California Water Service Group (CWT) 2005 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the California Water Service Group's 2005 Q1 Earnings Results Conference Call. (OPERATOR INSTRUCTIONS) I would now like to introduce your host for today's conference, Mr. Richard Nye, Chief Financial Officer, and Pete Nelson, President and Chief Executive Officer. Sir, you may begin.

Thank you very much. Good afternoon, everyone. This is Dick Nye, and welcome to the earnings call for California Water Service Group. Today we will be discussing the 2005 Q1 for Cal Water. We will also be providing an update on several other items, such as regulatory matters, capital expenditures, our financing plans, and the dividend recently approved by the Board. Then we'll open it up for questions from analysts.

But before we get started, I need to take care of some legal matters and read the following statement. As an introduction to the information we will be discussing, please be aware that some of our comments can be considered forward-looking statements as defined by the Federal Security Laws and is outlined in the Company's SEC filings. As such, the forward-looking statements are based on currently available information and management's assumptions, expectations, and estimates. However, actual results may vary significantly. Risk factors that could cause results to vary from expectations are described in the Company's filings with the SEC. These factors are also available in yesterday's earnings release, which can be viewed from our web site at www.CalWatergroup.com.

And with that, I'd like to cover our financial results comparing our first quarter of 2005 to the first quarter of 2004.

Just to summarize the whole quarter in a nutshell, we had way too much rain and that affected our business from a usage standpoint. On our revenues, you can see on the P&L that they were approximately flat for the quarter, just increasing slightly. In looking at the cost of change of our revenues, we had a positive impact of about $2 million from rates. Of that $2 million, about $2.2 million of it would be items that I would call permanent in nature, and then there was a negative of about $200,000 of items that I would term temporary in nature -- temporary, meaning that we have surcharges in place, but they have an end date when those surcharges fall off, principally for balancing accounts.

Our usage was down significantly for the quarter, about $2.8 million of revenue due to the higher rainfall and then we increased revenue about $800,000 for new customers. But the decreased usage offset the increases that we had for rates and new customers.

I wanted to share a few statistics on weather, since it was so significant for us in the quarter. In the Southern California area, for our districts, we had about 3 times the amount of rainfall in 2005 as what we had in 2004, 19 inches versus 6 inches for our districts there. Also for Southern California districts, we had double the amount of days where we had precipitation, so that impacted our usage. In the San Francisco Bay area, we had about 50 percent more rainfall, 10 inches versus 6 inches. In the Salinas District, rainfall was about double, 10 inches versus 5, and they had a lot of days where we had precipitation; 45 days, which means it rained every other day for the quarter in our Salinas District, and that compares to 12 days of precipitation days that we had in 2004. And the districts in the Central Valley, our Bakersfield and Stockton districts had higher rainfall. (Inaudible) was about the same, and Chico was probably about the only district that had lower rainfall compared to last year.

Doing a computation on a weighted average basis, using revenue, overall for the Company, rainfall was about double last year and it was about 50 percent higher than normal for our districts. So that's the revenue and weather items I wanted to share.

Now moving on to our operating costs, overall, our operating costs were up about $1 million or 2 percent. We had increased expenses for general operating, maintenance, and depreciation and these were partially offset by lower costs for water production. In the water production area, if you measured it in millions of gallons, water production was down about 13 percent. In measuring it in costs, which you can see on the P&L, costs were lower by about $1.3 million or 6 percent. In the purchase water area, which is the largest area within our water production costs, costs were lower by about $600,000 or 4 percent.

In the first quarter of 2004, we had 2 fairly significant items that were not in 2005. And these amounted to a credit to cost of about $600,000 in the first quarter of 2004. Without these items, the Delta would've been around $1.2 million or a 7 percent difference. We had a big reduction in purchased power costs. It was lower about $700,000 or 18 percent. So on and apples-to-apples basis for water production costs, these costs were down about 9 percent after adjusting for the significant items in 2004 that were not in 2005.

In looking at the mix of production for our California districts compared to last year, purchase water was about 53 percent of the total and that compares to 56 percent of the total in 2004. Well production was up. It was 42 percent compared to 40 percent and our surface water was up 5 percent compared to 4 percent. The other subsidiaries for the other states, 100 percent of their production comes from wells, so there's no mix component there.

In the other operations costs area, costs increased about $1.6 million or 8 percent. Payroll costs was up about $400,000 or 4 percent. We saw pretty large increases in medical costs for employees and retirees. These costs were up about $400,000 or 21 percent. Pension costs was up about $300,000 or 17 percent, and then we saw increased costs in outside services, about $700,000 and this was comprised of legal, auditor costs, and consultants for information systems projects.

