more detail on our third quarter financial results. Linda Solomon Thank you, Walter and good morning, everyone. In the third quarter, we continue to deliver strong financial results. As shown on Slide 11, revenues were up 6% quarter-over-quarter and up 4% year-to-date. Earnings per share for the third quarter were $0.96, up 10% over the same period last year. Year-to-date earnings were $2.09 per share, which after adjusting for 2014 impact of the Freedom Industries chemical spill were up about 9% over the same period last year. In terms of business segment contribution, for the quarter the regulated businesses contributed earnings of $0.97 per share or an increase of about 10%. Our market base businesses contributed $0.07 per share, an increase of about 17%. Parent interest and other, which is primarily interest expense on parent debt was a negative $0.08 per share for the quarter, relatively flat to the prior year. As Susan mentioned because of the Keystone acquisition in the third quarter and the financial results of Keystone have been included in the market base business segment, the purchase price after purchase price adjustments was $133 million. As we’ve previously disclosed, we expect Keystone to be earnings neutral in 2015 and accretive to earnings in the first full year of operation. Now I’ll go over the different components of our third quarter earnings per share growth as shown on Slide 12. In the third quarter, we reported a $0.09 increase in earnings per share. Approximately, $0.05 of that increase was due to mild weather during the third quarter of 2014. As Walter mentioned, during the third quarter of this year, the financial impact of the varying weather conditions largely offset each other. As we had higher revenue of around $10 million from hot and dry conditions in the Northeast, which was offset by lower revenue of around the same amount from the wet weather experienced in our Central State. Next the regulated businesses benefited from higher revenues of $0.04 per share mainly from authorized rate increases, from infrastructure charges and rate cases in a number of our regulated states and additional revenue from acquisition growth, partially offset by lower demand in California. For the market-based businesses, earnings per share were up a penny due to additional construction projects under our military contracts and the addition of two new military bases in the second half of 2014. We also had contract growth in our Homeowner Services business. Partially offsetting these improvements were higher depreciation and other cost of about a $0.01 per share mainly due to growth associated with our infrastructure investment programs at the regulated businesses. Now let me cover the regulatory highlights on Slide 13. We currently have three general rate cases in process, West Virginia, Missouri and Virgina for a combined annualized rate request of approximately $69.5 million. For rates effective since October 1 of last year through today, we received a total of approximately $77.5 million in additional annualized revenue from general rate cases, step increases and infrastructure charges. We encourage you to review the footnotes in the appendix for more information. Slide 14 is a summary dashboard of our financial performance, which showed improvement across the Board. During the third quarter of 2015, we made investments of approximately $455 million, primarily for regulated infrastructure investments and the acquisition of Keystone Clear Water Solutions. Year-to-date we have invested a total of $970 million of which $793 million was for regulated infrastructure investments and $44 million was for regulated acquisitions. For the year, we expect to invest $1.3 billion to $1.4 billion with almost $1.2 billion to improve our regulated water and wastewater systems. Regulated infrastructure investments are projected to be about $100 million higher than we originally planned as we continue to optimize capital deployment under our infrastructure mechanisms. For the quarter our cash flow from operations increased approximately $48 million and year-to-date $15 million primarily from earnings growth and the timing of working capital item. Our adjusted return on equity for the past 12 months was 9.12%, an increase of approximately 48 basis points compared to the same period last year. We also paid a $0.34 quarterly cash dividend to our shareholders in September, which represented about a 10% increase compared to last year. And on October 30, the Board of Directors approved a $0.34 dividend per share to be paid on December 1 and as Susan explained, building on our strong financial performance year-to-date we’re narrowing our 2015 earnings guidance from continuing operations to be in the upper end of our prior range or $2.60 to $2.65 per share. And with that, I’ll turn it back over to Susan. Susan Story Thanks Linda. Before taking your questions, I’d like to spend a few minutes talking about how our investments and our strong performance benefit our customers and the communities we serve. As Linda mentioned we planned to invest up to $1.4 billion in 2015 with almost $1.2 billion of that total to improve our regulated water and wastewater systems. So what is investing more than a $1 billion a year mean to our customers and communities? It means we replace up to 350 miles of pipe every year. To give you an idea of the size of our water pipe network if you placed all the pipes we manage end to end, it would stretch over 48,000 miles nearly enough to go around the earth twice. It also means a strong water quality record. We are 20 times better than the industry average for meeting all drinking water requirements and we’ve earned more awards from the EPA partnership for safe water than any other water utility in the Nation. Why does this matter? Even though we serve about 15 million people across the country, we never forget that at the end of every pot line, there is a family depending on us to provide life’s most essential ingredient. Not only as investment in our water and wastewater system is critical to families, businesses, industry and fire protection, but that investment also provides jobs and economic benefit. According to the Water Research Foundation, $1 billion invested in water infrastructure creates approximately 16,000 jobs. So American Water’s regulated infrastructure investment through 2019 will result in more than 80,000 new jobs in the communities we serve. We know that we have to be sensitive to the impact of cost increases to our customers, even for something as necessary as infrastructure replacement. We also know as Walter mentioned that for every dollar we save, we can invest $6 of capital with no impact on our customer build. By combining effective cost controls with regulatory mechanisms that smooth cost out, we can make a big infrastructure impact without a big bill impact. In fact, we’ve invested almost $700 million nationally in our basic type programs in just 2013 and 2014 and all of that investment impacted customer build by just $1 almost on average. That’s less than the cost of a loaf of bread, a cord of milk and far less than what it cost you to get your own money from a general ATM machine, which is about $3 to $4 a transaction. Across our footprint, most of our customers still pay about a penny per gallon of water. Our average family pays a little over $2 a day for all of their water needs, which is literally a ton of water a day delivered directly to their sink, their showers and their washing machine. At the end of the day, we know that what we do in our customer’s long term best interest will also be in our investor’s long term interest and we never lose that focus. So with that, we’re happy to take your questions. Question-and-Answer Session Operator Thank you, ma’am. We will now begin the question-and-answer session. [Operator Instructions] And our first question comes from Ryan Connors from Boenning & Scattergood. Please go ahead. Susan Story Good morning, Ryan. Ryan Connors Good morning, Susan. I had a question on the rate case in New Jersey. You’ve got $22 million in new rates there which is about — I guess about a third of the $66 million you requested. Obviously, that’s a very crude metric that I guess maybe gets too much attention sometimes. But that does seem to continue a trend where the gap between asked and received rates has been kind of growing. Can you just talk about why that’s happening and what the ramifications of that are for the business? Walter