California Water Service Group (CWT) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the California Water Second Quarter 2011 Earnings Results. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator instructions). As a reminder, this program is being recorded.

I would now like to introduce your host for today's program, Mr. Martin Kropelnicki. Please go ahead, sir.

Thanks, Jonathan. Good morning, everybody. Welcome to the Second Quarter of 2011 Earnings Conference Call for California Water Service Group. With me is Pete Nelson, President and CEO.

I'd like to remind everyone that a replay of today's proceedings will be available from August 4th, 2011, through August 3rd -- excuse me -- October 3rd at 1-888-266-2081, I.D. 1538142.

Before going through the results for the quarter, I'd like to take a brief moment to read the forward-looking statement provisions. And I'm sure during the course of this conference call, the Company may make certain forward-looking statements. Because these statements deal future events, they are subject to various risks and uncertainty and actual results could differ materially from the Company's current expectations.

Because of this, the Company strongly advises all current and interested parties to carefully read and understand the Company's disclosures on risk and uncertainties on our Form 10-K, Form 10-Q and other reports filed from time-to-time with the Securities and Exchange Commission.

Now let's take a look at the quarter. Revenue was up 11% or $13.1 million to $131.4 million. Included in revenue was the net change of the WRAM MCBA of $2.7 million. During the quarter we saw that consumption was up approximately 6%, although we still came in below our adopted quantities for the WRAM and the MCBA.

During the quarter we had -- the change in revenue was $13.1 million. Of that, about $12 million was rate relief. That rate relief can be broken down into two categories. Approximately 63% of that $12 million was rate relief that had margin associated with it and approximately 28% was offsets. This is where we have cost increases in production cost, purchase power, purchase water, our pump taxes and there's no net margin associated with it. It's just a pass-through cost.

So overall, we're seeing more rate relief come in as we move into the summer months, and we get into our peak production periods.

Operating expenses for the quarter were up 10% or $9.8 million to $111.8 million. Going down into the production cost lines -- and again, these costs are covered by the modified cost balancing account and we still like to give the breakout -- the production costs were up about 7% or $2.9 million to $44.7 million.

There are three main categories here. One is purchase water. Purchase water was $34.9 million, up $2.5 million, or 7.86% over the same period last year. Purchase Power was $7.5 million, up $100,000 or 1%, and pump taxes were one -- excuse me -- $2.3 million, up $300,000 or 16%.

A couple of things happening with the revenue mix that are noteworthy. One, just given the wet year that we've had in California, our surface water production is up about 4% and our purchase water purchases are down about 4%. So we're seeing a little bit of shift in mix, which is good for our customers, certainly purchased water cost, as we've disclosed in the previous Ks and Qs, continues to rise at typically about a 20% annual rate. So the more we can do on our own sources, being well water and surface water, the better it is for our customers.

Moving on, going into A&G expense -- A&G expense is up 11% or $2.1 million to $20.6 million. The following three categories going from highest to lowest were the drivers there. First and foremost, healthcare costs were up about 25%. As you may recall, the Company is self-insured and at the end of Q4 of 2010, we had a number of large claims and we still have continued to see those.

We do have a stop loss that's covered in the plan, so we've triggered that stop loss and we expect that to potentially level out a little bit.

The second has pension expense. Pension expense is up over -- year-over-year, and I'll talk more about that in a little bit, and also higher wages. Wages were up about 6.4% over the same period last year driven by, A, the hiring of new employees and B, merit increases that took effect January 1st of 2011.

Other operations was up $1 million or 7% to $15.7 million. In other operations, keep in mind, that that includes chemicals and filters. As we've seen an increase in surface water production, we're seeing an increased use in chemicals and filters and also conservation. Conservation expense is up 175% over last year. So that's about $800,000 more. The conservation expense is covered by a balancing account, but we still incur those costs on a monthly basis.

Maintenance expense for the quarter was up 3% or $100,000 to $5.3 million. Depreciation was $1.7 million -- or excuse me -- up $1.7 million or 16% to $12.4 million. And that's driven by A, new plant additions from the 2010 capital program, and B, new depreciation rates that took effect with the '09 general rate case that took effect January 1st of this year.

