American States Water Co (AWR) 2003 Q4 法說會逐字稿

Good day and welcome to this American States Water Company fourth-quarter 2003 conference call. Today's call is being recorded. Today's presentation will be available for replay at 4 PM Eastern Time through April 6 at midnight. You may access the replay by dialing 719-457-0820 or 888-203-1112 and entering the pass code 714-388. (OPERATOR INSTRUCTIONS) At this time I would like to turn the call over to Mr. Bud Harris, Vice President Finance and Chief Financial Officer. Please go ahead.

Thanks. Good morning, everyone, and welcome to this morning's call on American States Water Company's fourth quarter and fiscal 2003 results. With me as always is Floyd Wicks, President and CEO of the company. As usual, following the conclusion of our prepared remarks today, the call will be opened up for questions.

I would, however, like to remind you that certain matters discussed during this conference call are forward-looking statements intended to qualify for the Safe Harbor from liability establishment by the Private Securities Litigation Reform Act of 1995. I ask that you review the forward-looking information disclosure in our Form 10-Qs and 10-Ks on file with the SEC. We will be filing our Form 10-K today and it should be available.

The factors underlying the company's forward-looking statements are dynamic and subject to change. Therefore, these forward-looking statements speak only as of the date they are given. The company is under no obligation to update them; however we may choose from time to time to do so; and if we so choose we will disseminate the updates to the investing public.

Having got those formalities out of the way, let's begin with the fourth-quarter results. During the fourth quarter of 2004, total operating revenues increased slightly, by less than half a percent. Total operating expenses for the quarter ended December 2003 increased by 4 percent as compared to the quarter ended December 2002, due to the recording of a probable refund of $3.5 million pretax to customers, representing the net proceeds from polluters with respect to the Charnock Basin contamination issues, and increased administrative and general expenses reflecting primarily the reversal of 6.5 million during the fourth quarter of 2002.

These increases were partially offset by the reversal of certain water-quality-related reserves that we've established over past years totaling 1.8 million; a decrease in the workers compensation reserves due to a revised actuarial analysis; reduced water supply cost; and a decrease in the unrealized loss in our purchased power contracts.

Interest charges this quarter decreased by 2.9 percent as compared to last year for the quarter, due primarily to fewer short-term bank borrowings this quarter.

Impacting both the quarter and the year's result is a pretax charge of $6.3 million in the fourth quarter of 2003 resulting from a decision issued by the CPUC last week. As mentioned in last week's press release, the CPUC ordered the Southern California Water Company subsidiary to refund, with interest to customers, revenues received from the lease of certain company-owned water rights to the City of Folsom, California. Southern California Water has leased 5,000 acre feet of water rights to the City of Folsom since 1994.

Despite a CPUC administrative law judge's finding to the contrary, the CPUC order does require Southern California Water to issue a refund and pay a net fine of $180,000 for failing to secure authorization from the CPUC prior to the commencement of its lease to the City of Folsom. We are extremely disappointed in the CPUC's decision in this matter and plan an appeal as soon as practical.

As a result, the fourth quarter of 2003 is a disappointing net loss of 12 cents per share in both basic and diluted earnings, as compared to the 23 percent in net income per share for the fourth quarter of last year.

I would now like to turn to the 12-month reported results. Results reported for the 12 months ended December 2003 indicate a decrease in basic and fully-diluted earnings of 41.8 percent, to 78 cents per share, as compared to the $1.34 per share recorded for the 12 months ended December 2002.

Total operating revenues for the year ended 2003 increased by 1.7 percent or about 3.5 million. Breaking that down, revenues from water operations in 2003 remained virtually flat with 2002. In spite of the fact that we did have an increase in rates in Region II of our Southern California Water Company unit, the effects of that rate increase were almost entirely offset by a 3 percent decline in water consumption due to wetter and cooler temperatures in most of SoCal Water Company's service areas.

