Black Hills Corp (BKH) 2006 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Black Hills Corporation quarterly earnings conference call. At this time all participants are in a listen-only mode and later we will be conducting a question-and-answer session. Instructions will also be given at that time. (OPERATOR INSTRUCTIONS). As a reminder, this conference is being recorded.

Our host for today will be Chairman, President and Chief Executive Officer, Mr. Dave Emery, and the Executive Vice President and Chief Financial Officer, Mr. Mark Thies. At this time I would now like to turn the conference over to our host, Mr. Mark Thies. Sir, you may now begin your call.

Thank you. Good morning, everyone and we appreciate your interest in Black Hills. We are going to talk today about our earnings release which we put out Wednesday night. And Dave will begin with a year-end review and opening remarks on the operations of Black Hills.

But first I would like to mention and refer everyone to the cautionary language that we provide in each of our filings with the SEC and in each of our reports. As everyone knows, we have a cautionary language with respect to forward-looking statements.

So what we will do for this call is have Dave lead with the operations review and a summary of where we have been and where we are going, and then I will follow up with the financial statements and the financials of the fourth quarter and the year. So Dave, you want to go?

Thank you, Mark. Welcome, everyone. 2006 was an extremely busy and very eventful year for Black Hills Corporation. Despite some fairly significant challenges earlier in the year, we were able to post some pretty good financial results here coming into year end. Mark will speak more about those later, but you have seen the numbers -- earnings per share at $2.42 including $2.21 from continuing operations, which is on the high end of our guidance range that we put out a couple quarters earlier in the year and all the way back to last year in 2005 when we first put those numbers out. So we are happy that we were able to end the year on the high end. A couple of the quarters there we thought we might be closer to the lower end of that range just because of some of the challenges we were having with outages and gas prices and things like that.

From an operational perspective, we really accomplished much in 2006; at the retail utility business segment, several significant events during the year. Black Hills Power, we of course had the significant planned outage at the Wyodak plant which was a fairly sustained outage and impacted both Black Hills Power and our coal mining operations. But that unit was put back on early in the third quarter and has run well since.

We also had our first rate case since 1995. That case was approved right at the end of the year, amounts to a $7.9 million increase to base rates. And just as importantly, I think, allows for some pass-through mechanisms to deal with some of the volatility in gas prices and other features that are occurring now. We have pass-throughs for transmission costs, steam fuel, and then have a potential pass-through for purchased power and gas fuel, and the ability to retain our off-system sales for customer benefit -- and shareholder benefit, I'm sorry.

The way that works is essentially we will continue to absorb the first portion of the gas and purchased power risk. If we reach a certain threshold then we'll pass some of those costs on to customers and then and only then would we share our off-system sales. So what the whole case really allows us to do is to continue to operate in the manner in which we have for the last eleven-plus years but we have a full incentive really to do a great job at keeping our costs down, optimizing our off-system sales in order (technical difficulty) [event of] future rate increases. So it's truly a win-win situation from both a shareholder and customer perspective.

We did a customer opinion survey at Black Hills Power for the first time in quite a few years and had really great results from that. 98% of our customers have a favorable or very favorable opinion of the Company, which is extremely positive from our perspective and I think shows our commitment to providing that quality customer service that our customers have come to expect from us; certainly has implications as we talk about future growth in our retail utility segment as well.

Operations in Black Hills Power continued strong -- excellent system reliability, very low outage numbers, and our plant availability in the regulated fleet was a solid 97%. One of our plants, Neil Simpson II, ran over a year continuously from late '05 until mid to late December of '06 without a single outage; extremely good performance there.

At Cheyenne Light, Fuel & Power, our electric and gas utility, we had a new rate case that took effect January 1, 2006, and that certainly contributed to the earnings growth in that company this year.

