ALLETE Inc (ALE) 2007 Q2 法說會逐字稿

This call is being recorded. Your line will be muted for the presentation, then we will conduct a question and answer period. (OPERATOR INSTRUCTIONS)

This conference may contain forward looking statements within the meaning of Federal Securities laws including statements concerning business strategies and their intended results and similar statements concerning anticipated future events and expectations that are not historical facts.

These forward looking statements are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. The forward looking statements in the earnings release distributed this morning reflect management's best judgement at this time but all such statements are subject to numerous risks and uncertainties which could cause actual results to differ materially from those expressed in or implied by the statement they're in. Additional information concerning potential factors that could be affect--that could affect future financial results is included in the company's annual report, and from time to time, in the company's filings with the SEC.

At this time, I would like to introduce the Chairman, President and Chief Executive Officer, Mr. Donald J. Shippar. Please go ahead sir.

Good morning. This morning, I'm joined by our Chief Financial Officer, Mark Schober. Today we reported second quarter earnings per share of $0.80 compared with $0.47 last year, a 70% increase. Two large sales out of lead properties significantly impacted our quarterly results. The first was a sale of a 50-acre site in the Town Center at Palm Coast development for $12.6 million. The second was a first phase of Sawmill Creek within the Palm Coast Park development for $13.1 million to a subsidiary of Lowe Enterprises. We had anticipated both of these transactions to occur this year. Allete Properties contributed about half of our earnings for the quarter.

I'd like to remind that you earnings from this business will vary based on the timing and the mix of land sale transaction closings. In other words, while we are very pleased with its earnings--with the earnings this quarter, don't expect an $11.5 million net income contribution from our real estate business every quarter. Mark will now provide you some of the financial details for the quarter, and then I'll follow-up with some additional comments before we take your questions. Mark?

Good morning. Income from our energy business, which is comprised of the regulated utility, non-regulated energy operations and investment in ATC segments was slightly ahead of the second quarter of 2006. Its combined net income contribution was $8.6 million compared to $7.7 million a year ago. The regulated utility reported net income this year of $6.1 million dollars versus $6.8 million last year. Kilowatt hour sales were essentially the same as in the second quarter of 2006. Operation and maintenance expenses was higher in 2007 due to higher maintenance expense resulting from planned outages at Boswell Unit 3 and Taconite Harbor Unit 2.

Regulated utility revenue increased $32.5 million over the same quarter in 2006. This was primarily due to fuel clause recoveries related to higher purchase power expense caused by these planned outages. The area in Boswell 3 emission reduction projects are progressing on schedule. As of the end of the quarter, we had spent $29 million of the expected $60 million on the area project, and $33 million of the expected $200 million on the Boswell 3 project. Energy from non-regulated energy operations were similar to those in the second quarter of 2006. And income from our investment in ATC was $1.9 million more than last year because of the higher investment balance this year. At June 30, we had an investment balance of $64.4 million. We made our initial investment in ATC in late May of 2006, so its earnings contribution a year ago was minimal.

Income from our real estate business was $11.5 million during the second quarter, more than twice last year's amount. Don already mentioned the two large sales included in this quarter's results. At the Town Center project we sold 435,000 commercial square feet for $12.6 million, or about $29 per square foot, and 130 residential units for $1.6 million or about $12,300 per unit. At the Palm Coast Park project, the $13.1million Lowe closing represented the sale of 406 residential units for $11.1million, or $27,300 per unit, and 40,000 commercial square feet for $2 million, or $50 per square foot.

As of June 30, our real estate business had total pending land sales under contract of $79.8 million. Prices on these contracts range from $20 to $60 per commercial square foot, $8,000 to $30,000 per residential unit and $11,000 to $830,000 per acre for all other properties. Some of these contracts also have the potential for additional participation revenue. The $79.8 million pending contract number includes the effect of a renegotiation of the Lowe contract. Under the revised terms, the total purchase price for the low contract was reduced from $52.5 million to $42 million with the opportunity to make up the difference with participation revenue. Lowe has the option to extend the remaining closing with the final closing to occur by 2011.