Our Chaparral City Water company unit in Arizona contributed 6.2 million in water revenues for the 12-month period. That amount represents a slight decrease from the prior year. Again, in spite of an increase in the number of customers served, a decrease in water consumption in that service area kept revenue growth at a minimum.

Revenues from electric operations, however, increased by 15 percent or about $3.2 million. The increase in electric revenues reflects new rates implemented during the third quarter of 2002, authorized by the CPUC, to recover purchased power cost incurred under many of our purchased power supply agreements.

As compared to the 12 months ended of 2002, total operating expenses for this year increased by 4.4 percent. Driving this change are a number of items including, as we discussed earlier, the recording of a probable refund of 3.5 million pretax to customers associated with the Charnock Basin matter; higher electric supply costs amortized into expense as revenues are collected pursuant to the CPUC's orders; and increased administrative and general expenses reflecting both increased costs associated with various litigation and non-regulated activities.

Again for purposes of comparison, in 2002 we did reverse $6.5 million of reserves established for potential nonrecovery of purchased power expense. You will recall that we originally booked the reserves since our contractual price of $95 per megawatt hour -- we had that $95 per megawatt hour price, and we were unsure of fully recovering the entire amount. However, the restructuring of the contracts resulted in lower cost than the $77 per megawatt hour and was approved for recovery in rates by the CPUC.

In 2003, we also incurred an increase of about $2.5 million of legal and consulting expenses associated with our continuing efforts in the privatization of water and wastewater services at military bases across the United States and with our efforts to secure an operating contract to provide water and wastewater services in the northern part of the state of California, as well as an additional three-quarters of $1 million of additional pension and benefit expense.

Offsetting these increased expenses is an unrealized gain of $638,000 on our purchased power contracts. As you recall last year, we had an unrealized loss of $2.5 million. We also decreased income tax expense due to lower pretax operating income and a true-up of return to accrual adjustments of about $800,000. As I mentioned earlier, we also reversed into income previously established water-quality-related reserves totaling $1.8 million pretax in the fourth quarter of 2003, based on the CPUC's decision last week.

Interest charges for the year increased by 2.1 percent, due mostly to higher short-term borrowings averaged over the year to finance capital expenditures. And as I mentioned earlier, the recording of the $6.3 million pretax refund in the fourth quarter as ordered by the CPUC negatively impacts the 12-month results as well.

Before turning this call over to Floyd, I want to just address briefly the unrealized gains and losses that impacted quarterly and 12-month earnings for this and last year. The unrealized losses and possible gains at BE, or at our Bear Valley Electric division, are expected to impact earnings during the life of the contracts as we have mentioned in previous teleconferences. The end result is projected to be a net zero impact on earnings at the end of the contract period in 2008.

These contracts qualify as derivative instruments under Statement of Financial Accounting Standards No. 133. The unrealized loss of 216,000 for the quarter and unrealized gain of 638,000 for the 12 months resulted from changes in forecasted forward market prices compared with current contract prices that result in a calculated cumulative unrealized loss or gain for these contracts. Even though there is no cash impact we are evaluating an alternative to minimize the impact that future unrealized losses or gains might have on earnings.

But we do feel it is important that you realize we entered into these contracts for the express economic purpose of lowering supply costs for our customers; and from an economic perspective we have been successful. However, application of FAS 133 accounting treatment will continue to affect both negatively and positively the company's true earnings picture through 2008. It is important therefore that you realize the unrealized losses or gains will not impact the company's ability to pay dividends, nor should it materially affect the market's estimate of the company's value since American States Water Company is not in the energy trading business.

We are primarily a public utility company providing water and electric distribution services, and as such our earnings are impacted by weather, the amount and timeliness of rate increases to recover capital and operating costs, and not unfavorable or unfavorable price swings in the energy market. We ask, as you have in the past, that you factor into your recommendations and analysis the underlying value of the company.

