Avista Corp (AVA) 2003 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Quarter Three Avista Corporation's earnings conference call.

My name is Caitlin and I will be your coordinator today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. (OPERATOR INSTRUCTIONS).

As a reminder, this conference is being recorded for replay purposes.

I would like to now turn the presentation over to your host, Mr. Dave Brukardt, Vice President and Treasurer for Avista Corporation.

Good morning and welcome to Avista's third-quarter 2003 earnings conference call and Web cast. Avista's earnings were released pre-market this morning.

With me today in our offices in Spokane, Washington, are Avista Corp.'s Senior Vice President and CFO, Malyn Malquist; the President of Avista Utilities, Scott Morris; the President of Avista Energy, Dennis Vermillion; and Avista Vice President and Controlling, Kristy Burmeister-Smith.

Our Chairman, President and CEO, Gary Ely, is away from the office participating in American Gas Association meetings this week. You may have heard that Gary has recently been elected to the Board of Directors of AGA. He will be joining Malyn, Scott and I at EEI next week and he is looking forward to seeing many of you there.

As we begin this morning's conference call, I will caution you that during today's conversation, we will be making forward-looking statements that involve risks and uncertainties, which are subject to change. I would direct you to Avista's latest forms 10-K and 10-Q filed with the SEC and available on our Web site for reference to the various factors which could cause actual results to differ materially from those contemplated to the extent these factors are not discussed on the call.

I would also like to let you know that we will be using some PowerPoint slides to help illustrate our remarks, as we did last quarter. These slides will be available to download from the Web cast site hosted by CCBN or, following this presentation, from Avista's Web site at www.Avistacorp.com.

Now, I will turn this conference call over to Avista's Senior Vice President and Chief Financial Officer, Malyn Malquist.

Good morning, everyone. As you may know, the third quarter of the year is historically the weakest quarter for our company, and this year is no exception. But I'm pleased to report that we have performed better than our internal targets and remain on track in our financial recovery.

As slide one shows, for the third quarter of 2003, we are reporting net income available for common stock of $4.3 million and earnings of 9 cent per diluted share.

For the year-to-date, we are reporting $28.3 million of net income available for common stock and earnings of 58 cents per diluted share.

In terms of our business segments, in contrast to last year's losses, it is notable that Avista Utilities had a positive third quarter, earning 2 cents per diluted share, and the Energy Marketing and Resource Management segment contributed 10 cents per share this quarter. In fact, Avista Energy just completed its 14th consecutive quarter with positive earnings.

While Avista Advantage lost a penny per share this quarter, its cash flow has been positive for six consecutive months. This is a significant improvement over where Avista Corp. stood last year and I believe a reflection of the numerous successes we've achieved this year. You'll hear more about each of these segments this morning.

With that backdrop, I'd like to turn this call over to Scott Morris, President of our Avista Utilities division, to talk about the highlights of the third quarter for our regulated business.

Good morning. Before I give you an overview of our activities this quarter, I want to share our performance review.

On slide two, you'll see that Avista Utilities recorded net income for the third quarter of '03 of $.9 million, compared to a net loss of $.5 million this time last year. While natural gas gross margins were down during Q3 of '03 compared to the same time last year, electric gross margins were higher. The electric margins were partially due to increased per-customer usage as a result of a warmer than normal summer.

Also contributing to the increase in gross margins for '03 compared to '02 was the initial $4.5 million of excess power costs that the Company absorbed under the Washington Energy Recovery Mechanism during the third quarter, 2002, which reduced electric gross margins for that period.

Our summer was not only warmer than normal, but also much drier. This was the fifth warmest summer on record for average high temperatures in Spokane, and the second driest summer, with only towards two-thirds of an inch of prec during the third quarter. We normally receive about 2 1/2 inches over the summer. Our hydro forecast calls for 2003 stream flows to be approximately 85 percent of normal and our production to be 500 average megawatts, or 90 percent of normal. Earlier this year, we were predicting 93 percent of normal hydro production, so we have experienced a minor decline in expected production.

Slide three will give you an overview of our activities in the regulatory arena during the third quarter. Purchased gas cost adjustments have been improved in each of our four jurisdictions with increases ranging from 2.4 to 15 percent. In Oregon, the Public Utility Commission approved a settlement agreement for Avista's general rate case granting us a 10 percent overall rate increase effective October 1. This has resulted in increased annual revenues of $6.3 million beginning on October 1st and provides for an overall rate of return of 8.8 percent and a return on equity of 10.25 percent. While the 10 to 5 percent might appear low, we are allowed to earn on a hypothetical 48 percent equity ratio which is higher than our current actual book equity.

