美國水務 (AWK) 2017 Q3 法說會逐字稿

Good morning, and welcome to American Water's Third Quarter 2017 Earnings Conference Call. As a reminder, this call is being recorded and is also being webcast with 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 9, 2017. U.S. callers may access the audio archive toll free by dialing 1 (877) 344-7529. International callers may listen by dialing 1 (412) 317-0088. The access code for replay is 10113687. The online webcast will be available at American Water's Investor Relations homepage at ir.amwater.com.

I would now like to introduce your host for today's call, Ed Vallejo, Vice President of Investor Relations. Mr. Vallejo, you may begin.

Thank you, Danielle, and good morning, everyone, and thank you for joining us for today's call.

As usual, we will keep the call to about an hour, and at the end of our prepared remarks, we will open the call for your questions.

Now during the course of this conference call, both in our prepared remarks and in answers to your questions, we may make forward-looking statements that represent our expectations regarding our future performance or other future events. These statements are predictions based upon our current expectations, estimates and assumptions. However, since these statements deal with future events, they are subject to numerous known and unknown risks, uncertainties and other factors that may cause actual results to be materially different from the results indicated or implied by such statements. Additional information regarding these risks, uncertainties and factors as well as a more detailed analysis of our financials and other important information is provided in the earnings release and in our September 30, 2017, Form 10-Q, each as filed with the SEC.

Reconciliations for non-GAAP financial information discussed on this conference call, including adjusted income, adjusted earnings per share, both as historical financial information and as earnings guidance, adjusted return on equity and our adjusted regulated O&M efficiency ratio, can be found in the appendix of the slide deck for this call.

Also, this slide deck has been posted to our Investor Relations page of our website. All statements in this call can -- are related to earnings and earnings per share refer to diluted earnings and earnings per share.

And with that, I will turn the call over to American Water's President and CEO, Susan Story.

Thanks, Ed. Good morning, everyone, and thanks for joining us.

Today, our CFO, Linda Sullivan, will cover our third quarter financial results; and COO, Walter Lynch, will give key updates on our operations.

Moving to Slide 5. Our employees delivered solid financial performance and continue to execute on our strategies in the third quarter. These strategies include: prioritizing employee and customer safety, building constructive regulatory relationships through transparency and credibility, providing excellent service to our customers, growing our business and becoming even more efficient in our operations to keep bills affordable for our customers.

Our third quarter adjusted earnings were $1.08 per share, an increase of $0.03 per share or 2.9% over the same period in 2016. This 2017 third quarter adjusted number excludes a positive $0.07 related to an insurance settlement from the Freedom Industries chemical spill, which you may remember was a negative $0.22 in last year's third quarter. This quarter's adjusted number also excludes $0.02 of an early debt refinancing charge at the parent. Linda will discuss this in more detail in her comments.

With the solid results we've seen year-to-date and projected through the year-end, we've narrowed our adjusted earnings guidance to $3 to $3.06 per share. Our foundation for growth continues to be providing safe and reliable service by investing wisely and effectively in our Regulated operations. We've made more than a $1 billion in capital investments in the first 9 months, and we're on track to invest about $1.65 billion for the full year, with a vast majority dedicated to water and wastewater system replacements and improvements. We remained focused on controlling our O&M expenses to ensure that every dollar we spend on infrastructure replacement has minimal impact on our customers' bill.

We're extremely proud of our employees efforts to improve efficiencies, and their commitment comes from a deeply ingrained culture at American Water to provide the best-quality water and water services to our customers at an affordable price. Our folks live in the communities we serve, and all of our employees are keenly aware of the importance of keeping customer bills affordable. This commitment to customer care contributes to our growth. This year, we have welcomed about 16,000 new customers from acquisitions and 10,400 customers from organic growth in our service areas. We also have signed agreements, representing another 45,000 customers pending regulatory approvals.

We also saw growth this quarter in our market-based businesses, mainly driven by our Homeowner Services Group. HOS currently has $1.7 million customer contracts that serve more than 825,000 customers in 43 states and Washington, D.C. Keystone Clearwater remained relatively flat quarter-over-quarter but is still projected to be accretive this year due to increased activity and work during the latter part of the year.