Our earnings are driven by our ability to control and recover operating expenses and by earning a return on invested capital. The company continues with its construction program, primarily for improvement, renewal, and replacement of infrastructure at its Southern California Water Company unit. Capital expenditures for 2003 were approximate $57 million; and capital expenditures for 2004 are estimated at approximately $65 million.

It will therefore be necessary to issue approximately $30 million in additional equity in the near future as well as additional long-term debt at Southern California Water Company level to provide external funding for these products. Given that we expect and have received rate increases from the CPUC next year, we believe the additional equity, which will initially be utilized to pay down outstanding bank borrowings, will be accretive.

The CPUC rate process allows a water utility to forecast its need for additional equity over the subsequent three-year rate pay cycle. Given all of that, I would now like to turn the call over to Floyd for several more comments.

Thank you, Bud, and good morning everybody. While as Bud mentioned, we are extremely disappointed with the results, especially coming from the two recent PUC decisions, there were increased revenues as well from the decision that the PUC reported or passed out last week. And that is a significant increase in revenues, will result in 2004 revenues going up.

The company included a pretax charge of 6.3 million in nonoperating income in its fourth quarter to reflect the decision as Bud had mentioned. The charge relates to the PUC's order requiring the company's Southern California Water Company unit to refund with interest 70 percent of revenues received from the lease of its water rights to the City of Folsom. Southern California Water has leased these rights to the city since 1994. And again I am going to express our extreme disappointment, and we do plan to appeal this as soon as practical.

So, the company also recorded an additional $3.5 million pretax charge to earnings in the fourth quarter of 2003 to reflect a proposed decision issued by the PUC in December of last year. The charge relates to funds received from certain potentially-responsible parties in actions brought by the company in connection with the contamination of its groundwater sources in the Charnock Basin in Southern California. As required by the PUC's proposed decision, our Southern California Water Company unit will be required to refund to customers approximately $3.5 million in net proceeds received from potentially-responsible parties, we call them polluters, since 1998 for the contamination of the company's groundwater supply.

I believe it is extremely important to understand that the decisions issued by the PUC that adversely impacted reported earnings are a onetime event. In fact, absent those onetime charges, reported earnings per share for 2003 would have been for the last quarter 27 cents a share, and $1.17 a share for the 12 months ended 12/31/2003. These numbers ignore the impacts that the cooler weather in 2003 had on earnings as well.

Although we continue to experience delayed implementation in rate increases, the PUC in its March 16th decision this year did indeed authorize an annualized increase of approximately $8.1 million or 12.1 percent in revenues for Southern California Water Company's Region III service area. This represents 100,000 customer base out of our total 250,000 in Southern California Water.

In addition, the decision authorized additional rate increases effective during 2004 and 2005 of $4.7 million in the aggregate, subject to earnings tests. In June 2003, the PUC also approved recovery of the pre November 2001 balance of $2.1 million in the supply cost balancing accounts, and it issued procedures for recovering the memorandum supply cost accounts for balances accumulated after that date, after November 2001. Pursuant to that order recovery of the memorandum water supply cost will be reduced if the company earns more than its authorized rate of return.

Additional general rate case applications and advice letters as allowed under the new regulations continue to be pursued. We also filed an application to increase water rates in the Region II customer service area on September 11, 2003, which was accepted by the PUC on October 6, 2003. The new water rates in this filing, if approved, would generate an initial annual increase in revenues of $15.4 million. A decision is not expected until the third quarter of this year.

Due to delays in the PUC's review of this general rate case application that have delayed the processing, Southern California Water Company sought authority for interim rate relief by a motion filed on December 23, 2003. The administrative law judge at the PUC in a ruling issued in February of this year granted our motion for interim rate relief and ordered Southern California Water Company to file an advice letter implementing interim rates for Region II, commencing January 1, 2004, subject to refund. The interim rates would generate approximately $1.4 million in annual revenues.

These interim rates are in fact part of a legislative effort made by this company as well as other California water companies regulated by the PUC. It's resulted in a new law effective January of 2003 that allows interim rates if rate cases in fact get delayed.

