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WGL Holdings (NYSE: WGL ) Q3 2015 Earnings Conference Call August 6, 2015, 10:30 AM ET Executives Douglas Bonawitz – Head of Investor Relations Terry D. McCallister – Chairman, Chief Executive Officer, Chairman of Executive Committee, Chairman of Washington Gas Light Company and Chief Executive Officer of Washington Gas Light Company Vincent L. Ammann – Chief Financial Officer, Senior Vice President, Chief Financial Officer of Washington Gas Light Company and Senior Vice President of Washington Gas Light Company Adrian P. Chapman – President, Chief Operating Officer, President of Washington Gas Light Company and Chief Operating Officer of Washington Gas Light Company Gautam Chandra – Senior Vice President of Strategy, Business Development and Non-Utility Operations Analysts Operator Good morning, and welcome to the WGL Holdings’ Third Quarter Fiscal Year 2015 Earnings Conference Call. At this time, I would like to inform you that this conference is being recorded and that all participants are in a listen-only mode. We will open the conference call for questions and answers after the presentation. The call will be available for rebroadcast today at 1:00 p.m. Eastern Time, running through August 13, 2015. You may access the replay by dealing 1 (855) 859-2056 and entering pin number 91131626. I will now turn the conference over to Mr. Doug Bonawitz. Sir, you may begin. Douglas Bonawitz Good morning, everyone, and thank you for joining our call. Before we begin, I would like to point out that this conference call will include forward-looking statements under the federal securities laws. Forward-looking statements inherently involve risks and uncertainties that could cause our actual results to differ materially from those predicted in such forward-looking statements. Statements made on this conference call should be considered together with cautionary statements and other information contained in our most recent annual report on Form 10-K and other documents we have filed with or furnished to the SEC. Forward-looking statements speak only as of today and we assume no duty to update them. This morning’s comments will reference a slide presentation. Our earnings release and earnings presentation are available on our website. To access these materials, please visit wgl.com. The slide presentation highlights the results for our third quarter of fiscal year 2015 and the drivers of those results. On today’s call, we’ll make reference to certain non-GAAP financial measures, including operating earnings of WGL Holdings on a consolidated basis and adjusted EBIT of our operating segments. A reconciliation of these financial measures to the nearest comparable measures reported in accordance with Generally Accepted Accounting Principles or GAAP is provided as an attachment to our press release and is available in the Quarterly Results section of our website. This morning, Terry McCallister, our Chairman and Chief Executive Officer will provide some opening comments. Following that, Vince Ammann, Senior Vice President and Chief Financial Officer will review the quarterly results. Adrian Chapman, President and Chief Operating Officer, will discuss key issues affecting our business and the status of some of our principal initiatives. In addition, Gautam Chandra, Senior Vice President of Strategy, Business Development and Non-utility Operations, is also with us this morning to answer questions. With that, I’d like to turn the call over to Terry McCallister. Terry D. McCallister Thanks Doug, and good morning, everybody. I am pleased to be able to report to you that WGL is on track to deliver strong results and record earnings per share in fiscal year 2015. Our non-GAAP operating earnings for the first quarter is shown on Slide 3 in our presentation were $10.7 million or $0.22 per share compared to $0.8 million or $0.02 per share in the third quarter of 2014. On a non-GAAP basis, consolidated operating earnings for the first nine months were $159.8 million or $3.39 per share. This compares to $147.8 million in the prior year or $2.85 per share. The increase in operating earnings in the third quarter were driven primarily by strong results in our retail energy-marketing segment as shown on Slide 5. Our commercial energy systems and midstream energy services segments also reported improved results year-over-year. At the utility, our customer base continued to grow as average active customer meters increased by approximately 13,000 meters year-over-year for the third quarter representing a 1.2% growth rate. Regulated utility and its customers benefited from asset optimization results in the quarter. We also saw increased earnings in the segments from rate recovery related to our accelerated pipe replacement programs. On the utility regulatory front we received positive news regarding our recent filings to expand both our Maryland STRIDE and Virginia SAVE accelerated pipe replacement plan. We’re also excited about our announcement in May regarding an investment in gas reserves, serve our utility customers in Virginia. Adrian will talk more about these developments shortly. On the non-utility side of the business, as previously mentioned, our retail energy-marketing business performed well. With electric margins significantly higher than third quarter of last year. Here we have continued to execute plans that we’ve laid out on past call, we’re focused on large commercial and government accounts where longer term strategic relationships could provide additional value. Also, our pricing practices now include managing the risk of higher PJM cost. We forecasted at the end of 2014 that