A real highlight of the quarter was our Military Services Group win of Wright-Patterson Air Force Base in Ohio. We consider it an honor and a privilege to serve the military men and women who defend our country and our liberty. This base is the 13th installation to partner with American Water. We're fully committed to providing industry-leading water and wastewater services to Wright-Patterson for the next 50 years.

We also had 3 other significant accomplishments I'd like to highlight for the quarter. First, we completed a $1.35 billion debt financing, which is the largest since our IPO in 2008. These interest savings will provide significant long-term benefits, primarily for our Regulated customers. Linda will discuss this financing in more detail.

Second, you may remember that in the third quarter of last year, we entered into a global bonding agreement in principle related to the Freedom Industries chemicals spill in West Virginia. Two of our insurance carriers providing coverage of up to $25 million each chose not to participate in that settlement agreement at that time. We have now settled with one of those carriers. And this $22 million settlement reduces West Virginia American Water's total pretax cost from $65 million to $43 million. We continue in arbitration with the remaining insurance carrier.

And third, Walter will discuss in a moment, our filing for a proposed black-box settlement agreement among intervenors in our Pennsylvania rate case, which remains subject to approval. So all said, we're on track to meet our long-term 7% to 10% long-term EPS guidance.

Walter will now give you his update on our Regulated Business.

Thanks, Susan. Good morning, everyone. As Susan mentioned, our Regulated Businesses continue to show strength through growth, increased investment in infrastructure, improved customer service and progress made to manage our expenses. Let's walk through some of the highlights of the quarter.

We currently have active rate cases in our 3 largest states: Pennsylvania, New Jersey and Missouri. In Pennsylvania, we entered into a proposed settlement agreement in October '16 that will provide additional annualized water and wastewater revenues of $62 million. As you may recall, this case was driven by $1.3 billion in capital investments to ensure reliable service. The proposed settlement agreement is under review by the presiding administrative law judges, and will then go before the Pennsylvania Public Utility Commission for approval. We anticipate a decision before year-end and are hopeful we can discuss the settlement further on our December 11 guidance call.

Moving to New Jersey. We filed a general rate case in September '15, seeking $129 million in annualized revenue over 3 years. Since our last rate adjustment in 2015, we invested more than $868 million in infrastructure upgrades. These investments included replacing more than 200 miles of water main and a flood protection project at our Raritan-Millstone Water Treatment Facility. Susan will talk about our efforts to mitigate extreme weather impacts later, but this project will ensure the sustainability of the water supply for more than 1 million people in 7 counties in Central New Jersey. That level of investment also had a positive impact to New Jersey's economy, creating approximately 14,000 jobs across the state.

As we mentioned in the last call, we filed a rate case in Missouri, requesting an increase of $84 million in annual revenue, driven by more than $490 million in investment in our systems. This case marks the first future test year filing by Missouri American Water, and we appreciate the commission's openness to consider and choose in this case.

Moving to California. The fires that occurred last month in Sonoma and Napa counties have been devastating to the communities there, including one of our service areas, Larkfield. We're still assessing the damage, but we estimate that about a 1/4 of our service district, about 600 homes, have been destroyed. We're working with our impacted customers during this difficult time. While the recovery work is still underway to replace damaged equipment, we were pleased that we maintained water service for firefighting during the event and restored full potable water services for the vast majority of residents there within a matter of days.

We're also very pleased to announce that California American Water and the American Water Charitable Foundation provided a grant of $100,000 to the North Bay Fire Relief for individuals and families impacted by the wildfires. I want to thank our team in California for responding quickly to our customers during this crisis and, most importantly, for staying safe.

Turning to Slide 9. Let me touch briefly on weather for the quarter. As you know, we had a $0.02 benefit from hot, dry weather in third quarter of 2016. In the third quarter of 2017, we experienced warmer weather in several states through July. However, during the remainder of the quarter, we saw more rain and cooler temperatures in the northeast. We've spoken in the past about how our geographic diversity allows us to manage through weather fluctuations and limit their impact. As a result, weather did not positively or negatively impact our revenues for the third quarter of 2017.