Lynch Yes Ryan, Walter here. Thanks for the question. Just to put a little clarification on it, the last time we filed a rate case in New Jersey, we didn’t have a disc mechanism. So in this case, the disc mechanism is included but you have to look to the revenue that was generated from it. If you do that and include the $22 million we came in, in excess of 50% of our filing. So that’s the difference. We invested as Susan said, a significant amount of money in New Jersey and in our infrastructure and when you include that, with the outcome of the rate case, again we’re in excess of 50%. So it’s right in line where we’ve been historically. Ryan Connors I see. So the national trend then would be a function of the fact that D6 are becoming more and more prevalent. Walter Lynch Absolutely. Ryan Connors Okay. Interesting. My other question was there were some fairly notable development yesterday with one of your peers California basically saying that they’re going to have to defer revenue recognition in the fourth quarter because WRAM balances are increasing. I know you’ve had your own issues having to extend the collection period on your own WRAM balance, can you talk about the situation in California related to the WRAM and the outlook and also maybe give us your take not only on how that impacts your business, but where you see the regulatory evolution going, whether the draught creates any change in the regulatory situation in California? Linda Solomon Ryan, this is Linda. Let me start and talk first about the accounting issues around revenue recognition. So the accounting rules require that if revenue is extended — collection of revenue is extended beyond two years that you need to defer the equity component or the equity return of that revenue. And so this is really an accounting timing issue versus a collection issue. We did experience something similar in the third quarter when we requested and filed our application with the CPC to defer recovery in Monterey over a 20-year period and including a return. We have recorded that impact in our third quarter results and it was about a $5 million pretax impact. Now in terms of the regulatory environment, I’ll start and ask Susan if she would like to add to it, but really decoupling mechanisms were put into place in California to deal with situations like the severe draught the California is going through now so that you can align the customer conservation with the goals of the company and so these decoupling mechanisms really align these goals and allow us to help our customers and serve in the long term. Susan Story Right, and I think Linda is exactly right. The only thing I would add is this is an extraordinary situation in California and we all know that and we believe — we know that the Utility Commission, the companies were all trying to work together to find a way forward that’s in the best interest of our customers and the companies and everyone involved. Ryan Connors And then while we’re on California, one last one if I might sneak it in is that on the terms of return on equity you’re at 9.99 in California. Most of you appears are at 9.47 because you stood at the automatic downward adjustment duty or credit rating situation there, but the credit standing continues to improve. So is there any chance that you could be re-trued up or trued down to that level and talk about how that mechanism works and the ROE outlook for California thanks. Susan Story Absolutely, we’re at 9.99 in that mechanism in its current formal extent through the end of 2016 and then we would go through the next profit capital process in California to reset rates going forward. Ryan Connors Got it. Okay. Thanks for your time. Operator And our next question comes from Richard Verdi from Ladenburg Thalmann. Please go ahead sir. Richard Verdi Good morning, everyone and nice quarter and thanks for taking my call here. Just a quick follow-up question to Ryan I enter my question. The Pence or the New Jersey rate case outcome in combination with the D6, Walter you had mentioned it’s in excess of 50%. We have that around 54.6%, does that sound about right? Walter Lynch Yes that sounds about right Rich. Pretty precise. Richard Verdi Okay, perfect. Okay and then Susan a quick question for you surrounding the acquisition strategy. Somewhat recently you were quoted saying American is going to ramp up its focus on the wastewater acquisition front. So can you just maybe talk a little bit about how you see this benefiting American Water? Susan Story Sure. I’ll start and then Walter may want to add something to it. So one of the things that’s interesting and I know the national numbers are about 84% of Waters provided by public entities and about 98% of wastewater is and what we find Rich is that of a 3.3 million metered customers we have that only about 150,000 of those are wastewater customers. So we know that we’ve got several communities around the country where we already serve water and someone else serves wastewater. So that’s one piece and then you add to that the fact that there is growing number of EPA consent decrees, you got an issue where a lot of the wastewater infrastructure is aging and needs investment and you have some community who would prioritize other needed critical investments above their wastewater. So far us the real value is in many of these places we already served water. So to serve wastewater we know the communities. They know us. There are efficiencies we can gain because we already have offices there even though you would have different people doing some of the work. So we think it’s just a natural progression. Then on top of that you add the fact that we just talked about California. When you look at water, it really is a single one-cycle for water and in the past, where we separated portable water with stormwater and wastewater, those days are — they’re starting to merge. So we believe that as the leading water utility in the country, we want to a leadership role in looking at water as one water from start to finish and especially given our strength in our research and development efforts that we got on the whole water cycle. Walter Lynch Yes, Walter here. Just to emphasize the operational synergies. We already have offices. We have relationships. We have employees that are proving service to our customers. To us it makes too much sense not to engage on a wastewater side and that’s what we’ve been doing and we’re getting really positive feedback in those communities where we do provide both services. Richard Verdi Excellent. Okay. And next, thinking about the Water Infrastructure Protection Act recently implemented in New Jersey, clearly that’s a great outcome for American and Americans performed well from that Act and now Chairman [indiscernible] in Pennsylvania implement something similar. So if Pennsylvania does when considering that both New Jersey and Pennsylvania in this situation will have attractive legislation, do you think that it may eventually result in the American Water middle region representing more than 50% of its current, where that currently or do you think you would try to exploit that Pennsylvania move, but then grow in other state to maintain that diversified geographic footprint? Susan Story I’ll start and Walter may want to add. So number one, we value very mach our geographical diversity and how we do look to grow in Pennsylvania and New Jersey, we’re also looking to grow in the Midwest for example where we have a significant presence. So we do think this legislation and Walter and his folks have been key at proving research and information for those policymakers who are looking at different options to improve the economy in their areas. We think that it’s important to have good legislation everywhere and we think it’s good for the citizens and the people who are consumers of water and wastewater. Walter Lynch Yes, with those definitely are huge plus to accelerate acquisitions in New Jersey. If we get that in Pennsylvania, it will provide the same benefit, but we also have enabling legislation in many of our other states including many Midwestern states and some of this was tailored after the legislation we had in our Midwest states. So it looks very, very favorable in the Northeast, but we have the same favorable regulation in the Midwest. Richard Verdi Okay. Great. Thank you for that color guys and last one for me, looking at the non-regulated side, in our view we see that Keystone acquisition is just a super move, that’s a great