business has continued on the path back to historical levels of profitability. The result in this segment during fiscal year 2015 has exceeded our expectations and partly reflect specific market opportunities unique to this fiscal year. Over the long term, we’re still targeting adjusted EBIT for the retail marketing segment in the range of $50 million to $55 million per year. Given our results through the first nine months and our earnings outlook for the remainder of the year, we are raising our consolidated non-GAAP earnings guidance by $0.20 per share, to a range of $2.90, to $3.10 per share for fiscal year 2015. I’m now going to turn the call over to Vince, who will review our third quarter results by segment. Vincent L. Ammann Thank you, Terry. First, I would like to remind you that beginning with the first quarter of fiscal year 2015, we’ve made a change to our practice of discussing earning results at the segment level. While we continue to use operating earnings per share at a consolidated level, we are now using non-GAAP adjusted earnings before interest and taxes or adjusted EBIT to discuss results at the segment level. This change provides more clarity by allowing us to discuss the performance of each business unit, prior to the impact of interest expense, taxes and accretion and dilution. Turning first to our utility segment. Adjusted EBIT for the third quarter of fiscal year 2015 was $6.5 million, a decrease of $1.4 million compared to the same period last year. The drivers of this change are detailed on Slide 6. Higher results from our asset optimization program added $5.2 million in adjusted EBIT. Higher revenues from our accelerated pipe replacement programs added about $1.2 million in adjusted EBIT. The favorable effect of changes in natural gas consumption patterns in the District of Columbia added $1.5 million in adjusted EBIT. These items were offset by higher O&M expenses driven primarily by higher labour, marketing and employee incentives cost, partially mitigated by lower employee benefit cost. These impacts collectively reduced adjusted EBIT by $6 million. Higher appreciation expense also reduced adjusted EBIT by $1.9 million, reflecting growth in our investment and utility plan. Other miscellaneous items reduced adjusted EBIT by $1.9 million. Turning to the retail energy-marketing segment adjusted EBTI for the third quarter of fiscal year 2015 was $18.7 million, an increase of $13.7 million compared to the same period last year. On Slide 7, you will see that the increase was driven primarily by higher electric gross margins with higher natural gas gross margin also contributing. Electric margins increased by $9.9 million, mostly driven by lower capacity charges from the regional power grid operator PJM as well as slightly higher sales volumes. These positive benefits were slightly offset by increased PJM capacity costs that took effect in June 2015, which impacted the timing of margin recognition for fixed price retail contracts. Electric volumes increased 4% in the third quarter versus the prior year, primarily due to warmer weather and the recent growth in our large commercial market. As Terry discussed earlier, our retail energy marketing business, has increased its focus on large commercial and government account relationships. In the natural gas business, gross margins were $4.4 million higher, due to lower natural gas purchase cost and favorable gas supply and pricing opportunities. Natural gas volumes decreased 3% in the third quarter versus the prior year, primarily due to a decline in the mass market customers. This decline is also related to our increased focus on commercial and government account relationships. Next, I’ll move to the commercial energy systems segment. Adjusted EBIT for the third quarter of fiscal year 2015 was $7.8 million compared to $5.7 million in the same period last year. The increase reflects growth in distributed generation assets in service, partially offset by higher operating expenses. During the third quarter, our commercial distribution generation assets generated over 45,000 megawatt hours of clean electricity which was sold to customers through our purchase agreements. We remain on track to invest at least $150 million from commercial solar and other distributed generation projects during fiscal year 2015 with a potential to exceed that amount by 10% based on the timing of the projects in the pipeline. Next, I’ll move to the midstream energy services segment. Results for the third quarter of fiscal year 2015 reflect an adjusted EBIT loss of $1.4 million, compared to an adjusted EBIT loss of $4 million in the same period last year. The improvement is associated with storage transactions that occurred in this quarter. Results for our other non-utility activities reflecting adjusted EBIT loss of $1 million compared to a loss of $1.9 million, the same period of prior fiscal year. Improvement is primarily related to lower business development expenses in the current period. I’ll now move to discuss the interest expense on a consolidated basis to the third quarter. Interest expense increased to $13.1 million, during the third quarter compared to $9.5 million in the prior period. The increase was primarily driven by increased long term debt issued by both Washington Gas and WGL. As Terry stated earlier, we are increasing our consolidated non-GAAP operating earnings estimate as shown on Slide 8. We are forecasting non-GAAP earnings in the range of $2.90 to $3.10 per share. The increase is primarily due to strong performance at our utility and retail energy marketing businesses. Utility results are higher than expected, primarily due to asset