Linda will cover the quarter-over-quarter and year-to-date earnings impact.

Turning to Slide 10. We added about 16,000 new customers to date through completed acquisitions and more than 10,000 through organic growth. In October, we also received an approval from the Pennsylvania Public Utility Commission of our McKeesport Pennsylvania wastewater acquisition. This is great progress, and we expect this acquisition will close later this year. We're excited to add these 22,000 new customers and welcome our new employees. As Susan mentioned, we have pending agreements to welcome 45,000 more customers, which includes the McKeesport acquisition. We're pleased that this represents 11,000 more pending customers than we had last quarter.

Moving on to Slide 11. Doing right by our customers is key to our ability to grow. This means smart investments balanced by efficient operations and capital deployment. During the first 9 months of the year, we invested $963 million of which the majority was dedicated to regulated operations to keep our services reliable. We also continue to keep our service affordable by working more efficiently throughout our business. Our O&M efficiency ratio decreased from 34.9% to 34.2% for the last 12 months ending September 30, 2017. We're on track to achieve our long-term goal of 32.5% by 2021. Thanks, again, to our employees and their commitment to our customers.

Technology is also playing a critical role. Let me give you a couple of examples of this. In Illinois, we're using technology to make the operation of our Bradley Avenue treatment plant in Champaign more cost-efficient through automation. During the 9-month period this year, we've already saved more than $200,000, while effectively managing our plant. We expect to achieve savings of about $300,000 annually.

In Pennsylvania, our operations team is using cellular leak detection instruments to find and fix leaks before they lead to main breaks. This technology provides remote alarming and automatic data uploads from any location, where self-service is available. Through this technology, we're saving 11 million gallons of water per day. Additionally, it's estimated that it's about 10x cheaper than to fix a leak before the water main breaks. The technology and operational efficiency are core to our strategies, and these examples demonstrate how our company is using innovation to better serve our customers.

With that, I'll turn the call over to Linda for more detail on our financial performance.

Thank you, Walter, and good morning, everyone. Let me start with our third quarter 2017 results on Slide 13.

GAAP earnings were $1.13 per share, an increase of $0.30 compared to the same period last year. We had a few non-GAAP adjustments in both periods. So let me start with those.

First, we adjusted GAAP earnings for the Freedom Industries' chemical spill settlement activity. In 2016, we entered into a binding global agreement in principle to settle all claims associated with this matter, of which West Virginia American Water's share, net of insurance recovery, was a pretax charge of $65 million or $0.22 per share. At that time, 2 of our insurers providing coverage of up to $25 million each did not agree to participate in the settlement, and we initiated legal actions to pursue recovery. In the third quarter of 2017, we reached a settlement with one of those insurers to recover $22 million pretax or a $0.07 per share benefit. With this insurance settlement, West Virginia American Water's share of its $126 million Freedom Industries' settlement was reduced from $65 million to $43 million pretax. Consistent with prior year treatment of the settlement, this benefit was reflected as a non-GAAP adjustment.

Also, in August, we completed a $1.35 billion financing, which I will discuss in greater details in a few slides. A portion of the proceeds was used to refinance certain higher cost debt before their original maturity dates in 2018 and 2021. This resulted in early debt extinguishment charges of $34 million in total. The majority of this amount or $28 million is expected to be recovered through customer rates and was recorded as regulatory assets and did not impact earnings. However, $6 million or $0.02 per share was associated with parent company debt and recorded as a charge to earnings. We have reflected this item as a non-GAAP adjustment, consistent with prior year treatment of similar charges.

Excluding these items, adjusted earnings were $1.08 per share, an increase of $0.03 or 2.9% over the same period in 2016, with the Regulated segment up $0.05, the Market-Based Businesses up $0.03 and the parent was unfavorable $0.05.