move from our view. Is there anything else like that in the pipeline or maybe better put, can you give us — just give us an update on the non-regulated position driven strategy there? Susan Story Sure. So first of all fundamentally there is two things I want to say is that when we go into the market based businesses, we ensure that it leverages the core competencies that we have as a company. We’re not going to be going at two and three steps beyond what our core competencies are, which is water, wastewater, stormwater, those type of efforts. So I just want to make sure people understand that clearly. The second thing is as we said in our last earnings call, the market based businesses, which include all of the American Water enterprises lines of business and Keystone, we will not — we don’t see that growing beyond 15% to 20% of earnings and only towards the high end of that if it’s regulated like in the military services. So I just want to say that’s it’s on. So in terms of opportunities, again we’re going to stick to our netting, stay close to our core competencies, where there are opportunities to number one leverage the expertise we have in water, wastewater, water treatment, infrastructure investment, those type of things we will look at, but we also look at the risk profile of anything we do because we are extremely cognizant and dedicated to let our core we’re a regulated utility and we want to ensure that any growth we have is smart growth. Richard Verdi Okay. Great. Thank you Susan. I appreciate the guys and great quarter once again. Susan Story Thank you. Operator [Operator Instructions] Next question comes from Michael Gaugler from Janney Montgomery Scott. Please go ahead. Michael Gaugler Good morning, everyone. Susan Story Good morning, Mike. Michael Gaugler Just a couple of things. I would appreciate an update on the potential headquarter move and the timing implications in terms of the tax breaks and then also your thought on Keystone Clear Water now that you’ve been in that business for a bit. Linda Solomon Mike, this is Linda. Let me start with the move to Camden. We’re currently in the site selection process and we’re continuing through that process. We’re working to make sure that we have all of the tax issues handled appropriately with the City of Camden and we are very excited to be part of the revitalization of Camden. On Keystone, so everyone of course on the call is aware that there are market conditions on oil and gas and of course from the negative side from the market is that, the activity in the capital spending has been reduced somewhat. The number of rigs are down and again in the Marcellus and Utica interestingly while we have the cheapest cost for natural gas drillers that also require more water we know that there is an issue for the supply actually to take away capacity. So from the market issues that everyone is familiar with, we also are tracking this. We’re tracking it with the business. We also are very encouraged and we’re following very closely the progression of the construction of the takeaway pipes because we believe that whenever the takeaway pipeline are completed, that that is where and I know that all of you know this, where we’ll see a resurgence in that particular area of the country for natural gas. And with that said, since we have bought Keystone and since we closed in July, there are some positives that are going on for us. Number one, it’s interesting that as several of the ENP are looking at the current situation, they’re also looking at water infrastructure that will be needed for the resurgence that is expected at the end of ’16 and into ’17. So we’re in conversations looking at future activity, because there is a time period that we need to develop water infrastructure, which is critical for most of these wells. Another thing that we see is that there are some near term opportunities with the ENPs continuing to prioritize their capital for their core business, there is more of an interest of us taking a role into water infrastructure and water pipeline including owning it which would be a little longer term in some of the contracts that currently have. Looking at construction ownership of storage and exchange facilities and not just pipeline and we’re seeing that there is a renewed interest as the ENPs have a goal of 100% water reuse and recycling. So we do the transports and we’re seeing really a pre-robust business on the transport to the recycling facilities to ensure extremely high levels of reuse and recycling. And then another positive that we’ve seen in the almost six months we’ve owned Keystone is that, they are increasing their customer base significantly with the addition of several new large customers and we’ve calculated that our market share of the water services in the Utica, Marcellus has increased from about 20% to 25%. So yes it’s a difficult environment as we know, but being a water focused subsidiary of ours looking at solutions for that area we’re seeing some bright spots for us and we continue to, we said earlier when we purchased Keystone, we expect it to be EPS neutral in 2015 and to be accretive next year as Linda mentioned. Michael Gaugler All right. Thanks Operator [Operator Instructions] Follow up question from Richard Verdi from Ladenburg Thalmann. Please go ahead. Richard Verdi Hi guys, thanks for letting me back in. Just a question on — just a follow-up to Michael’s inquiry surrounding Keystone, this might be a tough question right, I am just curious to see what the take is, when you look at the frac sand guys or the oilfield services players, it’s up in the air when that energy space is going to recover. Some say it’s going to be — we might see a bottom in Q1 and then improvement back into ’15. Some others say it won’t even be until ’17, whether its improvement. But it sound like what you just said you expect it to be accretive in ’15. So I am kind of wondering, one, what maybe your outlook is there for, what may be Keystone’s outlook is for energy space and maybe what you guys are doing differently to ensure that that’s one of the expense in 2016. Susan Story Rich, thank you for this and so on December the 15 at our Analyst Day the CEO of Keystone Ned Wehler who has been in the business for years, he is actually going to be part of our Investor day presentation and he is going to offer his insights that will give an additional month to see where everything is playing out. Again I think we can say some things now, but I think it would be better to wait till Investor Day and really talk to the expert. We’re looking at a lot of different options. We’re trying to be very practical and realistic, which is why in answer to Mike’s question, I wanted to give both the positives but also the things we’re very cautionary about. And so it will be interesting. We do have some thoughts at this time, but on December 15, we fully expect that question to be asked and from there to give his thoughts about that. Richard Verdi Okay. All right. Fair enough. Thank you, Susan. Operator And our next question comes from Ryan Connors from Boenning & Scattergood. Please go ahead. Ryan Connors Great. Thanks also for letting me in and again to figure out coming with one more I have since there is time, so rising interest rate environment that we’re likely to enter into here that’s starting to raise rates, obviously there are various commission look at benchmark rates as a proxy for risk free and there is interest in theory, that’s a positive tailwind for ROEs. How does that impact what you do when you’re asking — when you’re filing rate cases and what you’re asking for an ROE? Do you start to reflect that into higher requests for ROE as the Fed is getting ready to raise rates or talk to us about that dynamic? Linda Solomon Yes Ryan, this is Linda and generally what we have seen with regard to past trends is that as interest rate rise then over time that is correlated with increases in the return on equity and so I would expect that moving forward to the extent that interest rates improve that we would see similar trends. Ryan Connors Okay. But you used to say that goal to actually — where do you start building that into what you’re asking for? Is that coming later or is that something you’ve started to do right here as we’re sort of getting ready to enter into rising rate environment? Linda Solomon Right Ryan and really what we will do, typically most of our states have the cost of capital as part of the general rate case profit and so we