On October 27 of last year, 2003, we filed an application to the PUC requesting an inflationary increase, approximately $390,000, for three customer service areas in our Region I area; and a request for long-term amortization of the cost included in the Aerojet litigation memorandum account, net of any reimbursement. All of these filings will bring supply cost current and update our water resource mix, which will help stem the negative impacts of elimination of the balancing account.

On July 10 of 2003, the PUC approve the certificate of public convenience and necessity filed in March of 2002 seeking authorization to construct an 8.4 megawatt natural gas-fired generation facility for the Big Bear Electric division of Southern California Water Company. The capital cost of this facility is estimated to be approximately $13 million. The PUC's order authorizes construction and enables Southern California Water Company to file a rate application to generate an annual revenue increase of about $2.4 million. The company will file for increased rates using a special filing called a major adjustment clause that should result in at least 75 percent of the revenue requirement related to this facility being included in rates. The remainder will be subject to recovery in a general rate case filing.

A factor that has consumed a lot of time and energy is the water-quality-related litigation in Sacramento County. In addition to a settlement of nearly $2.5 million received from the state of California and certain of its agencies, we are in the process of settling our lawsuit with Aerojet-General Corporation. As we announced in a press release and 8-K filing in October 2003, the company had reached a settlement in principle with the Aerojet-General division of GenCorp Inc.

The company entered into a memorandum of understanding with Aerojet-General related to this lawsuit we filed concerning contamination of groundwater supplies. The terms of the MOU provide for initial cash payment totaling $8.7 million and further reimbursement of our remaining $8 million in cost of utility plant and purchased water incurred as a result of the contamination. In addition, the MOU provides for reimbursement of $15.5 million of legal and other related costs incurred in the lawsuit, plus interest on a long-term basis as development of property in that area occurs. We have received to date the $8.7 million in initial cash payments and continue to work with Aerojet to reach a definitive settlement agreement.

Also in March of this year, we settled litigation with the Southern California Edison Company unit of Edison International. This settlement will eliminate ongoing legal expenses that negatively impacted operating results in our Bear Valley Electric service area.

I would now like to briefly update you on the water supply situation. We're pleased to report that water supply for California and Arizona is much improved over the last year. The two primary components affecting our water supply and therefore our revenues are precipitation levels and imported water allocations. The 2003 water year, that is, from October of 2002 to September of 2003, has been wetter than the 2002 water year. California had 112 percent of normal precipitation and experienced the third wettest April in 80 years of recorded history in 2003. The slightly cooler and wetter conditions of the 2003 water year have improved our supply conditions.

California's snowpack is at 115 percent of average as compared to 100 percent last year. Statewide precipitation has been 89 percent of normal, with Northern California over 100 percent and the Colorado River basin at 32 percent. Reservoir storage is at 100 percent of average, with most Northern California levels above 100 percent and Southern California around 85 percent.

On October 17, 2003, the Metropolitan Water District and federal and state governments and three other water agencies signed a water quantification settlement agreement, known as the QSA, which should resolve the long-fought water rights battles and allow California to once again have access to surplus Colorado River water for the next 13 years. Although this action secures future accessibility, it is not a guarantee that Mother Nature will send wet years instead of dry years. To that end, MWD has also indicated that it is prepared to help the region through any reductions in allocations during dry years by stepping up a number of efforts, including desalination, water conservation, recycling, transfers, and storage.

Arizona precipitation showed marked improvement over the prior year, closing the current year with levels varying from 70 percent to 89 percent of normal with the Colorado River area coming in at 82 percent of normal. However, this was a marked improvement over 2002, when precipitation was almost nonexistent.

Lake Powell and Lake Mead storage levels are currently at 68 percent of average. So far this water year, inflow to Lake Powell has been 1,366,200 acre feet, with outflow at 1.254 million acre-feet, which is 72 percent of average. The April through July inflow to Lake Powell is forecasted to be 6.8 million acre-feet, which is 86 percent of normal. Snowpack above Lake Powell is 95 percent of average.