Moving down the P&L, our maintenance costs was up about $500,000 or 15 percent, mainly due to repairs for mains and pumping equipment. Depreciation and amortization was up about $500,000 or 7 percent, due to 2004 capital expenditures. Federal and state income tax was down compared to the prior year, about $500,000. That's due to the lower taxable income. And then property and other taxes was up about 10 percent or $300,000. Our weighted average shares are up about 9 percent due to the equity offering that was done in June of 2004.

So overall, our diluted earnings per share was about $0.03 per share compared to $0.08 per share last year. One thing to note, that the first quarter is traditionally the lowest quarter for our business due to the seasonal nature that we have.

So just to summarize, in overall, we had lower earnings principally due to the higher rainfall experienced in most of our districts.

Now I'd like to turn it over to Pete to discuss some regulatory matters.

Thanks, Dick. Today I will cover a couple of areas. One is rates and regulation and then later on in the call, I'll talk about arsenic and where we are on that issue in water quality. So first, the rates and regulations; I'll speak to 3 areas. One is the status of appointments of 2 new commissioners to the California Public Utilities Commission. Next, I'll talk about an issue that we're dealing with, that we call gain on sale of surplus properties, and third, I'll talk about our major rate case filing, which is our 2004 general rate case.

So first, the status of the California Public Utilities Commission, commission seats -- as of the first of this year, the Governor had 2 of those 5 seats open for appointment, and he's filled 1 with a woman, [Diane Greenwich]. She was sworn in, in January. Diane's been involved in the regulatory business here in California for decades and she comes with an energy and environmental background, and a legal background also, and very good credentials. She's really, at this point, had no opportunity to go on record on any water rate cases. She's just too early in her term, but our personal sense in knowing her for years, that she is one who will take the time to learn and understand the issues she's dealing with and consider all sides of an issue; and that she sees value, as does the Governor, in a healthy California economy and that means financially healthy utilities and that's good.

The second seat that the Governor has open, he did appoint an individual, Steve Poizner, who is a high-tech businessman in the Bay Area here. Steve had to recently withdraw his candidacy from consideration. So at this point, we're awaiting another appointment from the Governor -- from the Governor's office and there's just no word yet on who that will be or when that will be taking place.

The second rates issue is what we call gain on sale of surplus property and a little background here might help. 10 years ago, the California Legislature passed what was called the Water Utility Infrastructure Improvement Act. The major intent of this law back in 1995 was to encourage water utilities to sell their surplus property and then reinvest the proceeds back into the business, into new infrastructure. And this surplus property generally is old well sites, say, on an acre or so of land in residential areas, where for some reason, the water supply just is not available anymore. Well, this January, one Staff Department at the California Public Utilities Commission, the Office of Rate Peer Advocates, opined that we at Cal Water had not proven that the surplus property we've sold since 1996, and that the total property sales exempt about $19 million; that that total surplus property was not proven to be no longer used or useful. The Office of Rate Peer Advocates, at that time, and still does, recommend a fine of $160,000 and that the gains on sales of these properties should benefit the ratepayers.

Well, we, as you can see imagine, disagree and feel strongly that the ORA position here has absolutely no merit. The hearings were held on this issue last month and we're awaiting a decision, or a proposed decision, from the Administrative Law Judge. No indication yet on when we'll see that proposed decision. Once we do, we'll have the opportunity to comment on it and discuss it with the Commission Staff and Commissioners.

Bottom line, at this point, we feel very good about our case. We feel very good about the testimony and the record, that in fact, all the property sold were surplus and were no longer used and useful, and that we fully complied with the Infrastructure Act. We feel we've made a very good showing, have a very strong case, and once we see the proposed decision, then we'll take it and go from there.

Third issue is our 2004 general rate case in California, which is covering 8 of our 24 ratemaking districts in the state. This application is a large one for us. It's a $26.5 million application to increase rates, annual rates, in California. Of course, what is ultimately granted is always a different matter. But at this point, we've had many discussions with the Commission Staff and we recently applied for interim rates and an effective date of July 1, 2005. What that means -- when I say, "effective date," that's the date upon which the rates would become effective. Now if the rate case is actually decided later this year, we'd be able to go back and essentially back bill, back to July 1. The Commission has not acted on our application for interim rates or an effective date, and it may or may not be approved.

At this point, the entire rate case is on schedule, and if it does stay on schedule, we would expect our full rates to be in effect this October. So those are our 3 rates and regulatory issues.