Turning to Slide 14. Let me walk through our adjusted quarterly results by each business. Our regulated operations were up $0.05 in total. Revenue was up $0.08 from authorized rate cases and infrastructure mechanisms to support growth and acquisitions, and this is net of lower demand or declining usage of about 1%. Also, in the third quarter of 2016, we had warmer weather as Walter discussed, which negatively impacted the quarterly comparison by $0.02 per share. Next, we had higher net depreciation, interest and general taxes of $0.03 driven by investment growth. And then finally, all other items the resulted in a benefit of $0.02, mainly from our continuous focus on cost management.

Turning to our Market-Based Businesses. We were up $0.03 compared to the same period last year. The majority of this increase was from Homeowner Services, from customer growth and price increases. Although we continue to experience lower capital projects in the Military Services Group, we are excited to announce the agreement with Wright-Patterson Air Force Base in Ohio, which represents partnership with our 13th military base. This contract will add $490 million in revenue over the 50-year contract term. And with the addition of this base, our backlog of revenue associated with our military contracts is over $3.5 billion over the remaining contract terms.

And then lastly, the parent was down $0.05 per share in the quarter. $0.02 was due to the cumulative tax adjustment I discussed last quarter related to the July 1 increase in our state income tax rate in Illinois. This change required us to remeasure our deferred tax balances at the new rates in the third quarter. The cumulative adjustment totaled $7 million. The portion calculated on a stand-alone basis for Illinois is expected to be recovered through future customer rates and was recorded as a regulatory asset. The remaining portion was allocated to the parent through our state tax apportionment factors and reduced 2017 earnings by $0.02 per share. The remaining $0.03 of the parent was from higher interest expense to support growth of $0.01 and an overlap of interest expense related to our August financing of about $0.01. The overlap was because we had $428 million of parent debt that didn't actually mature until October of this year but was part of the financing in August. And lastly, we had a $0.01 tax benefit recognized last year.

Turning to Slide 15. Our year-to-date adjusted earnings were $2.34 per share or a 3% increase over adjusted earnings in the same period last year. Our regulated operations were up $0.12 per share in total, which includes the $0.04 negative year-over-year impact from weather, as Walter discussed. Our Market-Based Businesses were up $0.01, with the favorable third quarter results in our Homeowner Services Group exceeding the impact from lower capital projects in our Military Services Group. Parent and other were down $0.06, mainly due to the 2 discrete tax adjustments associated with legislative changes in New York and Illinois impacting state tax apportionment.

Now let me discuss in more detail the August $1.35 billion financing on Slide 16. This was the largest financing at American Water since our IPO in 2008, and our team did an extraordinary job executing this transaction. Overall, the transaction reduced our long-term embedded cost of debt by 48 basis points, mainly for the benefit of our regulated customers. It reduced our 5-year debt maturities by $876 million, and it increased the average tenor of our debt from about 13 years to almost 16 years. Those are the highlights. Now let me discuss the deal.

We financed $1.35 billion with $750 million of 30-year debt at a 3.75% interest rate and $600 million of 10-year debt at a 2.95% interest rate. The funds will be used for 3 primary purposes: new debt to support growth of $440 million; refinancing of debt maturing in 2017 of $557 million; and $353 million for early refinancing of debt maturing in 2018 and 2021, including the make whole. These transactions were designed to take advantage of lower interest rates for our customers.

Turning to Slide 17. Let me provide an update on our regulatory filings. We have $66 million in annualized new revenues effective since January 1 of this year from general rate cases and infrastructure mechanisms. We have also filed requests and are awaiting final orders on rate cases, infrastructure surcharges and proposed settlement for a total annualized revenue request of $321 million. This includes the Pennsylvania rate case proposed settlement of $62 million that Walter discussed.

Turning to Slide 18. Our cash flow from operations grew about 4.3% to $986 million for the first 9 months of 2017. This increase was primarily driven by net income growth in our Regulated and Market-Based Businesses.