In addition, Arizona shares the benefits of the Arizona Water Banking Authority that successfully banked the state's full allocation of Colorado River water entitlement in 2002 and anticipates the same result for 2003. This hedge against drought conditions is further enhanced by the fact that the priority for curtailment begins with the agricultural users and creates an additional buffer for the company's Chaparral City Water Company domestic water supply.

Before concluding with the prepared remarks today, Bud and I would appreciate your support in reminding your clients why American States Water Company belongs in their investment portfolio. And that is, solid total return prospects, growth opportunities, and a management dedicated to meeting the needs of shareholders and customers.

In that regard, I am pleased to inform you that using the SEC guidelines for reporting financial performance, $100 invested in shares of American States Water in December 31, 1998, would be worth $167.07 at Decembers 31, 2003. That represents an annualized return of approximately 11 percent for each of the last five years. By contrast, that same $100 invested in the S&P 500 would be worth only $97.18.

I want to thank you all for your time and attention; and I will now turn a conference back to the operator to entertain any questions you may have.

(OPERATOR INSTRUCTIONS) David Schanzer, Janney Montgomery Scott.

Good morning or good afternoon guys. I know; I just wanted to note that now you have more regulatory actions than you do lawsuits.

That is a good one.

Just wanted to point that out. One kind of easy question. That 15.4 percent increase in Region II, what percentage increase is that in terms of overall revenue?

The 15 million?

I'm sorry, 15 million, not 15.4. What percentage increase is it?

On a total company revenue basis our total revenues are about 215 million.

What about Region II, where you're filing that?

You would have to ask me that.

It is a little over 10 percent.

It is about a 10 percent increase. Okay. That straightens that out. I think that is fairly reasonable. The next question which I have, which is (technical difficulty) is the California situation is in flux.

David, we had a bit of a blip here. You went off. Would you go back and start where your second question started?

No problem. My comment was I am not sure to what degree you want to get into this, but I thought it might be worthwhile for those listening in to get your thoughts and feelings. The California commission is kind of in a period of flux from what we can tell. I don't know whether the appointments have been made yet by Governor Schwarzenegger, but there were some changes scheduled for the commission.

Plus, when we met with at least one commissioner in the fall, there were some indication of willingness to work a little more closely with you folks in the water business. I just wanted to get your sense of whether you actually see these things happening, whether you actually see the potential for real improvement with the commission?

I will start off; Bud may have other comments as well. We see real progress with two of the commissioners. Two, there will be I would have to say little if any progress; and those two, the latter two are scheduled to be off the commission at the end of this calendar year.

Frankly, I don't think anybody in the water industry in California will be sad about their departure. So, I think we do anticipate some improvement in the regulatory arena as Governor Schwarzenegger makes those two appointments. And we're hopeful that our industry as a whole will have some input as to those appointments. So, I think there is light at the end of the tunnel, so to speak. Bud, do you have anything else you would like to say?

I think I agree with what you have said. I think that the makeup of the commission will change certainly from what it is now when the new appointments are made. I think we're hopeful that it will result in a more balanced look at issues for the water industry and maybe the utility business in California generally.

I think just as kind of a follow on, showing the frustration that the industry has experienced as a result of delays, to get the Legislature, which is primarily Democratic in nature, to pass a law granting interim rates shows you that the regulation has been really cumbersome the last few years.

So, like I say, we believe that there is a lot of progress being made with two of the five commissioners. And those two are the newest appointments as well, Commissioner Peevey and Commissioner Kennedy; and we believe that they will remain positive after the first of next year.

Thanks for the input.

Tim Winter, A.G. Edwards.

Bud, could you go through the mark-to-market gains and losses again? I didn't catch those on a per-share basis.

Yes, let's see. For the quarter, we actually had a mark-to-market loss of about $216,000.

Was that pretax?

Yes.

What is the tax rate on that?

