California Water Service Group (CWT) 2006 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the California Water Service Group third quarter 2006 earnings results conference call. [OPERATOR INSTRUCTIONS]

I would like to turn the conference over to your host, Mr. Marty Kropelnicki, Vice President and Chief Financial Officer.

Thank you, [Melana]. Good afternoon, everyone, and thank you for joining us for our third quarter conference call. With me here today is Bob Foy, Chairman of the board, and Stan Ferraro, Vice President of regulations. Prior to getting going on today's call, I'd like to remind everyone that this call is being recorded and the replay is available at 888-266-2081, pass code, 978720. Prior to jumping into the results for the quarter I'd like to take a brief moment to talk about forward-looking statements. In particular, during the course of this conference call, the Company may make certain forward-looking statements. Because that's statements deal with future events, they are subject to various risks and uncertainties and actual results could differ materially from the Company's current expectations. Accordingly, the Company strongly advises all current and potential investors to carefully read and understand our disclosures on risks and uncertainties, as disclosed in our 10-K, 10-Q and other report filed from time to time with the Securities and Exchange Commission.

I would like to now talk about the results for the third quarter, starting off with the revenue line. Revenue for the third quarter increased $6.6 million or 7%, to $107.8 million over the same quarter last year. Sales to existing customers added $2.9 million to revenue, rate increases added $2.8 million and sales to new customers added $900,000. Total operating expenses for the third quarter increased $7.1 million or 8%, to $91.8 million over the same period last year. Water production costs increased $4.8 million or 12% to $44 million over last year, largely due to greater than anticipated customer demand. The principle components of this change were as follows: We had approximately $2.9 million of price increases from wholesale water suppliers; $1.7million in increased power cost associated with pumping more water; and $249,000 associated with pump tax.

Other operating expenses increased $1.2 million or 5% due to cost associated with our employee health and pension plans, as well as other benefit programs. For the quarter, maintenance expenses were also up in the third quarter, increasing $300,000 or 8% to 4.2 million. These costs are primary to do with repairing and maintaining the water facilities. Depreciation increased $400,000 or 6% to $7.7 million, because of the higher capital expenditures in 2005 and 2006. Year-to-date through September, our capital expenditures for the Company were $79 million, of which $20 million were funded by the Company, or $59 million. That's a 35% increase or $16 million increase over the same period last year. Likewise, work in progress increased $35 million or 79% from $43 million to $78 million this year. So overall we are still continuing to spend a lot of money in CapEx and believe we are on track to spend our budgeted $85 million this year.

Looking down at the other income and expense line, the only thing that's really material there is the fact that we did not have property sales in the third quarter, where we had $700,000 worth last year, and that's equivalent to $0.023 per share. Net income for the quarter was $12.6 million or $0.68 per share, compared to $13.1 million or $0.71 per share for the same period last year. As we noted in the release, we saw a nice increase in the demand for the quarter, but that was also followed by a large increases in our production costs. As we talked about at our last quarter conference call, in April the commission overturned what was called the W-1 rule. As a result, certain production costs -- these are costs that are related to the cost of purchased water and the cost of pumping water -- are allowed to into balancing accounts for recovery at future costs. During the quarter, we saw our balancing accounts go from an under-collected amount of $600,000 to over $2.1 million. So, we will be applying for a recovery of these costs at future dates and Stan'll talk about that a little bit later on today.

In addition, I want to touch on a couple of the financial activities we've had over the last -- last three months. And during the quarter, we completed our senior note offering for $20 million in senior unsecured notes. Those notes were for 25 years, with a coupon of 6.03%. Those proceeds were used to pay off our revolving line of credit, which was running 5.7%. As you may recall, we were starting to use our revolver to fund our capital program through the middle of the year. So we have issued senior notes and we paid that down. In addition, we recently completed our equity offering. We originally were planning on selling 1.75 million shares, but due to the strong demand, we bumped that up to two million shares for the quarter. In addition, the shoe, with 250,000 shares, were exercised. In total, the Company issued 2.25 million shares in October. This led to a gross amount of $82.7 million on the equity offering and a net amount of $79.5 million for the Company. We plan on using these proceeds to continue to fund our capital program that we foresee as continuing between $85 and $100 million here for the foreseeable future and to fund operations. The dilution associated with the equity offering, we expect that to be approximately $0.0075 for Q4 and approximately $0.06 or $0.07 per share or 4% or 5% for 2007.