Turning to dividends. On October 31, our Board of Directors approved our quarterly cash dividend of $0.415 per share to shareholders of record on November 10 and payable on December 1 of this year. And as a reminder, for 5 years straight, we have grown our dividend at or above the top of our long-term 7% to 10% EPS growth range.

Turning to Slide 19. Today, we are narrowing our 2017 adjusted earnings guidance range to $3 to $3.06 per share. As you know, we traditionally do not make many non-GAAP adjustments, and when we do, we want to be consistent and transparent. This year, we have had 2 items excluded from our adjusted earnings guidance range: the $0.07 per share benefit from the insurance settlement related to the Freedom Industries' chemical spill and the $0.02 per share charge from early debt extinguishment at the parent company. These are reported as non-GAAP adjustments, consistent with our treatment in prior years.

And with that, I'll turn it back over to Susan.

Thank you, Walter and Linda. Before taking your questions, I'd like to mention the extraordinary weather and fire events that we've experienced in our country and our American Water service areas over the past few months. Given our geographic diversity, we are oftentimes located within natural disaster areas or close enough to offer help to other communities. With every event we say, safety comes first. We prepare, we leverage national resources, and we look to help impacted communities.

In August, Hurricane Harvey hit our operations in Fort Polk, Louisiana, dumping about 20 inches of rain on the bay. The storm also had a lesser effect on our Fort Hood, Texas, operations. Our employees, who work there and those who came to help, worked tirelessly during and after the storm to maintain service to both military communities.

In September, Hurricane Irma made landfall in Florida Keys as a Category 4 storm. By the time the storm moved up the cost to the desalination facility we operate in Tampa, our Contract Services Group had enacted this emergency plan and the facility made it through the storm with a little to no damage and no flooding. The plant and our people were there to help the community during the recovery.

And just last month, as Walter shared, our team in California responded to the tragic fires in Sonoma and Napa counties, maintaining water service for firefighting during the event and restoring full potable water service for the vast majority of our residents there within a matter of a few days. Whether it's hurricanes, tornadoes, flooding, ice storms or wildfires, our response to all of these events highlight our commitment to resiliency of water and sanitation services for our customers. We use a systematic approach to assess the vulnerability of all of our assets, and we continually prioritize our critical infrastructure investment.

Our engineering and operations teams examine every facility we own and our regional water supplies to develop a capital plan to determine how much and what kind of investment is needed to ensure ongoing safe and reliable service to our customers, both during and after these disasters. We evaluate historic conditions combined with future predictions, and we consider factors like a 100-year flood, which now seems to be occurring every 20 years and other impacts of climate variability. These engineering planning studies drive our capital needs assessments, business planning and our financial forecasting.

During a significant weather event, a water utility's level of preparedness can literally mean the difference between a temporary inconvenience or a serious health or environmental consequence for our customers. We know that, and we prepare for it. It's our job, and we do it well.

I'm extremely proud of our people and their commitment to doing what's right for our customers and our communities every day. Our thoughts and prayers continue to be with the people, who are recovering from these natural disasters.

And with that, we're happy to take your questions.

(Operator Instructions) The first question comes from Angie Storozynski of Macquarie Research.

Perhaps 2 questions. First one about M&A, municipal M&A. So 2 things. One is, could you discuss any reaction you're seeing on the municipal front to the New Jersey bill that was recently passed? And secondly, the -- in Pennsylvania, the fair value legislation being somewhat questioned on a pending asset sale case and how you think about the independent assessments of assets as you go forward and contemplate acquisitions in Pennsylvania?