Income taxes were up 22% or $1.5 million to $8.6 million due to higher pre-tax profits. And other income and expenses, net of income taxes was just up slightly. For the quarter, net interest expense increased $1.6 million or 28% to $7.5 million, primarily due to the long-term debt, the first mortgage bonds that were issued in November of 2010.

Net income for the quarter was $12.2 million, up 17% or $1.8 million over the same period last year. And earnings per share were $0.29 per diluted share compared to $0.25 per diluted share for the same period last year.

Please note that all EPS numbers have been adjusted to reflect the 2-for-1 stock split that took effect on June 10th, 2011.

With that, I'd like to turn it over to Pete to talk about what's happening on the operations side.

Okay, thanks, Marty. Good morning, everyone. I hope you're all doing well. I'm going to cover three areas this morning -- first, just a few words about the second quarter. It was a good quarter for us in line with what we expected. Second, I'll talk about rate-making, the current filings we have in all four states, and then third, I'll talk about California rates looking ahead to next year and the year after.

So first, the second quarter -- Marty went through the particulars. The results were in line with what we were expecting. As I mentioned last time, and probably the time before, the way the rates are set in our last rate case in California, we collect more of our fixed costs -- in fact, now 65% of our fixed costs in our volume charges, and so as customers use more water, we collect more of our margin and that usually begins in June and goes through the fall months.

So most of the financial results I know you're expecting -- we are too -- will come in the end of the second quarter, through the third quarter and the start of the fourth quarter, just as we're expecting.

The second item is rate-making. The main event in California right now is our cost of capital proceeding. This is the proceeding where the four largest water utilities have all filed together back in early May and they're really four separate rate cases that are progressing together. Each of the four could easily end up with a different equity structure and a different adopted return on equity. Our current adopted return on equity is 10.2%, and we are asking for 11.25% in this proceeding. We believe we have a very good case. And, of course, the end result is unpredictable to say the least.

The assigned commissioner this time is Commissioner Ferron. The last time it was Commissioner Bohn. This is all new to Commissioner Ferron, and he may have been chosen for this case because he does have a strong background in banking and finance, so he's definitely qualified to understand and absorb the material and guide the case.

We do expect the cost of capital to be on time for a decision by the end of the year for any rate changes that would take place January 1st, next year. So stay tuned on that. We'll probably have more information next quarter as the case progresses through the commission.

The second rate item is the current rate activity we have in California and the other four states, right? Actually, we talk about outside of California first. Hawaii is our largest subsidiary -- still small compared to California -- but we have seven rate-making areas in Hawaii, and we have filed, or will file, all seven this year for rates effective late this year or early next year.

The first of the seven cases has been decided, and that's our Pukalani Wastewater System on the island of Maui. This was really a tear-down plant that we bought years ago and have overhauled it, put in brand new technology. Now that plant produces the highest ethylate quality on the island of Maui. It's about a $1.1 million new revenue rate case. Pukalani really sets the stage for us to process our next cases because each of the systems we purchased in Hawaii over the last few years are all in need of investment, mainly new treatment plants, both water and wastewater.

So you'll see us now systematically going through each of the systems in both states, for both islands, investing in the assets to improve particularly the treatment plants.

We have filed our second of the seven which is the Kaanapali area which completes the island of Maui filings. We're asking for $1.5 million in new revenue there.

The other five systems are all on the big island and we expect to file those cases by the end of this year for rates sometime next year.

A caution here -- the numbers are still small compared to California.

Our other two states, Washington and New Mexico, are even smaller. We're preparing to file general rate cases in both those states this year, in fact, pretty soon. And we expect new rates to be in place at the end of this year and into next year.

Again, these numbers are small. I would expect the order of magnitude for Washington and New Mexico to be $1 million to $2 million in new revenue. So it's kind of small potatoes compared to California.

Looking ahead to the next two years, 2012 and 2013 in California -- there's three types of cases that are on the horizon that you'll see in California and the first is what we call our attrition rate cases. And these are the cases we file between general rate case test years. So the general rate case for 2009 test year was 2011. Those rates are in place, but the question is, what rates do you have in place for 2012 and 2013?