would be looking across our states and determining the optimal time to go in for general rate case. We also have some states that have a separate cost of capital mechanism like California which has a set schedule, which we would be — which is set through 2016 and then we would be setting new rates for 2017. So it will depend on the jurisdiction and it will also depend on a multitude of factors that we look at in terms of the timing of our general rate case filings. Ryan Connors Interesting, well thanks for that. Linda Solomon Absolutely. Susan Story Thanks Ryan. Greg Panagos Operator, do we have any more questions? Operator, are you there? Linda Solomon Maybe he is experiencing some technical. Susan Story Yeah, we can’t hear anything. If you can hear us, we can’t hear you. Operator Pardon me, the next person to ask a question is David Paz of Wolfe Research. Susan Story Okay. Great, hi David. David Paz Good morning. Susan Story David, that’s quite a dramatic kind of intro to your question. David Paz Yeah, you can take credit for that one, but you may have actually just one of my questions on California, but just can you remind me when the cost of capital proceeding and where ended? Susan Story The cost of capital proceeding will be filed in the beginning of 2016, so about March of 2016. David Paz Okay. And if you — it was extended once before correct? Susan Story That’s correct and it’s extended through the end of 2016. We actually begin the filing in the first quarter of 2016 for cost of capital affected in 2017. David Paz Right and just remind me, were there any changes to the mechanism when you extended it this last time versus the original I guess agreement? Susan Story No, it was extended in its current forms. David Paz Okay. And is there any chance for you guys to extend that another year, given that not much has changed on the rate side? Susan Story We’re always looking at opportunities so that — and working with the Commission on these types of things as well as the other investor owned utilities in California. David Paz Okay. Separately this year have you announced any new large regulated projects like water treatment plants or the like that, that were incremental to the plan you gave last year? Walter Lynch This is Walter, no, no, it’s has been in line with what we’ve said last year. We just continue to upgrade our plants as part of our normal capital investment but no new plants in line. David Paz Okay. And you’ll give a 2016, 2020 capital plan in December. Walter Lynch That’s correct. David Paz Great. Thank you so much. Susan Story Thanks David. Operator And this concludes our question-and-answer session. I would now like to turn the conference back over to management for any closing remarks. Susan Story Thank you, Frank. We would like to thank everyone for participating in our call today. And as always if you have any questions, please call Greg or Durgesh and they’ll be happy to help. Before I let you go, I’ve mentioned it during the Q&A, I would like to remind you all that we’re hosting our Investor Day at the Western Times Square in New York on December the 15 from 9 AM until noon. We will have a light breakfast beforehand and lunch available for afterword. So it is not the program that attracts you, hopefully the food will. We will be discussing our plan for 2016 to 2020. We’ll have added color around 2016. You’ll hear updates and projections for our regulated business from Walter as he has already said. An update from Sharon Carmen on our plans for the American Water Enterprise’s lines of business, homeowner services, military services and contract services. And as I mentioned before, you’ll hear from the CEO of Keystone, Ned Wehler who is going to offer his insight into that business and the market, and of course Linda will provide updates on our financial plans. We hope all of you can attend. The session will be webcast and thanks again to everyone for listening and we’ll see you in December. Operator The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect the line.

OGE Energy (OGE) CEO Sean Trauschke on Q3 2015 Results – Earnings Call Transcript

OGE Energy Corp. (NYSE: OGE ) Q3 2015 Earnings Conference Call November 5, 2015 09:00 a.m. ET Executives Sean Trauschke – President, Chief Executive Officer Steve Merrill – Chief Financial Officer Todd Tidwell – Director of Investor Relations Analysts Anthony Crowdell – Jefferies Matt Tucker – KeyBanc Capital Bryan Russo – Ladenburg Thalmann Jay Dobson – Wunderlich Paul Patterson – Glenrock Associates Operator Good day ladies and gentlemen and welcome to the Third Quarter OGE Energy Earnings Conference Call. At this time all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this call will be recorded. I would now like to introduce your host for today’s conference, Mr. Todd Tidwell, please go ahead. Todd Tidwell Thank you, Katherine. Good morning everyone and welcome to OGE Energy Corp’s third quarter 2015 earnings call. I’m Todd Tidwell, Director of Investor Relations and with me today, I have Sean Trauschke, President and CEO of OGE Energy Corp; and Steve Merrill, CFO of OGE Energy Corp. In terms of the call today we will first hear from Sean, followed by an explanation from Steve of third quarter results and finally, as always we will answer your questions. I would like to remind you that this conference is being webcast and you may follow along on our website at oge.com. In addition, the conference call and the accompanying slides will be archived following the call on that same website. Before we begin the presentation, I would like to direct your attention to the Safe Harbor statement regarding forward-looking statements. This is an SEC requirement for financial statements and simply states that we cannot guarantee forward looking financial results. But this is our best estimate to date. I would also like to remind you that there is a Regulation G reconciliation for gross margin and ongoing earnings in the appendix along with projected capital expenditures. I will now turn the call over to Sean for his opening remarks. Sean? Sean Trauschke Thank you, Todd. Good morning everyone and thank you for joining us on today’s call. This morning we reported third quarter results and our utility OGE contributed $0.82 per share compared to $0.79 per share last year. Looking forward to the full year, the company projects 2015 utility earnings to be at the low end of the earnings range of $1.41 to $1.49 per average diluted share. This is primarily due to mild summer weather as compared to normal and environmental compliance assets placed in this service that have not yet been included in rates. Earnings from the Enable Midstream for the third quarter of 2015 include a pension settlement and the good will impairment charges of $0.35 per share. Ongoing earnings on a consolidated basis which exclude these non-cash charges were $0.90 for the third quarter compared to $0.94 per share for the same period in 2014. Steven will discuss the financial results and impairment in more detail in just a moment. That being said, the Enable impairment does not change our plans for OGE. We are on plan to achieve our utility long term growth rate of 3% to 5% and to continue to grow our dividend through 2019. We continue to believe our businesses are strong and well positioned for the long term growth and value creation. In September the Board of Directors proved a 10% increase in the quarterly dividend, bringing the dividend to $1.10 per share annually. This was the 10 th consecutive year of dividend growth. It reaffirms our commitment to growing the dividend 10% a year through 2019. We have received approximately $104 million of distributions from Enable year-to-date. With the quarterly distribution they’ve just announced, distributions to OGE will be approximately $140 million for the year. As we said before, cash distributions received is the key metric we are using for Enable. Distributions from Enable will continue to help fund our dividend and utility investments. Turning to the utility, our service territory remains strong despite the continued pressure from the current commodity cycle. The latest economic statistics with Oklahoma’s unemployment rate at 4.5%, with Oklahoma City just under 4%. Although these rates have increased, we are still well below the national average. As expected, we are seeing pull backs in the industrial and oil field sector, but growth from the commercial sector, particularly chain accounts has offset those loses. This is a