In Idaho, our request for a continuation of the 19 percent surcharge that would have expired on October 11th was extended for an additional 60 days to allow the Idaho Public Utility Commission more time to fully consider the application. The IPUC staff recommended that approximately 5.9 million of the deferral balance in Idaho be eliminated from the recovery mechanism. Avista has filed a response with the IPUC outlining our view that the costs were prudently incurred, and we are awaiting a decision from the Commission regarding our request to more fully address this issue as part of an electric general rate case, which we anticipate filing in Idaho in the first quarter of 2004. As you can see, we've been busy in the regulatory arena and we're working hard to maintain open communications with our regulators, their staffs and other interested parties.

One another topic I'd like to share with you briefly is Avista's significant investment in our transmission infrastructure. You can see the map of the projects on slide four. In the past few months, we began work on the first of a number of transmission system upgrade projects, which include approximately 100 miles of new 230 kilovolt transmission lines and building and upgrading substations. Through careful planning and coordination with the Bonneville Power Administration, this five-year undertaking, costing roughly $100 million, will reinforce the electric transmission grid throughout eastern Washington and northern Idaho, as well as help meet existing and future demands for electricity throughout our service territory.

Importantly, the Western Electric Coordinating Council has examined our planned expansion and supported the need for these projects. We anticipate completing these projects in 2006.

The economic vitality of the community we serve continues to be challenged. We are very focused on a number of economic development activities to help spur momentum in this area. In spite of the soft economy, overall, our customer growth rates continue in the 2 to 3 percent range in delay. As the year winds to a close, we've worked hard to control our costs and we anticipate meeting our operating and capital budgets.

At the end of September, we had spent 66 million of our 100 million capital budget, and our 2004 capital budget will be about $110 million, which will enable us to continue to strengthen our network system used to provide reliable power to customers throughout the region.

At this point, I'll turn the call over to Dennis Vermillion, our President of Avista Energy.

Good morning. I'm pleased to report that Avista Energy contributed 10 cents per share to corporate earnings in the third quarter through the Energy Marketing and Resource Management sector. As you know, we are a company focused on partnering with others to help them get the most value from their assets. We are successful at what we do because we take a disciplined approach to managing our business.

On slide five, you can see that because of these qualities, we've been able to produce earnings both in times of high market volatility and relatively calm markets. The top portion of slide five shows the daily (indiscernible) on-peak power prices and (indiscernible) daily gas prices. As you can see, in 2001, there's quite a large amount of volatility. That's the tail end of energy crisis -- and then lower volatility during 2002 and 2003. At the bottom of the chart shows or EPS. We did very well during highly volatile markets and relatively calm markets as wall.

Avista Energy has sufficient liquidity as well. As you can see in slide six, we have a fairly well balanced trading book with 48 percent of it convertible to cash within a year and an additional 47 percent converting to cash within one to three years and 5 percent converting to cash beyond three years. Also, I would point out that the majority of our forward book is valued against an actively traded market, not upon a theoretical marble.

One last point I'd like to share with you this morning concerns hedge accounting. During the quarter, we were able to implement hedge accounting practices as we said we would, and we expect that this will help take some variability out of earnings, going forward.

Two of energy's greatest strengths are its employees expertise in the Western energy markets and their reputation for excellent customer service. We continue to look for additional opportunities to help companies enhance the value of their assets. This is the strategic focus of our company, and this is what sets us apart from our competitors in the industry.

Now, I'd like to turn the call back to Malyn.

Thanks, Dennis. I want to underscore what Dennis just said about the disciplined approach to managing the business at Avista Energy. The three banks that recently granted Energy's first committed line of credit understand what Avista Energy does and how it operates. They have been instrumental in working with us to develop the parameters within which the Company operates in the evolving Western power markets. We strongly believe in Avista Energy and the value it brings to its customers and to our company.

Moving onto the other segments of the Company, Avista Advantage continues to see improvement. As we said earlier, it experienced positive cash flow for the past six months, and it is on its way to adding positively to our earnings in 2004.

On slide seven, you can see that Advantage is continuing its client growth, utilizing its facility IQ services, adding multi-site, national companies, including managing utility billings for the Lowe's home improvement stores across the countries.

Recently, Advantage entered into an agreement with Strategic Energy to bring a new commodity cooling mechanism into play for its customers. This will provide companies in deregulated states the opportunity to reduce their cost of purchased power through buying pools. We are pleased with Advantage's ongoing progress.

Last quarter, we reported that we reduced our ownership in Avista Labs through the investment by a private equity group and the formation of a new company called AVLB. Enterprise Partners Venture Capital recently joined the Equity Group with an investment of $5 million in AVLB. In addition, the other private investors elected to put an additional $1.2 million investment into AVLB. This reduces Avista's ownership to about 17.5 percent. Avista is relieved of the $1.5 million loan guarantee, and we have no further capital commitments to this business.