These attrition cases are sometimes called inflationary, or step-rate increases. It's all the same thing. California rate-making, we talked about has changed a lot over the years, consolidating for us 25 rate cases into one, decoupling sales and revenues, putting in tiered rates, so a lot has changed. But some approaches to regulations have not changed at all. And attrition is one in that category.

Another change -- another thing that has not changed is that we still have 24 rate-making districts in California, each with their own rate base, each with their own rate-making scheme -- so no change there.

So attrition is done the same way it's been for decades and it revolves around what we call the earnings test which is unique to California water utilities. Electric and gas companies do not have this in California and I think most, if not all, states don't have an earnings test.

I'm going to quickly explain how the attrition or earnings tests work. And if you're sitting here in Marty's office with me, you'd see Marty shaking his head right now. You've got a CEO about to explain how an earning test works. So I'll try to do this and Marty can sweep up after me if I don't get it exactly right.

But to qualify for attrition or inflation increases, each of the 24 rate districts must be earning less than the authorized rate of return. Said the other way, if any of the 24 rate-making districts are earning more than their authorized rate of return, they will fail the earnings test and not receive an attrition increase.

So it gets a little tricky because in the final analysis, it's all about the rate base -- the rate base that's adopted in the rate case and the rate base that is reported or the actual that we have in the ground. If the actual or recorded rate base is less than the adopted rate base from the rate case, then you'll see the earnings greater than the adopted ROE and we'll fail the earnings test.

And I'll say this the other way so to maybe make it even clearer -- conversely, if the actual or recorded rate base is more than the adopted, then you will pass the earnings test because you just earned less than your authorized ROE.

So we call it a test, but it's not -- it can sound like a final exam, but it's not really a test. It's just a calculation and it's very routine and normal to fail this test for good reasons. For example, let's say in one of our rate districts, the rate case assumed that a large project would be put in place on a certain date. That project gets delayed. It could be a new well, could be a new service center, could be a major pipeline. If that project is delayed, then it is not reported in the rate base and you've just failed your earnings test.

So it does make sense and it does -- it's easy to fail a rate earnings test.

For us, we still have 24 rate-making districts and 24 chances to pass or fail the test. And it's very rare --very rare -- that I've seen us ever pass all 24 tests in each year. So for 2012, getting back to what it looks like next year, if all the 24 districts pass our rate case test at the current inflation numbers, the new revenue from the attrition would be a little less than $10 million.

So, again, it's rare to have all 24 pass, but you can see that the order of magnitude we're looking at for next year in the way of attrition rate increases.

The second source of expected revenue next year and the year after is what we call capital project advice letters, and these are scores of capital projects that were proposed in the last rate case where the timing or the magnitude of the project is a little uncertain, and so the rate case decided these are good projects, you can put them in place, but because the timing is not clear, once you put them in place and have them operating, then file for rate increases as a result of those projects.

The total new revenue here for California is about $8 million. And we expect to be completing those projects and begin filing for the rate increases there the middle of 2012 and into 2013.

Now the third type of rate change, which Marty already mentioned, is really what we call offset rate increases and these will go on every year and they really just reflect the changes in wholesale water costs and our wholesale suppliers are raising their costs every year.

These are put in place usually mid-year and they just -- they were coincident with the wholesale suppliers' rate increases and they are not income-producing revenue.

So that's the rate picture. Hope that made some sense. Marty can clean up on the earnings test if you'd like.

Let's go back to Marty now for the balance sheet and maybe a -- I think a few more words about the operating expenses that did increase and maybe the pension plan would be a good place to touch on.

Sure, sure. Let me just start talking about the earnings test because Pete nailed it. We have been keenly focused on the earnings test through this year and getting as much capital in the ground, and it's [closed in] the capital and putting it into service.

So for the quarter, I was -- there aren't too many times I go to Pete and say, "Yes, [WEP] is down, but the good news is WEP, at the end of Q2 last year, was $128 million; it was down to $115 million at the end of Q2. So it was about an 8.7% drop, and part of that is just us working feverishly to get as much capital in the ground for those districts and tracking every project on a district-by-district level so we can maximize how much of that $10 million we can get on the earnings test.