testament to our region’s growing economic diversity. Our operations team did a great job of maintaining the fleet in the grid this summary. Our combined cycle plants achieved best in class for liability of nearly 99% and capitalize on lower gas pricing to bring the best value to our customers. Our coal units demonstrated a liability of 91% and during the summer months 9% of our total generation came from renewable resources. On the cost side we continue to focus on controlling costs and increasing efficiency and productivity. As a point of reference, our O&M cost per customer is lower today than it was in 2011. This is really good news for our customs. Attracting customers with not only competitive rates, but additional products and services is a key component of our strategy. Last month our customers saw improved functionality with the implementation of our estimated time of restoration project. This technology allows customers access to outage issues, and estimates for when they can expect service restoration. We continue to look for ways in which technology will improve our customer experience. Next I would like to provide an update on our regulatory events in Oklahoma and Arkansas. In Oklahoma we are still waiting on a order for our environmental case. We plan to file a general rate case in Oklahoma later this month, with a test year ending June 30, 2015. The case as we have said previously will focus on two main issues. First, we have terminated a large wholesale contract and several smaller contracts and will now seek to place in the rates approximately 300 megawatts of that capacity previously used to meet those obligations. The second focus will be to recover the retail portion of several in-service transmission lines that OG&E has constructed at SPP’s direction over the last few years. Also in Oklahoma we’ve filed a distributed generation tariff with the commission. Oklahoma’s Senate Bill 1456 was signed into law last year, requiring us to have a tariff by the end of 2015. This tariff is to ensure that distributed generation customers are not being subsidized by other customers. Our proposed tariff enables an individual adding distributed generation to expense reductions in their utility bills, while ensuring that they pay for their fair share for the grid as the law requires. While the number of DG customers of our system is very small today, this prepares us for accurate cost recovery in the future, should the adoption of DG devices become more prevalent. Moving to Arkansas, we have filed under Act 310, which provides a constructive way to file and begin the recovery of environmental expenditures for assets placed in the service. We made our first filing in May, and put the rates into effect in June. The settlement hearing was in October and we are waiting the commission’s final order. We anticipate making our second filing later this month and we will update the filing every six months as additional compliance investments are placed into service. We are very pleased with this process in Arkansas. We also plan to file a general rate case in Arkansas in early 2016. We intend to utilize the formula rate provision in the recently passed legislation, and our biggest issue in Arkansas continues to be the imputed capital structure utilized. We are planning to work with the Arkansas Public Service Commission on this issue. Proper resolution of this issue will improve our ability to enhance the customer experience in Arkansas and to make investments that will help attract new businesses to this day. Turning to the environmental compliance plan, regardless of the delays we experienced on the regulatory side, we must move forward to meet our compliance deadlines. Regarding the activated carbon systems from MATS compliance, we are on budget and construction has begun to meet the April 2016 compliance deadline. Looking at the regional haze compliance plan, four of the seven low NOx burners are complete and in service and installation will begin on the remaining units this winter and will be completed by the spring of 2017. The equipment and installation vendors for the two dry scrubbers at Sooner have been selected and schedules and budgets are on plan. For the Mustang plants, full notice to proceed has been issued to the turbine manufacturer. Permanent applications have been filed with the Oklahoma Department of Environmental quality and we anticipate the final permit will be issued by the end of the month. Engineering studies for the conversion of the two coal units in Miscurgie have been completed and we’ve issued an RFP for gas supply, and recall our plan is to continue to run these coal units as long as possible to maximize the benefit to our customers. Finally the EPA issued its clean power plant in August and the plan seeks to reduce CO2 emissions in Oklahoma from 24% to 32% depending on the format of the compliance plan, the mass versus rate base plan by 2030. As you know Oklahoma’s Attorney General has begun the legal proceedings against the EPA in regard to the clean power plant, stating that it threatens the reliability and affordability of power generation across the nation. Similar to regional haze litigation, we will be support of the AGs efforts on behalf of the State of Oklahoma. In the meantime we are in process of reconfiguring our fleet with the addition of Mustang and the conversion of the Miscurgie units. In addition, we are we are 18 months into the SPP day head market and the decisions other generators and other states make could impact our fleet. As a result we will continue the evaluation of our units, our role in the state and our role in the broader southwest carpool, while continuing our active discussion with the state regarding various options of compliance. Finally, last week Rod Sailor was announced the CEO of Enable. As you know Rod joined us in April of 2014 and has been an instrumental part of the company. Since June, Rod has been leading the development and execution of the business strategy, and I’m comfortable that Rod brings familiarity to the company, customers and the market, providing that stability and consistency we are looking for. I’m confident that he is the right person to lead Enable’s growth strategy going forward. So in summary, this is an exciting time for us at OGE. As a management team we are committed to executing on our strategy to continue growing our business. I’ll now turn the call over to Steve to review our financial results. Steve. Steve Merrill Thanks Sean and good morning everyone. For the third quarter we reported net income of $111 million or $0.55 per share as compared to net income of $187 million or $0.94 per share in 2014. The contribution by business unit on a comparative basis is listed on the slide. I would like to point out that the loss from Enable is due in part to a $0.35 per share write down of good will and a pension charge. Excluding the impact of these charges, third quarter 2015 earnings would have $0.90 per share as compared to $0.94 per share for 2014. I will discuss the good will impairment on a later slide. The holding company loss is primarily attributable to changes in our differed compensation plan. The holding company is on plan, and is expected to be flat for the year. At OG&E net income for the quarter was $163 million or $0.82 per share as compared to net income of $157 million or $0.79 per share in 2014. Third quarter gross margin at the utility increased approximately $11 million, which I’ll discuss on the next slide. O&M is on plan for the year. The decrease of $4 million is primarily due to the lower maintenance cost at our power plant and our continual focus to control cost. Depreciation increased $7 million, primarily due to the large transmission lines that were added in the last 12 months, part of the over $800 million of plant placed in service in 2014. Income tax expense also increased approximately $4 million due to higher pre-tax net income and a reduction of federal tax credits recognized. Turning to the third quarter gross margin, utility margins increased approximately $11 million for the third quarter of 2015 compared to 2014. The primary drivers for gross margin were new customer growth, which contributed $9 million. We added over 9,000 new customers to the system as compared to the third quarter of 2014. We continue to see about 1% growth supported by the commercial sector. Weather contributed nearly $9 million of margin as cooling degree days increased 6% compared to the third quarter of 