Progress continued at Cheyenne Light on our efforts to vertically integrate that utility and provide more of the generation resources and rate base. Our Wygen II plant remains on budget, on schedule for a solid commercial operations date of January 1, 2008. We hope to be doing some test firing and things early in the year, obviously as we prepare for commercial operations. But it will be right at the tail end of '07, early '08 when it's available for full commercial operations, which is on schedule.

We intend to file a rate case for Wygen II sometime in this first quarter of '07, most likely during the month of March with the goal of having the rate proceeding completed prior to year end and prior to our first commercial operations date. So the rates will take effect immediately upon the plant beginning to serve the customers at Cheyenne Light.

We also made a significant contribution here, not contribution -- a move toward some renewable energy in our portfolio of generating resources. We signed for Cheyenne Light, a twenty-year power purchase agreement for 30 megawatts of wind that actually the project will be sited just outside the city of Cheyenne on city property. But a significant movement for us in moving towards some renewable energy and supplying that for our customer base, and doing so at a very good cost for customers.

On the wholesale business, segment was a busy year as well; the Energy Marketing front we had several significant developments. Early in the year, I think March 1, we sold our Black Hills energy resources assets which were our Houston Texas-based crude oil marketing and two pipelines in East Texas. That sale allows us to focus more on our primary markets in the Rockies and the movement of Rockies gas to both the west and the mid continent areas of the country.

Enserco, our gas marketing company and now crude oil, and I will talk about that in a second, but they celebrated their tenth anniversary in 2006. And that company has been an extremely positive addition to Black Hills Corporation and they continue to thrive. They commenced crude oil producer services out of our Golden operation in May of this year. For those last eight months or so of the year averaged about 8,800 barrels a day of producer services crude oil, which is a good stable fee business for us. We also increased our daily average physical gas deliveries by almost 12% at Enserco, up to about 1.6 Bcf a day. Again, they just continue to grow and do well.

Black Hills Generation, our generation subsidiary -- we successfully resolved our outages at Las Vegas I and Las Vegas II. We have recovered some of the expenses associated with those outages through insurance proceeds and will continue to focus on that. But I think one of the keys to successfully managing our way through that outage was the fact that our crews were able to configure the plant so that we could operate in simple cycle at Las Vegas II while we were working on the steam turbines, certainly mitigating the impact of that outage from a shareholder perspective and a real positive operational result for us.

Even despite the outages at Las Vegas, we still had very good power plant availability numbers for the whole year at more than 93 -- 93.4%. Even with those outages which were fairly long in duration, we had some great numbers. Fourth quarter was one of the best quarters ever for generation fleet with availability of the non-regulated fleet of 99% which is extremely strong and we are happy to continue that trend here as we go into '07.

Wyodak resources, our coal mine, pretty much a normal operations year there and about the same from a tonnage perspective as the prior year at 4.7 million tons. The significant impact on the tonnage that we did have was the Wyodak plant outage. You know it is our largest single coal customer and that outage went on for six or seven weeks or so, so pretty significant impact on tonnage. But overall, a very positive year for them.

Probably more significant from a coal mining perspective is they are gearing up equipment, staff and shift-wise to handle an increasing overburden ratio as we mine through a higher overburden area in the mine. And then adding and preparing our operations groups for the additional coal sales associated with the Wygen II plant as it comes on late this year and resumes full commercial operations the beginning of next year.

Black Hills Exploration and Production through two acquisitions in the Piceance Basin in March and August we added a third core operating basin. Our existing two core operated areas, of course, are the Powder River Basin and the San Juan Basin. This Piceance acquisition is a large portion of those reserves are proven undeveloped and an undisclosed amount of probable reserves. We are excited to have the opportunity to add that; gives us a lot more flexibility on drilling, scheduling and meeting our overall production growth goals. Probably be later this year, third and fourth quarter when we really get some significant drilling activity going there primarily due to just permit time and things like that. But it takes a while to get all your permits done and be ready to go for a drilling program.