And with that, I will turn it over to Chairman Bob Foy.

Thanks, Marty. This afternoon I would like to comment on the following: The recent earthquake in Hawaii; the upcoming governor's election in California; and the retirement of California Public Utilities Commissioner, Jeff Brown. First on Sunday, October 15th at 7:07 a.m., there was an earthquake in Hawaii. It was ten miles northwest of Kailua Kona. It was a magnitude of 6.6. Governor Linda Lingo issued a disaster declaration for the entire state, and electric power and telecommunications were knocked out across the island.

Why is this important to Cal Water. Because our wholly-owned subsidiary, the Hawaiian Water Service Company, serving approximately 500 customers, a lot of them very large, significant resort areas in the Kaanapali Beach area on the island of Maui. And our response -- which I think you will find of interest and reassuring to our customers and stockholders -- we formed a team, quickly mobilized to insure our system was functioning for fire protection and to provide supply a continuous supply for human consumption. We immediately activated three stand-by diesel generators so we could operate three of our six wells. This kept water flowing in our systems and an acceptable -- under acceptable water pressure. We activated two more generators that allowed us to maintain the water treatment process throughout the crisis. This insured that the water was maintained throughout the system and safe for customers. We immediately notified all of our customers -- hotels, condos and the like -- requesting that they conserve water until the full extent of the quake was known. We manually operated all major valves required to operate our water system.

Now to the end. Our employees were able to immediately report to work. We had excellent customer cooperation as to our request to minimize their water consumption. Everything operated remarkably well and our customers experienced no change in water quality or service. In addition, our system sustained no damage whatsoever. A potential problem is when the water pressure in our lines and customers lines fall below five pounds per square inch. This is a problem where nonpotable water in our customer sinks or holding tanks can back flow into our system, contaminating our water throughout our system. A special thanks goes to all of our employees in Hawaii for their flawless execution of their well-crafted disaster response plan and outstanding reaction to the earthquake. I bring this matter purely to your attention as an indication that our disaster response plan does work. And we have such plans throughout all of our districts, Company-wide; in the state of California, Hawaii, of course, as I just mentioned, Washington and New Mexico.

Now, as to the governor's race in California. A field poll -- a very well-respected poll, as we all know it -- a poll that was taken in late October indicates that Governor Arnold Schwarzenegger is ahead by 18 percentage points over democratic candidates Phil Angelides. With the election one week away, it looks like the race will, obviously, not be close. There are some who would say it's not a stretch to conclude that the more Angelides has ,campaigned the worse he has done against voters. A year ago, at the same time, in a hypothetical match up of Schwarzenegger and Phi Angelides, Angelides came out with 47% versus 41% for the incumbent governor. The governor's real election position is probably even better than our polls consistently indicate, and there are those who say that he could win by some 20 percentage points.

Now, this race is of particular interest for two significant reasons. First, present California Public Utility Commissioner Jeff Brown's term ends on the commission in January of 2007. This is very significant in that Governor Schwarzenegger will have the opportunity to appoint a new commissioner. In addition, President CPUC commissioner, Rachelle Chong, a republican, who was appointed by the Governor Schwarzenegger in January of this year is waiting for her confirmation. Had Angelides won, had he been elected, the democratically-controlled senate more than likely would not have acted on her confirmation, thus giving Angelides the opportunity two commissioners. Governor Schwarzenegger, hopefully in 2007, will have made four of the appointments to this five member commission by means of his first and second terms in office. The fifth member of the commissioner, Mike Peevey, a democrat and president of the commission, is a past president of Edison International and Southern California Edson Company. The water industry has found him to be very knowledgeable and fair in his deliberations and actions.

And now that I have shared with you, I think that makes for a timely introduction of our Vice President of regulations, Stan Ferraro, who will discuss recent developments at the CPUC.