I'm going to turn this back to Dick now to talk about Sarbanes-Oxley.

Yes, thanks, Pete. I wanted to give a brief update on the Sarbanes-Oxley, the Section 404 on internal controls. In the annual report that we filed about a month ago and then also sent out to our stockholders, we reported that our controls were working effectively and that we received an unqualified report from our auditors, so we were pleased with that. The costs to comply were high and I think that's the case for all public companies out there. It's just a matter of degrees, and if you take all the costs that are related to 2004, our audit fees doubled and we also used outside consultants to assist completion of all the documentation work that was required. All in, we spent about $900,000 of outside costs to comply with this new regulation. A little of that, I would say is one-time costs, but a lot of it is going to be continuing costs. What that is right now, we just don't know since we're in year 2 of these regulations.

We understand the SEC is looking at the burden and the cost benefit on small and mid-cap companies such as ourselves, and they may make some changes in the next 90 days or so. While we fully support the concept of Sarbanes-Oxley, the documentation and auditor requirements really do need to be reassessed, so we do applaud that the SEC is looking at this matter. Going forward, we are working to reduce these costs, but we don't expect to be back to where we were for auditor's fees prior to Sarbanes-Oxley 404, 2003 and prior.

Now to talk a little bit about our capital projects and financing. The first quarter spending for capital-funded capital expenditures was about $15 million for the quarter and that compares to $8 million in 2004. Our full-year budget is at about $85 million. Beyond 2005, we are estimating that our capital expenditures for the next 5 years will be in the 70 to $80 million range. As far as liquidity, we're in good shape there. At the end of the quarter, we had about $28 million in cash and got full use of our credit facilities. We also received about $7 million in cash from tax refunds, principally due to accelerated depreciation. That $7 million didn't affect our P&L, but obviously, it did affect our cash balance, so it was good to receive that money in.

For the first half of 2005, we're not planning on doing any major financing initiatives. For the second half of 2005, the plans right now is to issue around $20 million of debt to finance our capital expenditure program. But that will depend on the timing of our capital expenditures, when they're put in place and actually, when we have to fund them, so we'll have to adjust accordingly, but that's the current plan for right now.

Now I'd like to turn it back over to Pete to discuss the status on our arsenic compliance program.

Okay, thanks, Dick. This is probably the one water quality question I get the most these days and that's, "How are you preparing for the new arsenic standard?" As most people know, the current primary standard for public health for arsenic is 50 parts per billion and that standard will be increased or reduced, I guess, is the way to say it, to 10 parts per billion effective January 20, 2006.

We have 4 geographic areas that we needed to make investments in infrastructure to comply with the new standard -- Stockton and Bakersfield, which are in the California Central Valley, the current River Valley, which I'll say is in the southeast part of the State of California, and then to a small degree or a minor degree, in New Mexico. The total cost to us to match the new standard of 10 parts per billion is about $25 million and that's capital. That's spread out over 2 or 3 years, really beginning last year. The bottom line for us is we are planning and expect to fully comply with the standard on schedule. This is not as expensive as we once thought it would be and we're very confident that we can get the full recovery of these costs to comply in our rates.

So I'll go back now to Dick for a wrap-up and questions.

Okay. Just a couple of other items. I wanted to announce that the Board approved a dividend of $0.285 for the quarter for our common shareholders, and at yesterday's Annual Stockholder Meeting, we announced the approval of the 3 proposals that were presented to our stockholders. All 3 were approved by a significant margin. Those 3 proposals were to elect the Board members, which is our current set of Board members, to reelect them. The second one was to appoint KPMG as our independent public accounting firm and the third one was to approve an equity plan, which replaces a long-term incentive plan. We would like to thank all of our stockholders for their vote on those proposals.

So with that, I'd like to open it up for questions.

Thank you, sir. (OPERATOR INSTRUCTIONS). Our first question is from David Chandler from Janney Montgomery Scott. Your question, please?

Yeah, hi, good afternoon. Here's hoping for a little more sunshine in sunny California.

Were hoping on it.

Yeah, in your release yesterday, you spoke about, or you noted that some sort of wholesale credit that hurt earnings to some degree. Could you elaborate on that?

Yeah, in the first quarter of 2004, we received credit from the wholesale supplier in Southern California which was for an overcharge situation, and so they credited back those charges to us in the first quarter of 2004 and we didn't receive a similar credit in 2005.

Okay. And what was the difference in terms of earnings per share?

It would have been about $0.04. It was about $1.-- to $.04 to $.05, it was about $1.4 million.