To Pete's point about pension, as you know, you've seen A&G up in the quarter. A couple of unique things about the pension balancing account, as Pete talked about, we do have this adopted gross margin curve that's -- frankly, it was very flat for the first four months of the year, and then when we get to May, we start to break out. And it rises quite a bit going into May, June, July, August, September and then starts to work its way back down.

We book our pension expense 1/12 to every month. So essentially, there's a little bit of a disconnect of when we recognize revenue to when we record the expense, unlike other balancing accounts like the conservation balancing account that follows -- the distribution follows that adopted gross margin curve. As that curve goes up, we book more in conservation.

With pension, we're booking 1/12 every month. So essentially, A&G will look a little higher in the thinner months of winter and early spring, and then as we get to the summer months, you'll see A&G looks probably a little lighter because you're getting more rate relief to cover those fixed costs above and beyond what was booked in the first quarter of the year.

A couple of things to point out on the balance sheet -- a [relevant] company-funded capex for the first half of the year was $47 million. We're at about 40% of our plan for the year. Our target for the year remains $125 million, and we are staying focused on that, hitting that $125 million target.

Net utility plants is up about 6% year-over-year, so we closed out at about $1.328 billion, and that's up from $1.256 billion over the same period last year.

Cash flow from operations was a very healthy $48 million. It's up about 118% over Q2 of last year, and that's primarily driven by the increase in rate relief that we're seeing in the second quarter. So we got a lot more rate relief in the second quarter than the first quarter. That showed up in the billings and that's ultimately pumping up our cash flow, which is good.

A couple of other things I'd like to point out during the quarter -- one, we announced that we amended and restated our unsecured line of credit. We went to a five-year term deal. $400 million is now available, $300 million with the utility in California, $100 million is with Group, the holding company.

A couple of things to point out on the new line of credit -- we reduced the spread that we paid on that line by 50%, which is an immediate savings to the Company on that spread. In addition, we were able to cut our undrawn fees by about 60%. So we'll save about $0.5 million in the last six months of this year with a new line of credit. In addition, I think probably most important, we have a great lineup of banks that have -- who are basically helping finance Cal Water's growth.

The syndicate was led by Bank of America who did an outstanding job. Co-lead on the deal was CoBank, and our administrative agents are Wells Fargo Bank, Union Bank and Bank of China. In addition, we have some other outstanding players who are in the syndicate portfolio, including Union Bank of California, First Hawaiian Bank and Northern Trust.

So overall, there are 12 banks in the syndicate. That's down from 16, so the size of the group is smaller, the line is bigger and the duration is longer. So we're very, very happy with the outcome of amending and restating our line of credit, as well as our business partners that we have financing the Company. And more importantly, I think as we go through turbulent times that we've been seeing in the market and in the U.S. economy, this helps us ensure the liquidity we need to continue to grow our company.

In addition, during the quarter, S&P reaffirmed our credit rating on June 30th, so the general credit rating is A-plus stable, which has been no change. And they also reaffirmed our first mortgage bonds at AA-minus. And, again, I think a combination of the new line of credit, with S&P affirming our credit ratings, just goes to show the conservative nature of our balance sheet and our ability to continue to grow our company and rate base as we have had difficult economic times.

So with that, Jonathan, I think we will open it up to questions, please.

Certainly. (Operator instructions). Our first question comes from the line of Michael [Romberg] from Ladenburg Thalmann. Your question, please.

How are you?

Hey, good morning, Michael.

Good morning, Michael.

So I just have a question on the gross operating margin line. You guys had a $10.2 million year-over-year increase, if my calculations are correct. You mentioned that about 63%, or $7.5 million of the $12 million in rate relief was dedicated towards improving the gross margin. I'm just wondering if you could help me bridge that gap between the two numbers and what else played a role in that?

Sure. I mean, there's a couple things to look at in the margin line and as Pete talked about -- and I think most of you have seen us in our IR presentations -- we now show people in our presentation what that adopted gross margin curve looks like, and there's a distinct curve. And even though we've decoupled, the slope of that curve is determined based on the previous 36-month consumptions for the districts in the State of California.