Thank you, Bob. I would like to start by talking about the Water Action Plan. You've heard about this. December of last year, the commission for the first time adopted a clear water policy and set forth six action plan objectives, which deal with water quality, water conservation, infrastructure investment, low-income rate payer assistant, streamlining their process, and then rates that balance the investment, conservation and affordability. This year, there has been a lot of activity with the respect to implementing the action plan. A number of water companies, including Cal Water, have made applications with the commission -- general rate case applications that include some of the components of the Water Action Plan. One utility actually filed a separate application just dealing with the Water Action Plan. And then the commission itself has put together a checklist of items from the Water Action Plan and at the beginning of the applications, the administrative law judges are requiring the utility to respond to see what components of the Water Action Plan they're implementing and what the plans are for the remainder. So very optimistic that the commission's serious about implementing the Water Action Plan and so we're moving along with that.

Additionally the commission had workshops recently, looking at the streamlining of the rate case plan. They had revised the rate case plan a few years back and implemented some procedures that are really detrimental to the multi-district companies, like Cal Water. We have 24 districts, separate rate making districts, and it prevents us from fully recovering some of our cost because of the delays in implementations of rates for all of our districts. So that's very encouraging. They've had the workshops. We're waiting for the next step, which will address the issues that were raised and, hopefully, lead to changes that will improve recovery for us.

We've also, as Marty mentioned, talked about the W-1 and the balancing account, how now that we no longer have an earnings test that applies to our [offsetable] expenses, that the under collection in our balancing account of $2.1 million is no longer subject to that test. It could have been, had W-1 not been reversed. All or a portion of that could have not been recoverable, so we see that as a favorable action. We then had a general rate case decision in August; $4.8 million for eight of our districts. We do eight every year on a three-year rate cycle. And in addition, in that proceeding, we had asked for a revenue decoupling mechanism for our sales. And the commission, while it considered it, it directed us to file an application, which both would address that and increasing block rates at the same time.

We have done that, in fact last Monday. We filed an application that would establish a decoupling mechanism, commonly referred to as either a Ram or a W Ram for the entire Company. And we have also requested increase in block rates for all of our residential customers. And then we additionally asked for increased conservation spending to implement what's referred to as the best management practices in the water industry in California. These are another agency of state has set forth these -- the best management practices and we want to implement them. So it's really an application that addresses conservation and removing the disincentive from pursuing conservation. We expect a favorable outcome' however, it will be probably nine to 12 months before the commission actually acts on that application.

In addition to that, I can talk about one other thing that came out of the general rate case, and that was for the first time the commission for a water company actually issued a general rate case decision -- which I mentioned at the end of August -- and a second companion decision that made the effective date of that decision over a month earlier. Recognizing that the commission should have acted sooner on our rate case and didn't. it actually provided us with the ability to come in and file a surcharge that will pick up the lost revenue from the rate increase that -- right now we have not done a final calculation of the number, but it's likely to be in excess of $0.5 million. So we see that as a very positive event. Where regulatory delay has been such a problem and to fully recover and earn our authorized rate of return, the commission clearly has taken a positive step in that direction.

I guess the last thing I can menture -- mention on a positive note is is there is a local ballot measure in the city of San Diego, which won't affect us, but at least it's a positive thing, which is asking the voters of that city to give the authority to the city to enter into privatization ventures, which could be water, which could be other operations of the city, but it's just a large city in California taking that step. And if it's approved, we see that as a real positive step. And that completes my items and I'll turn it back to Marty.

Great. Thanks, Dan, thanks, Bob. So just in summary, I think what the achieved results that we saw in the quarter, some of of the items that we've seen change this year, in particular the W-1, and the Water Action Plan coming out, and with the pending governor election, I think we're considerably optimistic going into the future. As with any regulatory proceedings, you never what your outcomes will be, but we think things are headed in the right direction in California and really good about how we're going into the year next year.

So with that, Melana, we'll open it up for Q&A with people on the call, please.

[OPERATOR INSTRUCTIONS] We have a question from Selman Akyol of California Water Service.

Hey, Sel, welcome to the Company. When did you join us? [LAUGHTER]

Really, I'm thinking it might be a pay raise.

I don't know if the SCC rules allow the analyst come to work for us, but, hey, you're a great guy. We'd love to have you on board.