Okay.

We also received a charge in the first quarter, or recorded a charge in the first quarter of 2004 of about $800,000, which would be about $.03 a share and that related to a meter issue with a wholesale supplier in our Stockton District. So, the 2 together net out to be about $600,000 or $.02 a share.

Okay. And you spoke a lot about weather, and we know whether affected it. Did you ever quantify what the earnings per share impact the weather was?

No, I didn't. Our revenue impact is about $2.8 million reduction on usage quarter-to-quarter.

Yeah, but there were production reductions as well, weren't there, and also other costs?

That's true. The fall-through on revenue I would estimate to be around 50 percent.

Okay.

Earnings fell -- if I just estimated off the cuff, I'd probably say it's around $.04 to $.05.

Yeah, that's pretty much where we were at the low end of the range. A question with regard to Steve Poizner's replacement on the Commission. There was a so-called short list; it wasn't very short. It was, I think, about 25 names. I take it, or would I be right in surmising that the next name is going to come from the same list?

Dave, this is Pete here.

Yeah.

Don't know. Actually, the short list was never public and --

Okay.

There were some -- I think I remember 300-plus individuals actually applied for the 2 positions.

Yeah, and I seem to recall that it was boiled down to about 25 people, but that was, I guess, rumor more than fact.

Yeah, I don't remember any public announcement there.

All right. Okay. And then there's no sense as to how long that's going to take?

Nothing from the Governor's Office yet.

Okay, the situation with arsenic. You trust the federal standard; again, there's been talk in California of a more strict standard than the 9 or 10 parts per billion. Are we hearing any more background noise about that?

Yeah, the percentage is actually 10 parts per billion.

Yeah.

And there's been no indication from the state that they're going to be more rigorous than the 10 parts per billion.

Okay. And then lastly with regard to financing it. I may have asked this question before; I don't recall what you said. Are you folks grandfathered in for industrial revenue bonds at all, or are you looking to do that to finance this, because historically, across the country, pollution control projects could be financed that way.

Yes, we've looked into it some. California is supposed to qualify for some of the tax-exempt money, although it's been -- it's real hard to get money out of that pool. We have not had any success going down that road.

Okay.

We will continue to look at it, but I think the probability is pretty low.

All right, thanks.

Okay. Thank you.

Thank you. Our next question is from Debra Coy from Stanford Research. Your question, please?

Yes, thanks. Good afternoon, guys. Dave got some of my questions, but just to follow up, obviously, yes we do hope the sun shines out there. Is your sense that if we do end up having a drier, much drier spring and summer, presumably with all the rain, that we should be in good shape on the supply side? Is that true of your supplies and also your sense from your wholesalers, so that we have a lot of room going into a potentially drier summer?

Deborah, this Pete here. The major supply issue we have is short term in Salinas, which is one of small districts in the Central Valley. In the other districts there, we don't see a supply concern this year or into the near-term future. I'll talk a little bit about Salinas here just for 30 seconds.

Good.

We do have a certain number of the wells in the Salinas District that have gone bad from nitrates basically, and so we are working hard to put new treatment in and drill new wells before summer. We have asked our customers in Salinas to avoid using water, watering their lawns from 6 to 9 a.m. and 6 to 9 p.m. for this short period here before summer so we can get the new treatment in. But that we see as a short-term, temporary situation. The rest of our supply, in all 4 states, actually is -- looks pretty good.

Okay. And as per usual, as you put the new treatment in at the wellhead, that just gets rolled into the rates?

Yes.

And then just on that same general question, arsenic obviously has gotten a lot of attention perchlorate for some other municipal water districts' getting more attention. Are you seeing any other well contamination issues from any sources or do you feel that, if you're still at 40 to 45 percent well production that your wells overall are in good shape?

I'd say overall in good shape. Things do surprise us, but the surprises sometimes take months to occur. It seems like the major issues we have are in the Salinas Valley these days, and they're more nitrates and a host of other --

Um-hum, because of presumably, the agriculture and the fertilizers.

Exactly, exactly. But we have just completed a long-term supply assessment in that district and feel we can supply short term of 5 to 10 years with new wells and treatment facilities and then we're looking for other options for the 10 to 20 year out range, but it looks manageable from here.

Okay. How big is Salinas for you overall, not that big, is it?

It represents about 5 percent of our total revenues --

Yeah.

-- 4 to 5 percent.

Okay.

And these things happen off and on and I remember 3years ago, we had the same problem in Salinas and in years back, it was --

Yes, I seem to remember that as well. And on the rate case, so you mentioned you had applied for the interim rates. When will you know if you are going to get rates in July or October?