optimization opportunities. On the non-utility side, we anticipate that excellent results on the retail energy marketing business will offset lower earnings from our midstream energy services business. I’ll now turn the call over to Adrian for his comments. Adrian P. Chapman Thank you, Vince and good morning, everyone. I’m pleased to provide you with an update on our operations and regulatory initiatives. In Maryland, we filed an application with the public service commission for approval of an amendment that expands our currently approved STRIDE plan. Washington Gas requested approval to add one additional program applicable to gas distribution system replacement and four additional programs applicable to transmission system replacements at an incremental investment of $31 million over the remaining four years of the STRIDE plan. This was our first inclusion of transmission pipe related replacement. On May 27, the chief public utility law judge issued a proposed order approving with modification the proposed amendment. Proposed order allowed accelerated recovery of cost related to transmission system replacements, located in Maryland, but excluded from the accelerated recovery program costs related to transmission system replacements, physically located outside of Maryland. This decision was contrary to how common transmission related costs have been recovered in rate case. Washington Gas appealed that portion of the decision to the full commission. On July 2nd, the PSC affirmed the proposed order, which approves an incremental capital expenditure of $18 million over the remaining four years of the plan. On July 30th, Washington Gas filed an appeal with the circuit court of Montgomery County to challenge the PSC decision to deny recovery through the surcharge mechanism of cost related to transmission system replacement projects located outside of Maryland. Notwithstanding the transmission related cost under appeal, we do have approval to spend an additional $4 million to $5 million per year on distribution and transmission replacements through 2018. In Virginia, we submitted an application to the state corporation commission in February, requesting approval to amend our current save plan to expand the scope of some existing programs to include new distribution facility replacement programs and to add new programs to replace transmission facilities similar to those proposed in Maryland. Washington Gas proposed investing an additional $75 million to replace, eligible infrastructure. The Company requested approval for the amended SAVE plan through December 31, 2017, which is the expiration date of the previously approved SAVE plan. On June 5th, the SEC approved the amended SAVE plan, however the commission excluded a small portion of the proposal to replace transmission facilities and the portion of the proposal to include new distribution facilities in the accelerated replacement program. The SEC in Virginia approved an incremental capital expenditure of $66 million through 2017, the new incremental billing factor which put in place on August 1st. Also in Virginia, a new law allows local distribution companies to recover a return of and a return on investments in physical gas reserves that benefit customers by reducing cost, price volatility or supply risk. On May 6th, Washington Gas entered into a 20-year agreement with Energy Corporation of America to acquire natural gas reserves through non-operating working interest in 25 producing wells located in Pennsylvania for $126 million. The purchase of the reserves is conditional upon approval by the Virginia SEC. Washington Gas filed an application with the SEC on May 12th for approval of the gas reserves purchase agreement, this part for the natural gas supply investment plan. Under the procedural schedule established to consider the application testimony from the Virginia SEC staff is due on August 26 and a public hearing is scheduled on September 30. Under the law, the SEC must issue a final decision of the application within 180 days or by November 8. Finally, I’m also pleased to announce that we’ve recently reached a new five-year collective bargaining agreement with the International Brotherhood of Teamsters, Local 96, that was effective June 1st and will continue through 2020. This contract, which covers approximately 520 employees strengthens our ability to work together with our unions to achieve excellence for our customers, investors and employees. I would like to now turn the call back to Terry for his closing comments. Terry D. McCallister Thank you, Adrian. I’d like to now highlight a few recent developments and provide an update over the status of our midstream and distributed generation investments. First, an update on our investments in the Constitution Pipeline project. We continue to wait for a permit from the New York State Department of Environmental Conservation. We remain optimistic that construction can begin in the next few months. As of June 6, WGL Midstream, had invested approximately $26 million on the Constitution Pipeline project. Next, I’ll turn to our investment in the Central Penn line. The Central Penn line is a greenfield pipeline segment of Transco’s Atlantic Sunrise Project. This project is on track and the development activities are proceeding as expected. The Central Penn line has a projected in service date in the second half of calendar year 2017. WGL Midstream will invest approximately $412 million in the Central Penn line project. As of June 30, our subsidiaries had invested approximately $22 million. Next I’ll provide an update on our investment in the Mountain Valley pipeline project. Mountain Valley pipeline is a 300 