As everyone on this call knows, we are a high fixed-cost provider and so when you have less rate relief, or again, if you look at the slope of this curve, you tend to feel it on the net income line. And as we get into the summer months, we get a larger portion of rate relief associated with the higher quantities and usage with our customers.

So it shouldn't be surprising that we have more gross margin coming in in the summer months and our fixed costs are staying relatively flat except for really pension which is covered by a balancing account, conservation which is covered by a balancing account, and that only leaves you with labor, and it leaves you with medical.

Okay, okay. And then on the attrition commentary and, again, I have to say thank you. That was a very good education into the arcane aspects of California regulation, but a very helpful one, so thank you. But I guess based on what you've seen so far in '11, would you care to kind of handicap what your expectations are for '12 in terms of the earnings test based on the first half of the year?

I think we'll start with Marty on that, and then I can [come in], too.

Sure. I mean, as Pete said, and I don't want to be too cautious either, but typically you don't have all your districts pass, and part of that's a function of the sheer volume of projects that we have, and part of it's a function of large multi-year projects.

Going through Q2 and in through July, I'm fairly confident that 75%, 80% of our districts are going to pass their earnings test. The ones that are having difficulties passing are the ones that have very large multi-million-dollar multi-year projects. And it's just because the way the projects were set up, they're very, very lumpy. And so to the extent if you have a three-year pipeline replacement project, that's going to cover two years of earnings tests, because you're going to have your base year, and then two years after, your general rate case.

If that project's not done, you're not going to get any credit for it. And so the districts -- the handful of districts that are struggling are the ones that have the large multi-year projects.

Yes, I would agree with the percentage number. Michael, we'll know what this number is on the next quarter's call because we'll have filed it and it'll be in concrete by then.

Okay, understood. And then, I guess, one last -- a little bit bigger of a bigger picture question. You read the news today, it seems like job creation, infrastructure renewal is on the front page of every major newspaper, on the tongue tip of every politician's mouth, and I'm just wondering -- of course, you probably can't comment too much in depth on the proceeding currently underway on the cost capital side -- but I'm wondering, do you see this message trickling down to your regulators to a different extent that it may have in the past, seeing water utilities as a vehicle for job creation and infrastructure renewal, obviously particularly on the investor's side, on the investor-own side? And if so, how do you see it manifesting itself through the encouragement of a better ROE or through increased capex program allotments? Can you comment on that dynamic?

Maybe I'll start. I have not heard that conversation at the Commission or Commission staff members. The focus is more on rate payers, and the affordability and increasing rates rather than job creation and infrastructure replacement. Our infrastructure replacement is pretty predictable; there's no spikes in it, so I just -- that's an interesting comment, but I have not heard that out of the Commission.

Yes, I think -- ask me after we testify on the cost of capital (inaudible).

Okay, great.

I think to Pete's point, we're a little different in California on especially Cal Water because we're decoupled.

Right.

And the ultimate success or failure of our company is going to depend primarily on how well we plan and execute to our rate case. We no longer have any upside associated with hot summers, or peak demands that weren't anticipated.

So we can't really control that, Michael, but what we can control is our balance sheet. We can control how we operate the Company, and we have continued to grow throughout the downturn in the economy. We have grown in headcount, we have grown in capital spend. We try to plan our capital expenditures so we don't cause rate shock to our customers, and I think ultimately, if we do our job right, we'll bump rates up a little bit every time that we can and not have these big spikes, but continue to grow the Company.

And ultimately, when you look at our capex, our capital expenditures, that's growing at about 13% a year is the compounded growth rate over the last five years on the capital expenditures. So for us, ensuring the liquidity and the lines needed to continue to grow the Company, continue to focus on customer service, water quality and growing rate base, those are our primary goals within the organization.

Good stuff, and I'll hop off, but I just wanted to ask one more housekeeping question. Marty, I know that you had mentioned that your conservation budget was bumped by about $7 million this year, and I guess I expected to see that manifest itself to a greater degree in the other line. And maybe I'm looking at that incorrectly, but I'm just wondering if you can clarify the expectation for that expense item for the remainder of the year.