In our other business segments, second quarter earnings were $2.5 million versus $300,000 a year ago. This quarter's results included a $1.5 million resolution of a tax audit and the release of a loan guarantee we had made for the now vacant Northwest Airlines maintenance space in Duluth for $600,000. At June 30, our balance sheet remained strong with $159 million of cash and short-terms investments and a debt-to-capital ratio of 38%. Don?

Thanks, Mark. As we look forward to the rest of this year, we now anticipate our 2007 earnings per share will be within the $3.00 to $3.05 range. This guidance takes into account year-to-date earnings of $1.73 per share and includes the following expectations. As many of you are aware, the residential real estate market has been soft across the United States, and Florida is no exception. This slowing market has not improved as quickly as we had originally expected.

Based on our latest estimate of the timing and mix of real estate sales, earnings from this business in the second half of 2007 will be lower than the same period a year ago. Some sales originally anticipated to close in 2007 are now being delayed. Due to these delays, we expect the total year net income contribution from the real estate business to be less than it was in 2006, which was the largest earnings year ever for Allete Properties. Earnings from our investment in ATC will be higher in the second half of 2007 than the second half of last year due to a higher investment balance this year.

We continue to expect a high demand for electricity at our regulated utility business and will see the gradual income effect from cost recovery of capital expenditures for our environmental initiatives. We also anticipate normal weather patterns in our electric service territory for the remainder of this year. In the third quarter of 2006 we experienced warmer than normal weather, which boosted earnings. I'm pleased with our results so far in 2007. Despite the current real estate market conditions, we expect to achieve results toward the higher end of our original earnings per share guidance range. Both of our primary businesses are performing well in their respective markets.

Beyond 2007, we are excited about Allete's long-term growth prospects. We believe that Florida will continue to experience above average population growth and that the current soft market conditions will improve over time. We have a large inventory of already-entitled residential and commercial land available for sale in the fastest growing area of that state. This represents a lot of value as we sell this inventory over the next 7 to 10 years. Our regulated utility business will more than double its rate base assets over the next few years, and a significant portion of that growth will come from investments in environmental initiatives that are allowed current cost recovery.

In addition, Minnesota Power may see incremental sales growth if any of the number of potential new industrial customers begin an operation. One of those potential customers, PolyMet Mining, has already signed an electric service contract with us. And our investment in ATC will grow over time as we participate in future capital calls. Now, at this time, I'll ask the operator to open up the lines for your questions.

Thank you. (OPERATOR INSTRUCTIONS) And we'll take our first question from James Gentile with [Newland] Capital Management.

Hi, guys. How are you doing?

Good morning.

I actually thought it was a very solid quarter that you all put up. Looking--I guess I just kind of want to look at the underlying asset values associated with Allete. Following the take downs of the take down at Lowe and then the commercial sale, how many acres do you have avail-- Is it still around 14,000?

Yes, it is, if you go to our 10-Qs, Jim, we layout the remaining property we have. Yes. It's all there. So, our total acres is about 13,000 acres that's left.

Okay. And then on an average value approximating, call it $26,000 to $30,000, plus or minus some of the bigger commercial sales. That would articulate at the very least $11 or $12 a share in underlying Allete value. Could you comment on the underlying asset value versus what's being held on book right now?

Yes. Similar to the discussions that we have had in the past, Jim, we don't comment on the underlying value or future value of our real estate. But what we try to give you in the queue is some of our historical activity, actual sales and the values and the prices in our pending contracts. So that's the most relevant information that we can give you to value our real estate business.

Absolutely and then there's a line in the press release that articulated some higher maintenance expenses associated with the Boswell work. Could you perhaps help us quantify that?

We had several large outages this quarter--for this half of the year.

Unusual.

Yes. Three of our units down. A total increase in our own [MCROSS] was probably about a couple of million dollars.

Okay. Great. And then with regard to the ATC, the higher investment balance, there have been some positive asset value realizations for transmission and distribution assets in neighboring states. And I was understanding your equity position in ATC versus some of the larger investors that are investor-owned. Could you kind of comment on some of the language that you're hearing with regard to monetization of those assets or certain changes of structure, whether it be through an initial public offering or even a restructure?

Well, as you know, we--our investment is simply an investment. We don't sit on the board, if you will, of ATC.

Of course.