39 percent. For the year we had an unrealized gain of 638; again pretax.

Any thought of breaking that out in future releases, so that it is clear to us that those are non-recurring type items?

That is probably not a bad idea. I think we will take your advice. I think that helps, rather than me go through this long spiel.

Because that is how the electric companies do it.

All right; I think that makes sense.

Good suggestion.

Thank you.

(OPERATOR INSTRUCTIONS) Allyn Seymour, Columbia Management Group.

A couple questions related to the City of Folsom. Are you still providing them with water?

Yes, we are actually.

Does that make you still in violation of the (indiscernible)? I guess does that mean more -- are we shareholders getting the right return for that, then?

In our opinion, the decision is definitely flawed, in that the company's position was that there was no violation of what is known as section 851 of the California code. That effectively, the property is owned by the utility. It was never used and useful in the provision of service to those customers in our Rancho Cordova area. Therefore, we chose to follow the letter of the law.

We got a very solid legal opinion on whether we needed PUC approval. As it turns out, the Administrative Law Judge that heard our case, he's the one that hears both sides during the hearing process, ruled in our favor. Actually in his proposed decision that did not get voted out, his language was very clear that section 851 in his opinion was not violated.

That is the kind of regulation we have seen, is that the commissioners don't even go along with their own Administrative Law Judges. Not all of them, but in this case it was a three-to-two vote; the one swing vote just swung the wrong way in our opinion.

But we plan to vigorously oppose this in an appeal back first to the commission, and then decide whether, depending on how they treat that, whether to take this issue to the Supreme Court of California. Because in our opinion it is a taking of shareholder assets.

Is there any advantage to stopping your -- in other words getting the City of Folsom behind you? Saying, hey, look; they are not giving us the water because you're not allowing them to get paid for it?

Our position with Folsom is that they will continue to get the water. And actually decision that came out does reflect that that is a possibility, in the revenue split going forward. They not only reached backward in time to take 70 percent of the revenues from 1994, the PUC that is; they are going forward now; and they are saying shareholders can keep 30 percent of the revenues going forward; 70 percent gets retained as offset to revenues in our revenue requirement in our Rancho Cordova system.

So, they are not saying don't continue with the lease itself. Because those water rights will not be used and useful in the service to Rancho Cordova customers ever because of the settlement we have with Aerojet. That settlement provides for all of the future water needs of Rancho Cordova. That is part of that whole lawsuit that we filed against Aerojet. So, it is a very very tough decision, and we think extremely punitive, and one that we're just going to appeal as far as we can take it.

I don't know if that answers all of your questions, but we are extremely disappointed in this kind of a regulatory environment, and thank God that it is not going to continue much beyond a few more months.

The old commissioners rotate off when? In June? At the end of the year?

They go through the end of this year.

End of the calendar year?

Yes, and they are six-year terms. They are appointed by the Governor. And of course all five commissioners currently seated were appointed by Governor Gray Davis, the former Governor. But there are a couple of them that are very, very business oriented. They are working diligently to get PG&E back on track for example. And I think that is reflective of what the two at least that are on target with business want to get the water industry back in shape as well. So we're encouraged by that.

Okay. Thanks.

(OPERATOR INSTRUCTIONS) It appears that there are no further questions at this time. (OPERATOR INSTRUCTIONS) At this time I would like to turn the conference back over to Mr. Harris for any additional or closing comments.

As always, we really do appreciate everyone's interest. We know that 2003 was disappointing not only for our investors and the like but for us as well. But we believe as we described today that with the new rate increase and these charges behind us, that the weather holding in its normal course, 2004 ought to be a fine year. And we will continue to diligently pursue rate increases when they are necessary. Floyd anything?

No, I think you touched the highlights, and certainly I too would like to thank you all for your participation today and as well for your continued interest in our company as an investment. We thank you all. Have a good day.

Once again, ladies and gentlemen, that concludes today's call. Thank you for participation. You may disconnect.