You know, I appreciate that. It would make my job a lot simpler here. As it relates to the water production cost, I know you gave the increase over the prior year, but do you have the break out between the purchased water, the purchased power and the pump taxes, in total.

Yes, let us pull that here. I mean, in aggregate we saw about a 10% increase in the cost of purchased water for the quarter on a year-over-year basis. So, let's see here. Yes. So, purchased water, the change year-over-year, we had -- about $2.85 million was purchased water. Purchased power, the change is $1.7 million and the pump taxes were $249,000.

Right. No, I'm with you on that, but I was trying to get to the -- I guess the 43.4 or -- yes -- or $44 million in total on the break up?

Yes, let me see here. One second. So you're looking at the change in Op Ex total?

I was trying, basically, what we call cost of sales, just your water production costs.

Right.

Isn't it composed of those three factors?

Yes, it's those three, and then you have other operations that are flowing up there above the line, as well. So that would be the piece that's broken out differently. So, you're looking for 44. You need to a -- you need to go through and add them up. Why don't we do this? If you call me off line, I'll be happy to walk you through them, kind of piece by piece.

Okay, great. And I appreciate that. Then the other thing I'd like do is just have a discussion on the water production costs and the balancing accounts, because I guess that's something I'm a little confused on. It sounds like you went from -- the balancing account, which I presume's on the balance sheet, went from $0.6 million last year to $2.1 million this year, so that would be a delta on a year-over-year basis?

That's correct. But let me first correct the first part of your statement. They're not booked on the balance sheet. When the expense is incurred, we expense it, so that's flushed through this quarter. Those costs that have to do with changes in purchased water costs or changes due to increased power cost. things in the production water, those go to the balancing accounts. And so, that's the Delta that you saw grow this year -- or this quarter. And that's ultimately look at this certain size and we will apply for recovery of that.

Okay. So then I really need to be focusing on the Delta on that account from Q2 coming into Q3.

It's not -- in fact, I did this in proposing for the call. Well, let's go back and look at the balance in the account Q3 last year. The real trick on that is you want to look at what the change was from the previous quarter, because that's the amount, the Company had to expense that they have not gotten recovery on.

So, that was my question. What was it in Q2? What was the balance of the account in Q2?

It was between $500,000 and $600,000.

Okay. So then it is the entire $1.5 million Delta there? And then when you do that, is that going to have to then be recovered through a generate case?

No, it is recovered through a surcharge. But it is done in a number of ways. It could -- we could wait until the rate case and then include it at the same time we file the rate case. It is not a contentious issue. It is a matter of the procedure for doing it. Or it could be in conjunction with an increase that we get and just file for both the increase and the balancing account at the same time.

Let me ask this a simpler way. Do you expect to recover this $1.5 million in 12 months or is it going to kind of be one-third, one-third, one-third as you do your districts.

it is not a clear cut answer, because it's spread over many districts. I would say the majority of it should be recoverable during 2007.

Okay. Then, also on the new equity that you just raised, how quickly is that in rates? Is that going to be over one-third, one-third, one-third?

Yes, it is as we file the rate cases. Although California does -- uses prospective test years, so that when we file a rate case, as we just filed this -- middle of this year for 2006, the test year begins July 1t, 2007 to June 30. 2008. And then there's two more years after that and we forecast what our capital investments will be in each of those years. So we have, through all of our 24 districts right now, expected investments and the equity will be going to make that investment. And as we come in with rate cases, then It actually becomes more current.

All right. Thank you.

Stan, [inaudible] on the balances in the balancing accounts, they accrue interest, as well --

Right, both ways, negative and positive. They all accrue interest.

[OPERATOR INSTRUCTIONS]. I'm showing no further questions at this time.

Okay, great. Well in closing, we'd like to thank everyone for their continued interest in Cal Water. And we look forward to talking to everyone in February -- at the end of February when we come out with the year-end earnings. Thank you and have a good day

Ladies and gentlemen, this conference call will be available for replay starting today, November 2, 2006, at 7:00 p.m. eastern time through January 1. 2007, at 11:59 p.m. You may dial the replay system at any time by dialing 888-266-2081 or 703-925-2533, and entering the access code 978720. Again those numbers are 888-266-2081 and 703-925-2533, access code 978720. Thank you for your participation today, and have a great day.