And don't have access to any of their discussions they have or may be having. We certainly see the investment in transmission as being very attractive. And I think we've indicated in the past, and we continue to feel very strongly that any opportunity to make further investments or participate in capital calls are certainly as our expectation. We'll be there.

And then finally, if you kind of look under the hood a little bit and if you take into account the environmental investments that you're making for your existing generation capacity and the addition of future--current and future mining customers, I mean, explain that perhaps there could be a doubling of the rate base and the underlying Minnesota Power asset over the next you know five years or so. I mean, that offers underlying, very compelling underlying growth characteristics relative to other investor-owned utilities, correct?

Right. I think we--we're projecting that our rate base will probably slightly more than double over the next several years.And I think the other key point is about half of that investment is eligible for current cost recovery. In other words, we've got legislation that's been passed and very favorable to allow us to recover on those investments as we're building them and then as they go into service. The remainder, of course, we would have to proceed with future rate cases to get recovery, but we certainly think the environment's very positive for that and don't anticipate that that's going to be any kind of a--any kind of a significant issue to get recovery on all those investments.

In particular to the state of Minnesota, no?

That's correct. Yes. The environment here is very favorable. And obviously the legislation that's been passed clearly addresses issues--air quality issues. We do see mercury reducing [SO2 knocks], all of those--those issues. And so we don't anticipate any significant challenges there.

And then just kind of a little bit of longer term, Allete corporation has quite the history of allocating capital appropriately and paying shareholders an above-average return on investment. You are currently undercapitalized relative to the regulations that facilitate a 50% debt-to-total capital scenario. But, could you comment on--in the past--in past meetings you had alluded to certain opportunities to perhaps add another leg to the stool through acquisition. Could you comment on where--where Allete is in that process?

Well, we continue to look for opportunities. Our strategy has and continues to remain the same as we articulated back in 2004 in that we're obviously looking for opportunities to expand in the utility business. We're looking for opportunities to expand in the real estate business, and we're looking for other business opportunities, i.e. a third leg or other areas where we would expand that aren't in the real estate area like our utility area.

We've got people and have had people involved in that effort and continue to look for those opportunities. Our strategy remains the same and that's our direction today. Mark, maybe you want to talk about the capitalization issue.

Yes. Our capitalization, as I mentioned, where our debt ratio we're down at about 30%, 38% to 39%. That number will continue to grow just based on the planned growth within the utility.

Yes.

So we will be moving up toward a higher debt ratio. Not significantly higher. But then as we look at other businesses, we'll capitalize those businesses as what's appropriate for that industry.

Great. And could you comment on the cash balance at the end of the quarter?

Cash balance at the end of the quarter is up a little bit. Now that's primarily driven by the new debt. We issued $50 million of new debt in June. Some of that went into utility capital expenditures with the balance still on the balance sheet in cash. So that will be utilized going forward for the utility growth. Our goal is to keep that number right around $100 million to provide the flexibility to do future acquisitions.

Thank you. We'll take our next question from [Ute Pacsong] with Zimmer Lucas Partners.

Good morning, gentlemen.

Good morning.

I guess my first question would pertain to the environmental CapEx. When would you expect the Area--the $60 million for Area--and also the Boswell to be done?

A couple of things going on. When you look at Area, those units will be complete by the end of next year. But they flow through to our customers as each unit is, the construction is completed at each unit. So effective with July here, we have two of the area units are up and running and in service. So those costs are running through to our customers. Boswell Tree is a longer-term project. That will come on line 2009. And because that is a longer-term investment, we will get cash return on quip, and we envision that starting in early next year, early '08.

How many units are there for Area?

Area there's a total of six.

So it's like one-third down the path?

Five. Yes. Yes.

Is there--are there currently any plans for increase investment at the American Transmission Company?

Well, we, under our current investment, we have the opportunity to participate in their future capital calls. And they give us a forecast of what they think those are over the next several years and as I mentioned earlier, certainly it's our intent that as those are extended to us, those opportunities to invest, our expectations, we will make those additional investments.

I see. When would we expect to I guess get your clarity on how much more capital you are going to invest through the capital calls?