2014. However, compared to normal, weather decreased for us the margin, approximately $11 million for the quarter. Partially offsetting this growth was wholesales transmission revenues which decreased $4 million compared to the third quarter of 2014, primarily due to an adjustment of the SPP formula rate to reflect the continuation of bonus depreciation. Finally, on June 30 we had a wholesale power contract that expired, reducing margin by nearly $8 million for the quarter. As we’ve said before, this is an item that will be included in the general rate case we are filing this month in Oklahoma. For the third quarter of 2015, Enable Midstream contributed ongoing earnings of $0.10 per share compared to $0.14 per share in 2014. Cash distributions increased by 6% to $35 million from $33 million in 2014. Year-to-date OG&E has received approximately $104 million of distributions from Enable. Before I explain the impairment charge, I would like to point out that cash flow in the form of distributions, not the earnings from Enable of what is important to OGE. Though commodity prices are low, Enable is performing as planned in regards to allowing us to fund environmental CapEx and to grow our dividend by 10% per year through 2019. Turning to the impairment, Enable Midstream recorded a goodwill impairment of approximately $1.1 billion in the third quarter of 2015. OGE’s portion of Enable’s good will impairment is approximately $108 million. The reason our shares left within the pro rata share is because of the formation of Enable. We received a higher level of LT [ph] interest just compared to the assets that were contributed. However, we were required to record our investment of historical costs, thus creating a basis difference. Turning to 2015 outlook, the company projects 2015 utility earnings to be at the low end of the earnings range with $1.41 to $1.49 per average diluted share, primarily due to mild summer weather as compared to normal and environmental compliance assets placed into service that have not been included in rates. For the Midstream business we are projecting to receive approximately $140 million in cash distributions. Utility is on track to achieve its long term growth rate of 3% to 5%. Our cash flow position for 2015 remains strong and is key to our value proposition, which is growing utility UPS and utilizing our cash flow from Enable to fund our capital investments and grow our dividend at 10% annually. This concludes our prepared remarks and we’ll now answer your questions. Question-and-Answer Session Operator Thank you. [Operator Instructions] Our first question comes from Anthony Crowdell with Jefferies. Your line is open. Anthony Crowdell Good morning. Sean Trauschke Hey, good morning Anthony. How are you doing? Anthony Crowdell Just crushing it. How about yourself? Sean Trauschke Just crushing it. Well, I’m going to use that line. Anthony Crowdell No worries. Just two questions, the first question is related to I guess the delay in the approval of your regional haze CapEx. Do you think that the clean power plant or the Oklahoma Attorney General fighting the clean power plant is what’s causing the delay of the regional haze approval? Sean Trauschke No, I don’t. I think those are totally independent issues and the ruling on the regional haze is with the three commissioners right now. So the AG is not part of that. Anthony Crowdell If I remember correctly, you guys said I think a 55 month window to comply. Is this eating into the time of that 55 month window to comply? Like it’s a clock running and you are just waiting to start executing once you get approval on it. Sean Trauschke Yes, no very good question Anthony. You’re exactly right. We have a deadline to comply. By law we have to comply. So we are actually in that process of complying. I mentioned in my comments, we’ve got four of the seven low NOx burners already in service. We’re well down the path that Sooner on the scrubbers. We’ve made the commitment; we’re doing an RFP right now for the gas supply, the stogie for the conversion. So we’ve got to move ahead. We could not wait for commission approval to begin this. I mean we have to comply and so that’s what’s going on, we’re moving forward. Let me say it differently; non-compliance is not really an option. Anthony Crowdell Right, but I guess I’m just thinking out loud if you did not get approval for regional haze, does that create a more challenging regulatory environment? Sean Trauschke Yes, while we’re surprised or disappointed that it’s taken this long to get the order; we do believe that we’re going to receive approval for these required expenditures. Anthony Crowdell Great. And moving to the easy part of the business Enable, I think on Enable’s second quarter call or whatever they spoke about when they thought they’d hit maybe the Tier 2 distributions, which that also I think it begins with GP just like getting some distributions. When does OGE forecast that they start receiving some of the GP distributions? Steve Merrill Sure. At the present time with the guidance that Enable put out yesterday, we would anticipate starting to receive those in 2017. Anthony Crowdell And is it like a – I don’t want to use the word trickle, but a small amount and then 18 to get a gradual step up or… Steve Merrill That’s correct. I mean at the current growth that’s out there right now, it would be a gradual step up. Anthony Crowdell Great. Guys, thanks for taking my questions. I’ll see you at EEI. Sean Trauschke All right, see you Anthony. Operator Thank you. Our next question comes from Matt Tucker with KeyBanc Capital. Your line is open. Matt Tucker Hey guys, good morning and thanks for taking my question. Sean Trauschke Good morning Matt. Matt Tucker I was hoping you could elaborate a little bit on what’s changed in terms of the utility outlook. If you could maybe quantify how much of the headwind is weather versus the recovery of environmental investments and is that Writer drag just related to the delay in the environmental case approval? Steve Merrill Yes, that’s correct. If you look at weather, it’s about $0.03 and then the environmental drag is a couple of cents at this point and yes, it’s just timing of the Writer. That will go away as soon as we get the Writer. Matt Tucker Got it, thanks. And then thinking about, you’ve maintained the long term outlook despite Enable kind of reducing its distribution growth guidance for the next couple of years and I know that you built a lot of cushion into your longer term assumptions. Could you talk a little bit about how stress tested those are if Enable were to hypothetically hold its distributions flat for the next couple of years or beyond. Would you still be okay in terms of the dividend growth guidance and lack of equity needs? Sean Trauschke Yes, we would. Matt Tucker Okay, great. That’s all I had guys, thanks. Sean Trauschke Thanks Matt. Operator Thank you. Our next question comes from Bryan Russo with Ladenburg Thalmann. Your line is opened. Bryan Russo Good morning. Sean Trauschke Hey, good morning Bryan. Bryan Russo Just curious. How much environmental spend is not in base rates. Steve Merrill Right now that’s about $39 million. Bryan Russo Okay, great. I realized the delay in the OCC order. I think previously you had conveyed that they indicated they were going to try to make a decision by September and we’re probably six weeks past September; any reason for the delay? Sean Trauschke None that we’re aware of Bryan to be perfectly blunt. There was that public hearing they did allude to. They thought they were going to try to get an order out within 30 days. We’ve not seen the order and we’re talking to them and anxious to receive the orders as quickly as you are. Bryan Russo Okay, so it’s basically any day is how we should look at it? Sean Trauschke Yes, but I wouldn’t characterize that any day any differently from September. Bryan Russo Understood. And if you don’t get the ECP for the tracker order by the end of the month and you file your rate case, does not having that tracker or a decision on the order, does that complicate this rate case at all or is it because your environment, the spin is so back end loaded that your able to manage it? Sean Trauschke Yes, you’re correct in your assumption there. I think the complication that arises with this filing is that under 1910 there is a provision there that you file a rate case every two years after the Writer goes in place and our goal and objective was we wanted to run our business