No schedule yet. They don't -- there is no set requirement for when they have to respond to our application. Of course, we are following up on it.

Sure. And if you did get approval for interim rates, how would that be structured in terms of what percentage of the applied-for amount -- how does that work?

Generally, in the past, the interim rates have been about inflation.

So 3 percent?

Right, and then trued up later when, of course, the major application is approved.

Okay. And just for the sake of comparison, although we understand you won't get the whole amount, but the $26.5 million implies what sort of rate increase?

It implies no -- I mean, that there is no implication of what it will --

Well, no, what I mean is if you got the $26.5 million, what sort of rate increase would that represent, and then just with the understanding that you won't get that much, but if you get 3 percent in July and if you got -- and if, for the sake of argument, you got your whole $26 million, what sort of rate increase would that be off your current revenue?

You mean overall Company because there's 8 districts involved.

No, I mean for that district.

Well there's 8 districts involved --

Right.

-- in the rate case and it ranges from -- I'm going to say a 40 percent increase in the one district in Stockton, mainly to cover arsenic.

Um-hum, so there is a lot of variations in what you're saying. So you don't have a number off the top of your head?

Well, it ranges district by district, what the increase would be.

Okay, okay.

On the high-end at Stockton, it's 40 percent. That's the application, keep that --

Right, right. So the bottom line is, we wouldn't really expect to see a substantive impact of this rate case until October, other than perhaps an inflation increase in July?

I think that's a good conclusion.

Okay, all right, that's what I wanted to understand. Thanks very much.

Thank you.

Thank you. (OPERATOR INSTRUCTIONS). Our next question is from Roger Liddell from Ingalls and Snyder. Your question, please?

Yes, thank you, good afternoon. A question on contaminants again, both the specific and then a more generalized question regarding it. We've touched on perchlorate and arsenic, but then there's MTBE, and maybe mercury, and Lord knows what next. Do you see early signs of other contaminants, specific contaminants becoming an issue? And a related question is, is there any regulatory philosophy along the lines of these kinds of costs deserve immediate, as it were, some higher category of promptness of handling, or is it an expense just like any other, electric power, pension, you name it, cost?

Roger, Pete here. Good question. As far as contaminants in the future that we're foreseeing that could be significant issues, don't see them. MTBE, we have a few wells impacted, but we feel we can manage those [inaudible] have other supply sources and those kinds of things. Your second question about regulatory philosophy, we always have the -- and I'll talk about California specifically, because that's most of our business. We always have the opportunity to apply to the California Commission for what's called a memorandum account for significant, unusual, extraordinary circumstances. If something did come up -- and this happened in Salinas actually 3 years ago -- that was unusual, and extraordinary, and material, we would most likely apply to the Commission for a memorandum account to start collecting those costs for ultimate application for recovery. But there is no standard mechanism in place; we have to do it instance-by-instance.

All right. And, yeah, all right, fine. I'll back off. Thank you.

Okay.

Thank you. Our next question is from Tim Winter from AG Edwards. Your question, please?

Good afternoon, guys. Do you have any kind of feel how the majority of the municipal systems throughout the state are positioned to meet these arsenic standards? Is there a panic out there?

Tim, Pete here. I haven't heard much from the municipal systems and I may not be close enough to it, but I haven't also seen many applications for extensions in compliance, so I just don't have any information there.

But you don't have like a flood of municipalities coming to you and the other publicly traded companies for help or anything like that?

No, we don't.

All right, thank you.

Thank you. I'm showing no further questions at this time, sir. You may proceed with any closing remarks.

Okay. Well, thank you very much. Our next teleconference is scheduled for July 28, 2005. Please check our website at www.CalWater.com to confirm the date and time. You can also subscribe to a reminder service to receive an email a couple of days before the call. Thank you very much for your time and listening to our report on California Water Service Group and have a great day.

Thank you sir. Ladies and gentlemen, this conference will be available for replay after 7 p.m. Eastern time today through June 26, 2005 at 11:59 p.m. You may access this teleconference replay system at any time by dialing 1-888-266-2081 and enter the access code, 679647. International participants, dial 703-925-2533. Those numbers again are 1-888-266-2081 and 703-925-2533, access code 679647. Thank you, ladies and gentlemen, for participating in today's conference. Sir, you have any further closing remarks you would like to make at this time?

No, thank you.

Thank you, sir. Ladies and gentlemen, you may disconnect at this time and we do thank you for your participation.