Well, it's hard to give you clarity as we get--basically we get in quarterly notice of what the anticipated capital call's going to be. And then we are again offered the opportunity to invest at our pro-rata share which is probably, what now, about 8%, Mark? Or a little above 8%?

Yes.

So it's going to vary from quarter to quarter depending on their schedule, their construction, where they are in their build efforts. And so we don't provide, if you will, forecasts on that. Publicly.

I see. And my last question pertains to real estate. Can you kind of give us more color with regards to the contract renegotiation for Lowe--for Lowe development? I think you said before that the contract price was reduced by $10 million, was it it?

Yes the contract price was reduced by $10,500,000. $10 million of it had to do with residential. We still feel it's a very good contract, a strong contract. Very good pricing. And then what happens with that $10 million is we hope or we have the opportunity to recoup that going forward, as Lowe builds out through participation revenue.

What kind of brought you back to the renegotiation table? Were they thinking about perhaps pulling out or--

Well, I think as we mentioned earlier, the market in Florida, the real--particularly the residential real estate market has certainly become soft, and I think there certainly were issues being raised or discussed about extensions and pushing things off into the future which then resulted in us, in essence, renegotiating and coming to an agreement in the terms that we described today and the significant take down, if you will, that they made here several weeks ago on the first phase of that project. So it all fits into that overall scenario of the current market and the expectations for the future.

A couple of other points, too. It's important to get this first take down behind us, to get the Palm Coast heart project moving forward. It will become then more likely that Lowes will take down the rest that's due through 2011. And just to highlight then that this is the only contract that we've made any price changes on. In the last quarter we've had no cancellations and a few minor extensions, but we haven't had any other material changes to any of our pending contracts.

Just to reiterate again, too. On the Lowe, I mean, residential units averaged over $27,000 per unit and the commercial property over $50 a square foot, which we think is still a very attractive price.

Are any other buyers looking to renegotiate?

Well, we're always in discussion with our buyers. And there's always ongoing discussions. And like any other business, there's always--the dynamics of that is always there.

And is the Ormond Crossings project basically still on track?

Yes. Still on track. We anticipate, I believe, our first sales there, Mark, are in 2009? Or 08?

Nine, nine, nine.

Yes, so we're on track as far as our efforts there and where we are with our build-out plans, plotting, etcetera and plans for that whole development.

All right. That's all my questions for now. Thank you for your time and congratulations on a great quarter.

Thank you.

Thank you. (OPERATOR INSTRUCTIONS) We'll go next to Jim Schwartz with Harvey Partners.

Hi guys. Quick question.Just the previous--I guess caller (inaudible) asked about doubling the rate base. Do you anticipate that over the next five years? And just curious. If that will probably make you guys the fastest-growing utility. So over the next five years you anticipate doubling your rate base?

Yes we do. I don't know if it makes us the fastest-growing utility. But it certainly leads to some interesting growth opportunities for us. But that will go in through 2012, 2013 time line.

Okay. Great. And then on ATC. I mean, the only public comp I guess is ITC? Roughly is that?

I think that would be, yes, that's--I think would be a good--a good benchmark.

Okay. Which-- So that's at 11 times revenue. So--and do you--the other caller asked about capital calls for ATC. I mean, do you anticipate--I mean, your--I would think your equity investment would probably double over the next couple of years. Is that conservative to think?

We can't really comment on that because so much of that depends on their construction schedule, when they get permits and approvals for their different projects. They've got several projects currently in the planning or permitting stages. But it's very hard to predict, if you will, when those are going to ultimately get finalized and go into construction. So we don't--we're very careful about not making projections about years of when we think these capital calls are actually going to occur.

Okay. And then, I mean, I know Minnesota is a non-choice state. I'm just--are--how many other states are non-choice out there?

I--I don't know an exact number. But I would say it would be somewhere probably around 21, 22.

Okay. Thanks, guys. Great, great job.

Thank you, that will conclude our question and answer session. And I'd like to turn the conference back over to Mr. Shippar for any additional or closing remarks.

Well thanks, all of you for joining us this morning. And we look forward to speaking to you in October, when we will be reporting our third quarter results. Good morning.

Thank you, and ladies and gentlemen, that will conclude today's conference. We do thank you for your participation, and you may disconnect at any time.