Sure, Angie. Thank you. This is Susan. I'm going to start on your last question, and then turn it over to Walter and let him add anything to that and then address the issue of the Water Quality Accountability Act in New Jersey. So the fair market value in Pennsylvania, we think it's important to have an appraisal process that fairy values the systems we're acquiring and also sets a fair and sustainable base rate for our customers. We don't want a high appraisal value just to get a higher base rate, and we don't -- we want the right base rate for us and our customers for the long term. We don't think systems should be undervalued or overvalued because we think either one hurts the process long term in the spirit of the law. Pennsylvania's fair market value legislation requires appraisals to meet a uniform standard that the professional appraisal sector has. And there've been some questions about so what is the Pennsylvania PUC, what's their role, what's it not. In our look, and we have gotten an approval for McKeesport under that, we think that the Pennsylvania PUC can review the appraisals and determine if they comply. If appraisals don't comply, adjustment should be made, complying with standards is a check and balance that we think, clearly, the public utility commission has the authority for. So in our recent PUC application for the McKeesport acquisition, we sat down with the parties. We sat down with PUC staff. We sat down with consumers advocates. We listened to their issues, and we try to find a way forward that we could all live with. And we're very pleased that this was approved -- the settlement that we reached with the staff, with the consumers advocates were all approved by the public commission last week. So Walter, do you want to add anything to that?

Yes, Susan, I'd like to emphasize just the point of how we work cooperatively with the commissions and all the parties to get to a settlement that's fair for everybody. And I think the Scranton and sewer acquisition is an example of that. It's the first acquisition in the state where we're dealing with the issue of combined sewer and storm water. Currently, Pennsylvania American Water doesn't have a combined tariff for wastewater. We have a number of different tariffs because we've done so many acquisitions over the years. So working through the first issue that I said, the combined sewer and storm water, and also working through not having a combined tariff on the sewer side, it takes a lot of cooperation and a lot of dialogue with a number of parties, including the Office of Consumer Advocate and commission staff to get to the right place. But I think we've done that. I'm confident we've done that. The team has done a great job in working with all the parties. I think it's another example of how we're working to make sure that we get a fair settlement for all, and the Scranton Sewer Authority again is a perfect example of that.

And on the New Jersey Water Quality Accountability Act, it's been interesting because the legislation was passed this year. And there hasn't -- it hasn't really gone through the regulatory, whether it's the DEP agency, what does that look like in terms of regulations, what does that look like in terms of reporting. And I think our best guess, Walter, is that we think maybe those defining regulations may be put out as early as the first quarter of next quarter, the first half of next year.

Yes, that's right, Susan. There's a requirement to have cybersecurity program in place by the first quarter and then the asset management plan by January of 2019. But the DEP is working with all the other agencies to really come up with a really good detailed implementation plan.

So I think until then, Angie, it's a little bit early to say are we seeing an effect?. I think people are waiting to see what does this actually mean, what are the regs that I'm going to have to be in compliance with. So we're watching that carefully.

Okay. And my last question. I haven't heard anything about Keystone Clearwater. I might have missed it actually. But I would have expected it to be mentioned as an earnings driver on the Market-Based side, given the pickup in drilling. So could you tell us a little bit more about it?

Sure, sure. So I mentioned very briefly in my remarks. Quarter-over-quarter, it's basically neutral. We are still projecting it to be accretive by the year-end because of the backlog of work that we have in the latter part of the year. We are seeing increased activity. We're actually seeing players that are picking up what they're doing. We're seeing more interest. Actually, it's interesting our Keystone got out of the transportation, meaning the moving water by truck. And so we're seeing an uptick in the amount of the drillers, who are now wanting to actually put pipe, a lot of pipe above ground, temporary piping. So we are seeing a pickup there. We believe that the latter half of the year that we're going to see a pickup in that and that will be accretive for the year.

The next question comes from Richard Verdi of Atwater Thornton.

I have just a few quick questions here. Congrats on this Wright-Patterson Air Force Base win. On a very high level, can you, please, give us a sense of the time frame for when price redeterminations from this contract could potentially positively impact the P&L?

Yes, well, the price redeterminations typically take place 2 to 3 years. They happen every 2 to 3 years in the contract. So the fact that we just won, we put in the bid for what we believe the upfront work needs to be done to do some immediate projects, but we also look at the O&M. So you probably won't see a price redetermination for Wright-Patterson for another 2 to 3 years because we just put in a bid that in that bid we look at the first 2 to 3 years in what we think it will take to do some of the capital upgrades on the project and what the initial O&M cost will be.