From a production and growth perspective for '06, we did post our ninth consecutive year of production growth at BHEP. The overall growth rate was 5%, certainly under our long-term goal of averaging a 10% growth rate year-over-year. Now we know we're not going to accomplish that every year, but certainly from a long-term perspective we will have some years where we are a little above and a little below. This year certainly was one below. We did lose a little bit of production, probably around a percent or slightly less due to the impact of a royalty change for federal stripper well leases. That impacted us negatively; actually produced the same amount of oil but our net share went down due to the royalty change. But still we were short of the goal.

The highlight on the production standpoint is that we exited 2006 on a high note. In '05, we exited the year with declining production. This year we had fourth quarter production up very strongly; 15% over the fourth quarter of 2005.

Reserves. We ended the year about 200 Bcf, 199, a little bit less than we had expected. Some of the drilling results in certain portions of -- particularly our San Juan Basin area and Finn Field area -- were in areas where there had not been much drilling. And we based a lot of proved, undeveloped locations surrounding say, one or two producing wells, essentially honored the producing wells as far as what we booked for reserves there, and if we drilled another well in those areas and it was less than the one that we had been surrounded with proved undeveloped locations, of course it pulled all the proved undeveloped locations in the area down.

Doesn't necessarily mean reserves still aren't there, I mean we've got to do some more drilling, but it certainly pulled the numbers down for a while and that is something that we will continue to study with our engineers and geologists as to where we want to continue drilling in those areas.

The Denver-Julesburg Basin property, our Big Springs property, we talked about that in our third quarter release. Lost a real significant well there due to water intrusion and something that certainly impacted production and reserves both for us at year end and something that changed our strategy a little bit there.

The bright spot on the reserves is we had applied in the fourth quarter of 2006 for an increased density order in our New Mexico, East Blanco Field. We received that order on January 30. It essentially amounts to around round 60 drill site locations. We'll book those very conservatively from a proved reserve perspective, even though we're pretty confident in them from a technical perspective. But, probably book around 10 Bcf in 2007 and then as much as another 20 after that. But we will proceed cautiously with how we book those in order to be real conservative on the nature of our reserves.

Other significant developments for 2006 -- we've been focused on obtaining an air permit for our next coal fired mine [mouth] power plant, Wygen III. That permit was actually awarded this month. Our plan there is to work our way through the regulatory process, determine appropriate ownership, whether that is a Black Hills Power, a Cheyenne Light, or a shared asset. We might even entertain a partner for a portion of that plant. But work our way through those issues and the additional permits, industrial citing permits, certificate of public convenience and necessity, and our goal is to commence construction kind of on the tail end of our Wygen II construction. So late '07, early '08, we would hope to be commencing construction of Wygen III, which will be a twin to Wygen II. It will share control rooms and facilities with Wygen II.

Our efforts of course to increase our retail utility holdings -- we have had a couple of significant efforts in the past 12 months or so. One of them was unsuccessful, but our effort in looking at the Northwestern energy sale, as I said, that was unsuccessful but certainly represented a good opportunity for us and one that we went after fairly aggressively. Came down to the end of the day, we exercised, I believe, some good discipline on the spending side and when it got to the point where we didn't think it was good for shareholders, of course, we were only comfortable submitting a certain bid and it wasn't high enough to win the day.

Moving onto the next one, of course, we announced on the 7th of February our acquisition, the signing of the agreements for acquiring five utilities from Aquila in Colorado, Kansas, Nebraska, and Iowa for $940 million. That is a transaction we are extremely excited about; a Company-transforming acquisition, increases customers from around 135,000, 140,000 customers to nearly three quarters of one million, and a large shift in earnings back towards utility, which is a very positive and credit accretive for us. So something we are excited to proceed on as far as gaining approvals and things.

Last week we declared our 37th consecutive annual dividend increase, another record that we are very, very proud of. Certainly an acquisition of large utility properties helps us maintain that record. Certainly something we are cognizant of and want to continue if we can.

This week on Tuesday the 14th, we announced that we had strengthened our balance sheet significantly with the issuance of 4.17 million additional shares of stock through a private placement. We will use those proceeds for debt reduction and really provide good strength to our balance sheet as we enter the regulatory approval process for our transaction and just provides a good base for us in general.