We may have a smaller piece of a much bigger pie. We are very pleased that Labs now has the capital to continue its current operations for at least the next 30 months. We believe this is a good opportunity for it to further establish itself as a leader in the fuel cell industry.

Taking a look at our financing activities this past quarter on slide eight, Avista issued $45 million in first mortgage bonds, the proceeds of which were used to repay a portion of the borrowings under our line of credit that were used on an interim basis to fund maturing debt. As of the end of September, we have repurchased $52 million of debt this year and continue on our way toward our goal of a 50 percent debt ratio.

Before we get to 2004 guidance, there are two other points I'd like to make. First, we were pleased to announce in August that our Board of Directors increased the common stock dividend by 4 percent. We see this as indicative of the Board's confidence in the future of our company. As we meet our financial targets in the future, we look forward to the Board again reviewing our dividend status. Of course, payment of dividends is subject to declaration and approval by the Board each quarter.

Second, our strong cash flow has allowed us to make the necessary contributions to our pension plan. Last year, we paid in $12 million in cash, and in 2003, we've already made cash contributions of $12 million through September. Over -- (technical difficulty) -- months, we expect to make additional cash contributions of approximately $15 million. Our goal is to have the pension plan's current obligations fully funded by 2006.

As we near the end of the year, Avista reaffirms its consolidated earnings guidance for 2003 of between 85 cents and $1.05 per diluted share. As we look ahead to next year, we will target our 2004 consolidated corporate earnings guidance in the range of $1 to $1.20 per diluted share, as shown in slide nine. This would include Avista Utilities earning between 75 cents and 90 cents and Energy Marketing and Resource Management earnings between 25 cents and 35 cents.

We look towards Avista Advantage being breakeven to slightly positive.

The Other segment continues to shows some improvement with the earnings drag lower in 2004 than it will be this year. The entities in the Other category are ongoing investments made years ago by our pensory units, which includes some investments in venture funds, a metal fabrication company and other smaller investments. Our goal at this segment is to reduce our commitments and divest of these non-core entities over time.

Overall, Avista continues on a firm course to financial stability with improved cash flows, an increased dividend, increasing earnings, decreased debt and with an eye firmly focused on restoring our investment-grade credit ratings. We are a company committed to a direct approach to business and to our future by investing in our infrastructure, developing our employees, and executing on our plans for revenue growth and cost controls.

Thank you for your interest and your time. Dave?

Thank you, Malyn. We will now open this call to investor and analyst questions. I would remind any members of the media who have questions to please contact Hugh Imhof at 509-495-4264. We are now ready for our first question.

(OPERATOR INSTRUCTIONS). Sam Brothwell of Merrill Lynch.

Good morning, everyone. Unfortunately, I wasn't able to catch the first part of the call. Your cousins out on the West Coast ran a little bit long. One thing I just wanted to -- as I look at your slide number nine, maybe you could just remind us -- when the gas cost contracts to keep your power cost track are pegged, when those roll off -- and as we look out to '05, if that goes away and some of the other miscellaneous drags that you've alluded to are deal with, is it reasonable to look for an earnings profile somewhere in the $1.50 a share area?

Let me ask Scott to address the first question, Sam, in terms of the gas contracts. Then I'll take the second part of the question. Scott?

The first half of the gas contracts rolled off in October of 2003, and then the final contract will roll out in October of 2004, so those will be behind us at that point. Then we will just have the normal (indiscernible) in Washington that we will have to deal with, and that really will depend on hydro and fuel and those kinds of things. But we should be in pretty good shape at the end of '04.

So I would anticipate that we might not absorb a full $9 million of debt (indiscernible), but I think the prices that we currently have perhaps don't fully reflect the power cost that we're currently experiencing. So, the question becomes, as Scott alluded to, what's hydro conditions like (sic) and those kinds of things. I would certainly hope that we're not eating the full debt band and would try to be positioning ourselves to do perhaps better.

You know, we've showed, in the past, a slide that suggests that the utility, when it is earning an 11 percent rate of return, should be earning about a $1.25. We're certainly working to try to get there over the next couple of years, Sam. If you were to add on top of that what Avista Energy might be able to do, I think you get into the range that you're talking about. We're certainly not giving earnings guidance for 2005 yet, but we would certainly hope to be working in that direction.

That's fine. When you say the 11 percent and $1.25, we've certainly heard that number before. Are you making any assumptions about -- because it sounds like you bake in some amount of eating into the debt band. Is that $1.25 assuming that there's no hit on that, or should we assume that you've factored some amount of eating into the debt band into that?

$1.25 would assume that there's no hit in the debt band, and I think, based on where we see energy prices today, we have a little bit of concern that we might still be eating into some of the debt band.

David Thickens (ph) of Deep Haven (ph).