Sure. If you look at conservation in total, I believe it's about a $9 million budget, which is big. And so what happens if we don't spend it, we have to book it going the other way, in the balancing account. So it's going to move around a little bit, and if you think about just the nature of conservation, you're not going to do a lot of conservation in January, February or March. The programs are ramped up and then when you get to your summer months, the expense is going to ramp up and then it'll come back down. Again, it's going to fall that adopted gross margin curve through the fall and then kind of flatten out as we get into the end of the year.

So because these are fairly big conservation programs, they take a while to plan and ramp up. And so that number's going to move around a little bit, Michael, but the main thing to stay focused on is at the end of the three-year period, we have to spend that money; otherwise we have to give it back.

Right. Okay, great, thanks for all the color.

All right. Thanks, Michael.

Thank you, our next question comes from the line of Heike Doerr from Robert W. Baird. Your question, please.

Good morning, congratulations on a nice quarter.

Hi, Heike.

Good morning, Heike.

I'm wondering if we can start with cost of capital, and if you can tell us what the next data point we can expect would be out of the Commission? What's the next step in this process?

As I recall, the next -- well, there will be, of course, testimony and hearings and data requests and data going back and forth. I think the next milestone would be a proposed decision from the Administrative Law Judge, and I would expect that end of the third quarter, beginning of the fourth quarter.

So despite all of the kind of ALJ shuffle, you're not expecting that that proposed decision will be pushed back at all?

Well, I expect it to be on time. I don't see any reason it couldn't be on time. You've got a good Commissioner, I think, assigned to it. At this point, it's on schedule. I don't foresee it getting off schedule.

Okay, I hope that that's the case when we speak next quarter as well.

I do, too.

Knock on wood. I'll tell you, they have our dates blocked out when we're testifying, so we'll be busy in October in the middle of those proceedings.

Okay. And when we think about the advice letter -- and I believe it's $8 million -- is that one single advice letter, or is that going to be coming in kind of waves of smaller tranches?

It'll be one -- filing one day with 20 to 24 -- I guess it's 24 -- advice letter filings. So we'll know what that number is when we file it. But, no, it will not be phased in; it'll be one time.

And this $8 million assumes you get to file in each of the 24?

Well, it assumes that, I think Marty said, 75% to 80% of those districts would pass the test.

Okay.

And the rates do change first of the year.

Yes, I think, Heike, on that $8 million, because it is project specific and those are outside of the rate case, we're anticipating those getting filed during 2012 and '13.

I think you're talking about the attrition rate cases, not the capital, Heike?

Yes, I'm talking about the -- no, the capital.

Oh, I'm sorry. (multiple speakers) I misunderstood you.

I didn't want to say my boss is wrong, but --

I just answered a different question.

Yes.

No, Marty's got that one held right.

Yes, it varies based on the size of the project. I think, as you've probably seen last time here, we have a big construction project going on here. That's going to be a completely separate filing. Smaller projects that get done, we can lump together. But we're going to kind of knock those out as we can and get those embedded in rates.

And how should we think about the gross margin addition from things like the pension tracker and other trackers that you have? Do you need to wait for the next general rate case for that pension tracker to be reflected in margin?

No, the pension -- and this is, I think, one of the real big fundamental changes to our business model. A lot of these balancing accounts get booked monthly and so pension gets booked monthly, and if you look at the historical model like with pension expense, the first year out of a general rate case, you usually get a higher amount than what you need, which means we're going to get part of that back. But then in years two and three, right, we will -- I'm sure we'll be booking that back up and recouping a big chunk of it and the Commission's going to look at a three-year average.

Okay. And if we could lastly spend a little bit more time on the seasonality, I believe in the first two quarters we saw the revenue up about 11%, although the rate increase in its totality was a much higher number. How should we be thinking for the third quarter specifically about -- I don't know if it's easier to talk revenue or gross margin. But how should we be reflecting just how much of that volume we're going to see in the third quarter?