mile pipeline in West Virginia and Virginia, and will help meet the increasing demand for natural gas in the mid-Atlantic and Southeast markets. The project is on track and development activities are proceeding as expected. Mountain Valley pipeline has a projected in service date in the second half of calendar year 2018. WGL Midstream will investment between $230 million and $245 million on the Mountain Valley pipeline project. As of June 30, WGL Midstream has invested approximately $6 million. Finally, an update on additional opportunity to invest in infrastructure that we first announced last December. As we discussed with you previously, we have an option for a 30% interest in a $400 million plus gathering system in West Virginia. This gathering system will help move gas out of production field to West Virginia to an interstate pipeline system where transportation to the mid-Atlantic region. The anticipated in-service date is now late 2015 or early 2016. We continue to evaluate additional midstream opportunities similar to the projects announced to date as we pursue our strategy to provide infrastructure solutions to move gas from producing areas to consuming areas. Turning to our commercial energy systems business, we continue to add our portfolio of distributed generation assets. As of June 30, we have 115 megawatts of installed distributed generation. We also have an additional 40 megawatt currently under contract or in construction. In total, these projects represent over $520 million in capital investment and we continue to see a robust pipeline of future projects. I want to highlight one solar project in particular this quarter as it represents our first project in the State of Colorado. WGL Energy Systems recently signed an agreement to build and operate a 1 megawatt solar project in Fort Collins, Colorado. The project is expected to be in service by December 2015 and WGL Energy Systems will own and operate the solar project for 20 [ph] years as per our agreement. In July, Washington Gas celebrated the opening of the first of three plans public CNG fuelling stations for compressed natural gas vehicles. The new station located at Washington Gas facility in Frederick, Maryland will be operated and maintained by Trillium CNG. Later this summer Washington Gas and Trillium expect to open a second public fuelling station in Forestville, Maryland and a third station is being planned for the District of Columbia. We’re proud to add this service to the spectrum of energy answers we offer at WGL. In addition, WGL Energy Services, recently teamed up with SolarCity to offer our residential customers in Maryland, Delaware, Pennsylvania and the District of Columbia the opportunity to choose clean, renewable energy by installing a custom-designed solar energy system. Through this innovative marketing partnership our customers in these areas may now choose to install a SolarCity solar system at no upfront cost and pay less than traditional electric utility bills. This residential solar option will complement our existing operating business segment which includes wind power for electricity and carbon offsets matched to natural gas usage. We will provide detailed fiscal year 2016 guidance during our year-end conference call in November. However, based on the progress we’ve made in a number of important areas we feel confident and we’re on track to deliver the earnings growth goal in our long-range financial plan. That concludes the prepared remarks and we’ll now be happy to answer your questions. Question-and-Answer Session Operator And our first question comes from the line of Michael Gallagher. Michael Gallagher Congrats on the really strong quarter. I’ve only got two questions. First, the performance from retail marketing was impressive. Just wondering, how we should think about fiscal 2016. Are these results sustainable or are they a potential headwind next year? Vincent L. Ammann Michael this is Vince. We’ve provided some guidance there, that there were some market opportunities that we saw this year that allowed us to really exceed our expected results, probably even exceeding the long term goal of $50 million to $55 million certainly at the high end of that range. So, we’re probably looking at a 2016 that will be slightly less than what we’re able to achieve this year. Gautam, if you have anything more to add? Gautam Chandra Yeah Michael, I will just add, I think we’re still looking at what we initially kind of projected. And a couple of years ago, we’ll bring this headwind back to its historical level, the $50 million to $55 million, we still see that as very achievable, going into next year, but probably not. I wouldn’t forecast the additional margins we would realize this year into next year. Michael Gallagher Then on Central Penn, I’m wondering if you’ve determined yet where the interconnect is going to be in Southern Pennsylvania. Vincent L. Ammann I think we have a pretty good idea, but I don’t think the partners have announced that yet. Terry D. McCallister Yeah, I don’t think that’s public information yet. Michael Gallagher Okay, that’s all I had gentlemen. Thanks. Operator [Operator Instructions] Again, I would like to remind everyone that you can listen to a rebroadcast of this conference call at 1 p.m. Eastern Time today, running through August 13, 2015. You may access the replay by dealing 1 (855) 859-2056 and entering your pin number 91131626. Douglas Bonawitz Thanks everyone for joining us this morning. If you have any further questions, please don’t hesitate to call me. It’s Doug Bonawitz at (202) 624-6129. Have a great day. Scalper1 News
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