Hello, Malyn. Sam asked most of my questions there. The one that I have is, in the past, you've talked about -- when you look at Energy Marketing and Resource Management and the interplay there and kind of the range, as well as looking at the interplay of the utility, usually when you are at the upper end of the utility in the past, you said you tended to be at the lower end of Energy Marketing and Resource Management and vice versa. They were somewhat countercyclical, or counter -- they ran -- when business was really good for one, it wasn't as good for the other and vice versa. Does that still hold true when looking at the guidance for the two pieces?

I think, David, as we've tried to move Energy more into a resource management kind of business, it is less true than it has been in the past. I think it still tends to be the case that, if we are in real volatile periods, that the utility can get hurt a little bit and volatility is really good for the Avista Energy business. So, there is still a little bit of countercyclical there. However, I think it's less than it has been in the past. Dennis, any further thoughts on that?

I think that's accurate. We tend to do better with the assets that we manage in markets that have more volatility.

I guess also, David, I would just add that now that we have tracking mechanisms in place in our jurisdictions for fuel and purchased power on both the electric and the gas decides, that that's taken quite a bit of volatility out of the utility earnings.

(OPERATOR INSTRUCTIONS). James Bellessa of D.A. Davidson & Company.

Good morning. Did you payoff some preferred stock? There was no preferred stock dividend requirement in the most recent quarter. Or is that getting thrown into the interest income line now?

I'm going to ask Kristy Burmeister-Smith, our Controller, to answer that question.

You're correct. Part of that is because of the new accounting requirement that moved that Preferred Stock (indiscernible) securities into debt so it's treated as interest. The statement did not allow us to retroactively change past statements.

There was a suit filed in the state of Montana this last Monday. It may be early for you to respond, but this suit is trying to collect from you, I guess, lease payments to the state of Montana for using their riverbeds over the last number of decades. Do you have any comments on that suit?

Jim, I think, at this point, really we don't. I think we're just going to go through the process and we will go ahead and we will address it as it comes forward. Really, we don't have much comment about the suit.

We're paying property taxes there, and that's been going on for quite some time, as you know. So, I think we just need to let this one work its way a bit. It's a little bit premature for us to comment on it.

Last year, you jointly worked with PPL to overcome a ballot initiative. Would you be collaborating on something like this with the others, who I guess (indiscernible) -- not (indiscernible) but Pacific (indiscernible) and you and PPL are all named in the suit?

At this point, I would just say it's too early for me to comment on what our strategy is going to be. We're in meetings right now and I think, over time, will have a more developed strategy, so at this point, I really don't want to comment.

(OPERATOR INSTRUCTIONS). Peter Hark (ph), (indiscernible) Capital.

I'm just calling on the marketing and Resource Management earnings guidance for next year, the 25 to 35 cents -- trying to understand the nature of those earnings, your confidence in that. Is it coming from contracts? Is it based on the volatility of the Western market? Effectively, how much of that do you have locked in?

I'd like to ask Dennis Vermillion, our Avista Energy President, to address that, Peter.

That earnings guidance comes from what we believe we can do in normal market conditions, managing the assets that we have under our control. As we've said in the past, we also will take positions against what we believe forward power prices and the gas prices might do, so there is a component of that included in that. If you go back to the slide that we showed earlier, you can see a pretty base level of earnings that we've been able to generate, even in relatively calm markets. So, assuming we have relatively calm markets, going forward, given our historical performance, we think that that's a good range for us to be in.

Is there a way to break it out between how much is contractual versus, say, a pure trading function?

Historically, approximately two-thirds of our margin has come from asset-related activities. We would expect that to continue, going forward.

I got you. Are there any of these earnings of a marked-to-market marked-to-market nature, or are the realizable immediately?

Well, we do marked-to-market our portfolio, so the earnings do include -- are marked-to-market earnings. If you look at the other slide that we had shown, it shows how quickly the makeup of our forward book converts to cash or -- (Multiple Speakers) -- or moves from unrealized earnings into realized earnings.

We continue to focus on the forward part of the curve. That's where there's the most liquidity in the market, so we would expect that trend with the value that we generate in our business to be converted to cash in one to three years.

That concludes your question-and-answer session. Mr. Brukardt, back to you.

Ladies and gentlemen, thank you for joining us today. If you have any additional questions, please don't hesitate to contact us. You may reach us through Angela Teed at 509-495-2930 or call us directly. Media questions should be directed to Hugh Imhof at 509-495-4264.

A replay of today's conference call will be available today at 12:30 PM Eastern time by calling 888-286-8010. The pass code is 2300-7369. A replay of the Web cast and the slides from today's call will also be available on our Web site.

Again, thank you for joining us today and have a great afternoon.

Ladies and gentlemen, that concludes your program for today. You may now disconnect.