So in conclusion, we really had an excellent year in 2006. Significant achievements in each of our individual business segments. We're off to a strong start in 2007. As we had mentioned in our press release, we have reaffirmed our earnings guidance range for the year at the $2.10 to $2.30 a share and that includes the impact of the equity issued earlier this week. So we are pretty excited about our opportunities as we go ahead.

Now looking to the remainder of '07 and beyond, we've got several great opportunities to continue to add shareholder value. Finally, the Wygen II, again, we hope to have that in service by year end as a rate based asset; exciting opportunity for us there. Continue our growth trend at Black Hills Exploration and Production with a very focused and carefully planned drilling program. Commence construction on Wygen III, either in '07 or early in '08, assuming we can make our way through the regulatory process to do so, which we are fairly confident in our ability to do that.

And then we will be focused, of course, on gaining regulatory approvals and final approvals to close the Aquila acquisition. And we have stated that is probably going to occur in the first quarter of 2008 and is contingent on the Aquila Great Plains transaction. But we are excited and in pursuit already of working on regulatory filings and things to move that along on our side.

As we look at that acquisition and what it provides for us in the future, we have talked about that but certainly one that is an exciting opportunity is the possibility of vertically integrating at least a portion of the generation resources for the Colorado electric utility that they serve today. Something that again, plays on our core strengths of planning, permitting, and constructing and operating generating facilities and providing fuel from our coal mine. So an excellent opportunity.

With that, I will turn it back to Mark Thies to go over financial results for 2006. And then we'll take questions after that. Mark?

Thanks, Dave. In 2006, again, focusing really on the full year, we had a very strong year for the full year as Dave mentioned. We had $2.42 a share for the year including a $0.21 per share gain on the sale of certain oil marketing and transportation assets. But our earnings from continuing operations were $2.21 a share for the year, which is a very strong year. That included an increase in power generation earnings significantly, but when you look back to power generation earnings compared to 2005, we did have the impairment of the Las Vegas I plant in 2005 in the third quarter.

So otherwise we had good stable earnings from our power generation business going into the year. We had an increase in retail services, the utility business. Good results at Black Hills Power despite the impacts of the outage of the Wyodak plant. The Wyodak plant outage as Dave mentioned, was a six week scheduled major overhaul. That plant is operated by PacifiCorp and that affects both our coal mine and our electric utility, Black Hills Power. We did have good earnings growth in Cheyenne Light, as Dave mentioned. We had a rate case that went into effect January 1 of '06. So we showed some strength there.

Our marketing business, as Dave mentioned, had its tenth anniversary -- had a very strong year. Coming into 2007 we expect good results from our marketing business with some continued volatility in the natural gas sector.

With that, I think Dave covered a number of all the operating effects of each of our businesses, so I won't go through those again. I would like to open it up for questions now.

(OPERATOR INSTRUCTIONS). James Bellessa, D.A. Davidson & Co.

You just increased your shares by about 12% and yet your guidance has been left unchanged. Would you tell us did you have in your previous guidance an expectation for a share offering and therefore you had not disclosed that and now you are disclosing it? Or alternatively are there components of your guidance that have gone up as a result and therefore your per share estimates are able to stay the same?

I think it is more of the latter. We did not have -- a lot of things have changed since we put that guidance out in November initially for 2007. We see some strength, as Dave mentioned, we see some strength coming out of the oil and gas business on production. We saw strong production in the fourth quarter coming into the year; we are starting the year strong. We continue to see strength in our marketing business. They had a good quarter. It was less than 2005, but recall in 2005 that was when we had hurricanes Katrina and Rita come through when the gas prices were significantly higher.

We also have had very good results in our generation business, in all of our generating plants, as Dave mentioned, the fleet availability for the electric utility as well as the non-regulated generation has been very strong. We have very good operations there. We see a lot of strength coming into 2007 that we were able to have the share offering and maintain or reaffirm our guidance at the [2.10] to [2.30] level.