and we didn’t want to get tangled up in rate cases every couple of years and just because of the time, energy and money you spend going through that process. In your scenario there we would file and not have – file a rate case and we potentially could not have rates, the Writer in place and so that may give rise to another rate case. I believe we’ll cross that bridge when we get there. I think the thinking thereby and just to be perfectly honest, we said all along we were going to file this rate case this year and this is to recover those items that Steve’s mentioned to that are not being recovered today. There would be good value for customers, the transmission lines are in service and we are going to bring 300 megawatts there back to our utility customers around 230 a KW. So that’s good value for the customers and we ought to be doing it, but we’ve got to kind of run our business for our customers and not get bogged down with kind of the regulatory timeline. Bryan Russo Okay, and the June 2015 test here. What’s like the true-up here or a known and measurable date? Sean Trauschke Six months. Bryan Russo Okay, and what’s the statutory deadline for the commission to issue a final order in a rate case? Sean Trauschke Well, after 180 days from that filing in the rate case, we can implement rates. Bryan Russo Okay, got it. So we should feel rest assured or comfortable that new rates are going to affect prior to near your summer third quarter peak period. Sean Trauschke Yes sir. Bryan Russo Okay, great. Thank you. Sean Trauschke Thank you. Operator Thank you. Our next question comes from Jay Dobson with Wunderlich. Your line is open. Jay Dobson Hey, good morning Sean. Sean Trauschke Hey, good morning Jay. Jay Dobson Hey, a couple of questions if I can. Operating cost trends obviously have been moving in the right direction and you spend a little time highlighting them. Can you talk a little bit about what’s going on there and sort of the durability of those controls or reductions? Sean Trauschke Yes, I think – good question. So we’re actually quite proud of this and philosophically this is not a one-time project that we have these initiatives or teams out there; this is every day. This is just grinding away, looking for opportunities. We’ve seized opportunities around supply chain recently, around our maintenance of our facilities, our engineering systems. We’ve had a number of opportunities as people have retired. How we re-tool the workforce and brought new people into the company. So there’s no singular item Jay is what I would tell you and I think that speaks to the durability or the sustainability of what we’re doing here and it’s just a daily effort and we’re keenly focused on keeping our own costs low. In this case actually reducing them, but I expect that to continue. Jay Dobson Is that something we’d measure in quarters or years? Sean Trauschke I think it’s probably something that you do on an annual basis. A lot of things going at your own expense, but I think that’s more of an annual trend and we’ve been trending that. We’ve been watching that since 2011 and I’m really proud of the effort the entire company has put forth on this. I don’t expect it to seize. The expectation is we’ll continue going forward. Jay Dobson No, that’s great. So the reduction sort of to-date or whenever the rate case is filed, you’ll be sort of handing those back in a rate proceeding, but looking forward sort of post rate case we should assume that costs could continue to decline in a measurable pace. Sean Trauschke Well, let me clarify that a bit. So we are very fortunate to see low growth on our system and so we’re adding customers and so what we’ve been able to do is absorb that and not see incremental costs go out, okay. So I don’t think you’re going to see O&M reductions go down if you’re thinking in terms of rate case activity or anything like that. What we’re saying is that we’re absorbing this additional low with productivity and efficiency gain in our system. Jay Dobson Nope, that’s perfect. It’s like you read my mind. So commercial trends you indicated, what exactly is going on there? Is there new customers coming in? Is this expansion sort of economically related? What’s going on there? Sean Trauschke Yes and yes and so we’re seeing a number of the chain account kind of builds, box stores and restaurants and things like that coming in. We are beginning to see a bit of a slowdown in the oil field sector as you would expect, but it does not seem to be slowing down on the commercial side or the retail side. Jay Dobson Got you, that’s great. And then Enable, I assumed they’d be in the running to serve the Miscurgie conversion and Mustang gas needs. Sean Trauschke Yes, I think we’ll conduct a competitive bid process like we do with everything we procure in this company and if they are successful they’ll get it, if they are not, somebody else will get it. But yes, they would certainly be a viable candidate, but they will not receive any kind of special treatment. Jay Dobson Do they serve other facilities on your system currently? Sean Trauschke Yes, they do. So Enable serves the Mustang plant currently and Horseshoe Lake and Seminole and then some other suppliers serve Redbud and McClain. Jay Dobson Got you. And then two last ones; tax rate with the write down maybe more for Steve. I imagine not that you’re a big tax payer, but that it would do Steve, actual taxes paid, so cash flow benefit. Am I thinking about that right from the good will impairment you recorded? Steve Merrill Yes, you are. We won’t be a full tax payer until 2018. Jay Dobson Perfect. And then last one, just to tag on to the – I think it was the last question Sean. So you can implement rates, 120 days if you don’t have a decision, but am I remembering historically you haven’t actually done that. Sean Trauschke Yes, so it’s actually 180 days and so have we done that? I believe we’ve done it way, way back in the past, but not in recent history. Jay Dobson Okay, got you. Awesome! Thank you so much. Look forward to seeing you in a couple of days. Sean Trauschke All right, thanks Jay. Take care. Operator Thank you. Our next question comes from Paul Patterson with Glenrock Associates. Your line is open. Paul Patterson Hi, how are you doing? Sean Trauschke Hey, good Paul. How are you? Paul Patterson I’m managing. With respect to the, back to this regional haze thing, I mean I guess it was asked and I guess if you could just elaborate a little bit. I mean there’s no sense as to why this is being delayed. Sean Trauschke Well, they are deliberating right now. This is I think the top item on their play. In fairness to the commission, they’ve got a heavy case load. They’ve been very involved in some of the – there’s been a lot of earthquakes here. So they’ve been involved in that analysis and in fairness to commissioner Hye [ph], he walked into this. He didn’t have the benefit of the history that had gone on the previous four years with this. So he is quickly getting up to speed as well. So I don’t really have any, Paul any more insight than that and we’re as anxious as you are to get this resolved. We’ll tell you that we have had some discussions, not complaining or anything about this case, but more about prospectively we’ve got to come up with solutions. What can we do on our side to make this process faster in the future. So we are looking forward in terms of how we can improve this process to make it more timely. Paul Patterson But the record has been closed for some time. There was a deliberation statement from Anthony right. I mean so isn’t like – it seems like it’s got nothing to do with you guys at this point, correct. I mean you guys can’t do anything to – so generally your really… Steve Merrill I think your thesis is exactly right. I mean we have asked if they are looking for any more information or they need anything from us. I think your thesis is right. Its sitting there on their desk. They are deliberating right now. Paul Patterson So we are really not going to be in a situation where you are going to be doing things to address the regional haze issue before we get this; at least nothing that would be controversial potentially. Correct? Sean Trauschke Are you talking about as far as taking access to comply? Paul Patterson Yes. Sean Trauschke No Paul, we are taking actions to comply. We have a deadline, we have a compliance date between regional haze and MATS and we are taking actions – go ahead. Paul Patterson But is there anything that like I guess in terms of – is there any risk that you’ll be taking action that these guys might say, ‘hey, well that’s not what we really thought you were going to do.’ Sean Trauschke No, no the actions we are taking is exactly what we spelled out in our testimony, exactly what we communicated well in advance of our filing and our plan of attack is exactly what we’ve been communicating for a couple of years now. Paul Patterson Okay and so if these guys come up with a decision that’s different than that? Sean Trauschke When you say a decision different than that, what do you mean? Paul Patterson I mean if they go with the ALJ recommendation, right. Would that… Sean Trauschke The ALJ, I think the ALJ was primarily speaking about various components of how you’d recover that, but the commission is not – it’s our job to kind of design and operate this system and make these decisions on how the business is going to operate, and aside I don’t believe that they are going to get into making decisions about what asset we should be utilizing. And besides remember, the ALJ did indicate all of this was prudent, and the legislation provides for that as well and that this was a mandate, a requirement and that’s what this legislation that was put in place was to address, was timely recovery for environmental mandate and this is the mandate. Paul Patterson But the Mustang monetization plan and stuff like that, I mean how do we think about that I guess. Do you follow what I’m saying? Sean Trauschke Yes, so on Mustang, our point there on Mustang was we wanted to be upfront and transparent with the commission. Let them know where we are going with how we are going to reconfigure our fleet. We had a window of opportunity there to be able to site new generation closest to the largest load center. It serves a very critical piece of our 345 transmission loop around the city and we made that case to the committee, to the commission and whether they account for that and the writer or whether they want to do deal with that later in a rate case, that’s fine, we’ll deal with that. Paul Patterson Okay. And then just in terms of good will, I’m sorry to be a little so on. Just with the account and back to Jay’s question, what was the tax impact? I apologize, it’s been a busy morning, associated with our write-off. Steve Merrill I mean it’s really just a timing issue as it relates to a tax impact. That write-off will actually flow through our corporate tax calculation and impact our effective rate accordingly. Paul Patterson As opposed to being amortized, is that how we should think about it. Steve Merrill That’s correct. It accelerates in the amortization, and you don’t really amortize good will anyway. It just sits there until… Paul Patterson Not on a GAAP basis, but on the tax basis, was there any amortization on that. Steve Merrill No. Paul Patterson Okay, I just wanted to check on that. Steve Merrill Okay. Paul Patterson Thank you. Sean Trauschke Thanks Paul. Operator Thank you. And I am showing no further questions at this time. I would like to turn the call back to Sean Trauschke for any closing remarks. Sean Trauschke Well, once again I want to thank our members for their hard work and dedication and commitment to safety and thank all of you for joining us on this call today and have a great day. Operator Ladies and gentlemen, thank you for your participation in today’s conference. This does conclude today’s program. You may all disconnect. Everyone have a great day.

DES: Strong Dividend Yields On This Small Capitalization Dividend ETF

Summary DES offers a dividend yield of 2.93%, which is a nice yield for a small capitalization ETF. The top holding has a heavy weight and offers a compelling yield of nearly 7% with an addictive product. The ETF has a mediocre expense ratio. I’d prefer to see a more defensive sector allocation to reduce the potential for losses during bearish market events. The WisdomTree SmallCap Dividend ETF (NYSEARCA: DES ) looks great. After readers suggested I take a look at the portfolio, I decided it was time to dive inside and see what I could find. This is a great ETF. Investors may quibble on whether the allocations are perfectly or merely good, but there is far more to like than to hold against the fund. Expenses The expense ratio is a .38%. I’d really prefer to see a lower expense ratio, but I find myself saying that often. When it comes to long run return projections, I have a hard time believing that gross returns on assets for ETFs with higher expense ratios will be high enough to cover that expense ratio while still providing superior returns to the market once adjusted for risk. Dividend Yield The dividend yield is currently running 2.93% according to Seeking Alpha’s numbers. I’m pretty happy with that for a dividend ETF. After accounting for this dividend ETF focusing on small capitalization companies, I’m even more impressed by that healthy dividend yield. This could be a viable option for income investors seeking a little small cap exposure in their portfolio while requiring their positions to pay a respectable dividend yield. Holdings I grabbed the following chart to demonstrate the weight of the top 10 holdings: (click to enlarge) The heaviest weighting by a substantial margin was given to the Vector Group (NYSE: VGR ). The stock has an incredibly high 6.9% dividend yield and Greg Vanderford highlighted the company as one of the most overlooked sin stocks . The company is in the cigarette business. While I’m not thrilled with the actions of tobacco companies, the dividend is very strong and their product benefits from being highly addictive. For the investor addicted to reliable income, this is an industry that simply makes great financial sense. Going a little further down the list we see SeaWorld Entertainment (NYSE: SEAS ) is another one of those sin stocks in my book. While “sin stocks” are usually used to refer to companies producing products like cigarettes and alcohol, I have to include SeaWorld in that category for their treatment of animals. Many investors may get past this, but this is a company that I’ve boycotted for a long time. The dividend yield is a strong 4.24%, but I don’t like the risk here. The potential for public backlash creates a significant risk to the business practice. This problem exists for tobacco companies as well, but SeaWorld doesn’t have the benefit of selling an addictive product. Sectors (click to enlarge) This is a very interesting sector allocation. Frequent readers know that I tend to love consumer staples as a way to reduce the risk in a portfolio, but I find those companies also tend to have respectable dividend yields. In a dividend ETF focused on small capitalization companies, the high yield was achieved while running a very different allocation strategy. Normally I think of dividend portfolios as being fairly defensive, but this is what I would consider an aggressive dividend portfolio. The industries, such as consumer discretionary, are generally expected to perform significantly better in a prolonged bull market and worse in a bear market. Despite being fairly aggressive, I have to appreciate that they incorporated utilities with a respectable weight. It may only be 11%, but many dividend ETFs underweight the utility sector. That is something the investor can deal with by grabbing a separate ETF with the utility exposure, but this one incorporated it which is nice for adding a little stability to a pat of the market that is generally going to be more volatile than the S&P 500. Volatility I ran a regression on DES and compared it with the S&P 500 since June of 2006. The annualized volatility on DES was materially higher at 27% compared to 21.1% for SPY and during the market crash shares had a max drawdown of 65.6% which is fairly massive. Since then the ETF has not been able to catch up with SPY which may largely be a function of how severe the losses were during the downturn. Conclusion DES offers investors a fairly substantial dividend yield on small capitalization investments. For the dividend focused investor, this is a viable way to get access to smaller capitalization companies, but it does have a very significant amount of volatility so investors would be wise to ensure that the position is used as part of a larger diversified portfolio. If I could change a few things, I would be lowering the expense ratio, kicking out SEAS, and increasing the allocation to more defensive sectors to reduce the potential for losses during a weak market.