Okay. And then I have a question pertaining to the acquisition strategy. Looking back at 2013 to 2016 versus the years 2008 through 2012, I mean, the number of acquisitions jumped there the past 3 years. But I'm wondering where the strategy comes in and kind of shifts and goes to -- we're going to move away from the actual number of deals and just focus on the customer -- the number of customers moving forward, how many customers we pick up per transaction? I'm wondering if you could kind of give us a sense of how we should balance thinking about in the model the number of transactions per year versus the number of customers we pick up. Are we going to go more towards less transactions, more customers or vice versa?

Rich, Walter. Thanks for the question. We've said that's a 1% to 2% EPS growth from acquisitions is about 30,000 to 60,000 customers across our entire system. Our focus has been on growing our business through acquisitions adjacent to where we operate and also looking at our sweet spot, as we define from 5,000 to 30,000 customers. We've also had a renewed focus on wastewater. And over the last 3 to 4 years, we focused on buying wastewater systems in areas where we serve water customers. So we're going to continue to do some of the smaller wins where it makes sense in and around our footprint. Our real focus is on the larger 3,000, 4,000, 5,000, 5,000 to 30,000 customers to make sure that these acquisitions are more sizable, they move the needle and they represent, I think, opportunities for us to improve the systems that we buy. Many of these systems need significant investment, and the systems of 5,000 to 30,000 seem to meet -- need more investment than some of the others. So that's really our focus.

And if I could add, Rich, one of the other things that we've been working on with this increase in acquisitions over the last few years is how do we integrate them effectively whether or not it's a smaller system or a larger system. And so we've really been working to enhance our process so that it is seamless irregardless -- regardless of the size of the customer additions.

And Rich, to your point, Walter again, you can look at how we're executing on our strategy, buying wastewater systems area where we're serving water system. And I think Scranton and McKeesport are 2 perfect examples of that where we've been serving the water customers for decades and the opportunities came up to buy the wastewater systems because we can add value to the communities. And that was the case that we made and the communities agreed, and we have purchased or will purchase real soon McKeesport on that basis.

Okay, great. And then couple more questions here. For the nonregulated segment as a whole, looking at a few of the investor decks this year, American was citing that the nonregulated segment, the Market-Based Businesses could potentially be 15% of earnings by 2021. Is that somewhat back half of the next 5 years loaded? Or could we expect to model that in, where it's a straight-line layer in growth over the next 5 years?

So Rich, at this point, that is the guidance we've given. As you probably know, when we promoted during this call and will continue, what was December 12 is now December 11, we will update our 5-year plan on December 11 on our guidance call and give further color to that and answer that question.

But the guidance, it is still your guidance though?

That is still our guidance at this point.

Great, okay. Perfect. And then...

And it's calculated as a compound annual growth rate.

I'm sorry. What was that, Linda?

It's calculated as a compound annual growth rate.

Yes. Okay, great. And then just the last one. I mean, it's not a secret here. American has been great at cutting its cost. I mean, the target rate continuously goes down, the stretch target. At what point, though, I mean at some point, it's got to kind of stop, right? And so where does that come in? Is that, a, could that be 20 years away, 15 years away? Or could we expect maybe expect over the next couple of years at one of the Investor Days, Susan you announce we're going to bring down this O&M expense again over the next 5 years, even lower?

So we believe we can continually improve our business, Rich. We believe that the water industry in general is a little behind the electric and gas from a technology standpoint. We have really ramped up our technology integration, and we've got some very exciting projects going on. And at this point, we see a lot of opportunity to continue the efficiency gains that we've also seen in the last few years. Walter, do you want to add anything?

Yes, Rich, the improvements will never stop, and we have a continuous improvement mindset. We're focused on every cost in this business. And through the use of technology and best practices, we're going to continue to drive cost down for our customers. So that's why I spotlight some of the things we're doing in the business every quarter, just to show you this is a continuous improvement mindset.

The next question comes from Jonathan Reeder of Wells Fargo.

What was the settle rate base amount in the McKeesport approval? If I recall, you agreed to buy the system for $156 million.