Now that's a very good question, and two things I'd call your attention to -- one, in the 10Q that'll get filed later today, we will have -- in the rate relief section, we'll show the different components of dry rate relief. In Q1, a lot of the rate relief that we receive are offsets, so there's no gross margin associated with it. So revenue goes up; we have nothing that falls on the bottom line because they're basically purchase water offsets.

In terms of kind of modeling out what that gross margin looks like, for the year, our annual gross margin target is $306.4 million. Year-to-date June, we've achieved $143.5 million, so we're at about 47% of our target for the year. And we usually -- because we book the balancing accounts now, we're usually spot on those GM targets every month.

And fourth quarter will look very similar to second quarter, correct, and the difference will fall in the summer? Can we think about it that way with the shoulder month?

Yes, I mean, I think the way to think about it is, as you come out of the year -- as you come into the year -- excuse me -- your fixed costs are going to go up January 1. You're going to have higher pension expenses because you get your new estimates. Your healthcare cost is going to go up, your wage cost typically goes up January 1st, so your fixed costs go up.

You're not going to get a whole lot of rate relief in January, February, March, or April, and May is when you're going to start to see that rate relief kick in, and that's clearly what we saw in the second quarter of this year.

That's going to continue to go up every month until you get to about September, and then around September, and depending on seasonality and the effects of your revenue accrual and your unbilled revenue, you'll start to see that flip and you'll see it come back down.

So October, November, December should be better than Q1, but we're going to be on the downward trend at that point.

Okay. I appreciate the extra insight, thanks.

You're welcome.

Thank you. (Operator instructions). Our next question comes from the line of Christopher Purtill from Janney Montgomery. Your question, please.

Yes, good morning, thanks guys.

C.J., how are you?

All right. Just had a quick follow-up for you on the cost of capital. At this point, and I know it's hard for you to tell, but are we on a path at this point towards a fully litigated case, or are there kind of discussions on maybe settling it? And the timelines that are out there, are they assuming a fully litigated case, or is there a possibility that things move maybe faster and we get a settlement before this kind of December timeframe we're looking at?

Very good question. I doubt you'll see any acceleration just because you're dealing with a large commission. The Commission in California is a big organization. Certainly as part of the process you go through settlement discussions and it's too early to tell where we are. Obviously, we filed our general rate case. We've gotten the calendar set up for the proceedings and then we'll go into settlement discussions prior to those proceedings.

But I think it's a little too early to tell where we are right now. But I will say, and to Pete's point, over the last couple of years, the Commission's been pretty, pretty good about hitting their dates. And so we don't have anything on the horizon that leads us to believe that's going to get stalled out or pushed out any.

I guess maybe a second thought there, C.J., is if the case does get delayed, we'll certainly ask for the ability to back-bill to January 1st for any lost revenue.

All right, great. And then I guess just a housekeeping question. Marty, did I hear you correctly that consumption was up 6% year-over-year?

Yes.

Okay, so I guess reconciling that to the lost revenue that you talked about of $2.4 million, is that just because it's now being recapped, or I guess captured in the WRAM?

Yes, so while consumption was up, we were still below our adopted revenue and our adopted quantity numbers.

Got it. Got it.

So essentially, with the revenue component, right, because we're below the adopted number, we're going to book essentially a credit back to net income. And on the production cost side, because demand was lower than anticipated, the production cost savings goes the other way, and that's why we report on the net number.

Got it. So I guess, can you remind us what is in the rate case for consumption estimates?

I actually have it here, believe it or not. Give me one second. Okay. For 2011, on the quantity side, it was -- the adopted was just about 37 million CCF and the actuals were about 30.5.

Great, very helpful. Thanks, guys.

Okay, thanks.

(Operator instructions). I'm not showing any further questions in the queue at this time.

Great, thanks, Jonathan. Let me just wrap up. Again, thanks, everybody, for your interest and your very good questions. Obviously, we have a lot going on between the attrition, the earnings tests, the cost of capital proceedings and all the rate proceedings in the various states that we operate in. And we appreciate everyone's support of Cal Water and certainly we'll have a lot to talk about when we get into October of 2011. So thank you very much for your support. Have a good day.

Thank you, ladies and Gentlemen for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.