(OPERATOR INSTRUCTIONS). Peter Hark, Talon Capital.

My first set of questions have to do with the private placement that you did a few days ago, and more to the timing and the pricing of that transaction. It doesn't go unnoticed that you got a pretty quick turnaround from S&P to the extent that they revised their outlook up to stable from negative. Was that what drove the timing of the deal? Or were there other factors?

Well, we have not closed on that transaction. That closes next week. We have to be cautious on what we speak to. We saw that it would show some strength really to the balance sheet and the regulatory process. We had previously gone into S&P with respect to the overall, the broader transaction and got a review of what that would do for Black Hills again; adding credits for it with the largely gas businesses that we're adding, we thought that was a credit accretive transaction and S&P had come out with that. The additional equity [nearly] strengthened the balance sheet to show our ability going forward and into the regulatory process, as Dave mentioned, that we think that that will show our commitment to investment grade, which we have always said we had a commitment to investment grade. And we are able to maintain with the strength of our earnings, maintain our guidance. So we thought the timing was a good time for it.

Again, just to kind of get a better flavor for what went on, is there any restriction for the participants in that private placement? To the extent that they will be locked up on shares, will they be prohibited from shorting stock to protect that gain, effectively a $3.50 gain on the day that you priced it? And are they going to be able to participate in any further private placements in a favorable position? In other words, do they have a First Call on the next set of private placements if you so choose to do that?

Really, once we really need to close the transaction and then we'll have another release to describe the transaction when it closes. We've got signed commitments so next week we will come out with further information with respect to that transaction. At this point, we are unable to speak to that.

And to the extent that following Mr. Bellessa's question on the guidance staying the same, I mean is it fair to look at the range of $2.10 and $2.30 -- if you took the top end of that range and diluted that by the 4 plus million shares and took the proceeds to pay down short-term debt, it would kind of keep you within the range but maybe towards the lower half of that range. I understand that there are some other things that have kind of improved for you in the various business units, but is that kind of another way to think about it? To the extent that you can stay within the range yet perhaps towards the lower half of that?

I think the way we looked at it was there were, and as I answered Jim Bellessa's question, we saw some strength coming into '07 from our balances -- from our estimates back in November. I don't think I would say that it is merely doing the math on the additional shares and reducing debt and saying we can stay within our range. We do see some strength coming into '07 that we were able to maintain our guidance.

And then lastly just in terms of further financing, aside from any extraordinary market conditions that may cause you to think about other types of financing vehicles, do you feel that what you have done here a few days ago or will close on next week, will that be enough to see you through to the close of the Aquila transaction in terms of any type of equity financing?

We will continue to evaluate that, but it does take about a year to close the transaction, to get through the regulatory approval process. So we anticipate that as we move towards closing and get more clarity on closing, and we'll provide that clarity as we get different regulatory approvals along the way, we'll provide the clarity. That is when we would anticipate any additional financing we need to do as we get closer to the time of closing and have more clarity on that closing from an equity side.

From a debt side, we still have to look at some longer-term debt financing on our Wygen II plant as we near completion to get that plant in service and in rate base. So we would look to possibly have some additional debt financing on that. But otherwise we will monitor the progress and we will update our shareholders on that progress of the transaction, the asset acquisition from Aquila. And we would look at -- as we get closer to that point, any additional needs, as we mentioned in our release with respect to that, we would anticipate some equity, some convertible, mandatory convertible securities and some holding company debt. So we will continue to evaluate the progress on that transaction through the regulatory approval process and overall approval process, and update with respect to the progress on that as we go.

(OPERATOR INSTRUCTIONS). Gentlemen, at this time there do not appear to be any further questions. Please continue with any comments you may have.

I would like to thank everyone for their interest in Black Hills, and have a great day. Thank you.

Yes, thanks, everyone, for your participation today. We appreciate it.

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