Yes. Jonathan, Walter. The rate base is $158 million.

Okay. So I mean, pretty much what you asked for then?

That's right. And our purchase price is $159 million.

Okay. Great job there. When, Walter, do you think you might get clarity in Missouri regarding the request future test year? Do you have to wait until the final order to kind of when you get the thumbs up or down at some point earlier in the procedural schedule?

I mean, I think we'll have indications through our negotiations. But, again, it won't be final until we get the final order so when that case is settled later in the next year.

Okay. But -- so I mean it might be in like the settlement phase or so?

It could be, but then we open the comment on it, that's the question. So I would (inaudible) when we receive the order.

Okay, okay.

And back to McKeesport, just I want to make one point on that. If you look at the direct and indirect customers that we're bringing in as part of that acquisition, it represents about $7,000 per customer. We think that's important because we think that's a fair settlement for us and the customers throughout Pennsylvania American Water.

Okay. And then lastly, congrats, Linda, on the debt refinancing deal. Just curious -- if there is any earnings benefit in the near term from the interest savings prior to the lower debt cost flowing through to -- in here a bit?

Yes, in 2017, in addition to the one-time charge that we had for the make whole of the parent of $0.02 per share, I mentioned earlier, we had a negative impact of about $0.01 from the overlap of interest expense in the third quarter. Now we do expect that we will see some benefits in the fourth quarter that will slightly exceed that negative carry that we had in the third quarter, but it's less than $0.01. And then going forward, when we put forward our 2018 guidance, it will be included in there.

Okay. But if, I mean, there's perhaps some timing benefit before it kind of flows, I guess, all through to rate payers through the rate case process, I guess?

Right. And remember, the majority of this will be for the benefit of our customers. And then as we go through our rate cases, that will true up.

And keep in mind, we talk about the fact that for every dollar of O&M we save, we can put $7 of capital in the ground. This is great because this means that with this decades long need we have for investment, this is more investment we can make that doesn't impact the customer bill. So that's the way we look at this.

Right, right. And then is there a portion that does flow through to the parent as kind of an ongoing benefit from this deal (inaudible) material?

Yes, there will be. We've refinanced $428 million of debt that matured in October that was related to the parent. And we will continue to see the benefits of that lower cost going forward.

The next question comes from Stuart Allan of Bank of America Merrill Lynch.

Quick question on military services. Has there been any update on the DOD budgeting process? I know there's been some movement on the federal budget. I'm wondering if there's any movement on that front.

Yes, there has been. The sequestration was formerly discontinued. And so the commanding officers at the bases are hoping to have larger budgets. Effective October 1, they are getting more money. We think it will be more of a gradual increase in capital for infrastructure because what's happened in the 3 or 4 years of the sequestration, their budgets were significantly reduced. And it wasn't just infrastructure projects like ours that got put on the back burner, they had several other, training, war fighter training, different things that now are in the queue. So we are hearing there is a pickup. It will eventually become. There will be more infrastructure projects like the type we do on the bases. But the initial increase in funding will go toward more of their mission-critical items that they have for the military men and women there. So yes, the sequestration was discontinued. They are seeing higher, not quite up to what it was before the sequestration. We do think it will benefit us, but it will be gradual as they put those additional funds to use.

At this time, there are no further questions.

Thank you, operator. So I'd like to thank everybody for participating in our call today. We really value very much as investor owners and as a financial analysts, who research our company for the benefit of your clients and their financial futures. We always want to be open and transparent in all of our discussions and dealings with you. And we always want you to have confidence in your decisions around our company and your investments in our stock.

If you've not had your question answered or you think it's something else, please call Ed or Ralph, and they'll be happy to help. And as we've mentioned earlier, we look forward to talking with all of you in our upcoming 2018 guidance call, which will be on Monday December 11 from 9 until 10:30. At that time, we will not just be talking about 2018, we'll talk about some of our strategies, our 5-year plan. So please be on the call, and we think that you'll find it very interesting. Thanks again.

The conference is now concluded. Thank you for attending. You may now disconnect.