Otter Tail Corp (OTTR) 2015 Q4 法說會逐字稿

Good morning and welcome to Otter Tail Corporation's 2015 earnings conference call. Today's call is being recorded and there will be a question and answer session after the prepared remarks. I will now turn the call over to the company for their opening remarks.

Good morning everyone and welcome to our call. My name is Loren Hanson and I manage investor relations area at Otter Tail.

Last night, we announced our 2015 results and issued 2016 guidance. Our complete earnings release and slides accompanying this earnings call are available on our website at www.ottertail.com. A replay of the call will be available on our website later today.

With me on the call today are: Chuck MacFarlane, Otter Tail Corporation's President and CEO; and Kevin Moug, Otter Tail Corporation's Senior Vice President and Chief Financial Officer.

Before we begin, I would like to remind you that during the course of this call we will be making forward-looking statements. These forward-looking statements are covered under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 and include statements regarding Otter Tail Corporation's future financial and operating results or other statements that are not historical facts.

Please be advised that actual results could differ materially from those stated or implied by our forward-looking statements due to certain risks and uncertainties, including those described in our most recent form 10-K and subsequent quarterly reports on form 10-Q. Otter Tail Corporation disclaims any duty to update or revise our forward-looking statements as a result of new information, future events, developments or otherwise.

For opening remarks, I will now turn the call over to Otter Tail Corporation's President and CEO, Mr. Chuck MacFarlane. Chuck?

Good morning and thanks for joining our call. During the last several years, Otter Tail Corporation has been moving toward a business model with two platforms and one common vision. The result is a focus manufacturing platform combined with a core utility platform.

Our vision includes attention on growth, operational excellence, and talent development. The electric platform continues to execute on a robust rate base expansion effort. Slide 5 shows our rate base expansion and a compound annual growth rate of 8%. This has been adjusted to account for the impacts the recent five-year extension to bonus depreciation and additional renewable and natural gas generation projects. During the 2016 to 2020 timeframe, Otter Tail Power plans to make $858 million in capital investments.

Slide 6 shows our regulatory framework, which continues to be constructive. As noted on the bottom of the slide, half of the projects are eligible for rider recovery while under construction, and the majority of the balance of the capital spend is at current depreciation levels effectively in existing base rates.

The presidents of our manufacturing and plastics companies continue to guide improvement in each of their businesses, and I will discuss some of the examples in a moment. All of our operating companies focus on our long-term compound annual earnings per share growth goal of 4% to 7%, as measured from 2013 earnings per share of $1.50.

While we are currently below this goal, we are confident we will be back in this range, given our pipeline of rate-based projects and our effort to return our companies to historic return on sales levels when the current down cycle in the manufacturing segment improves.

Otter Tail Corporation ended 2015 with earnings per share of $1.56 from continuing operations, a return on equity of 10%, and a dividend yield of 4.6%. We accomplish this by managing through difficult end market conditions in our manufacturing segment. In addition, tax law changes made late in the year negatively impacted our consolidated results. Kevin will cover this in more detail.

Otter Tail Power's results benefited from strong project management and regulatory recovery, and despite weather challenges, Otter Tail Power finished the year with a 10.7% increase in net income. Of note, Big Stone Plant's air quality control system reached commercial operation on December 29, ahead of compliance deadlines and under budget.

Looking ahead, construction has begun on a 70 mile, 345 KV transmission line running from Big Stone South substation to Brookings, South Dakota. This should be completed in 2017. Construction will begin in mid-2016 on an 170 mile line from Big Stone South substation to Ellendale, North Dakota, with an expected completion date of 2019.

In addition, Otter Tail Power Management is evaluating options for a natural gas plant, given the planned retirement of Hoot Lake plant in 2021. Otter Tail Power's Minnesota-approved integrated resource plan calls for up to 300 MW of additional wind energy by 2021, and before 2020, enough solar to power 1.5% of Minnesota retail sales. This equates to approximately 30 MW of new solar.

Today 19% of the company's retail load is served by renewables. The extension of the renewable production tax credit and the investment tax credit will benefit customers by allowing Otter Tail Power to continue adding low-cost renewables to the supply portfolio.

One more utility item, before turning to the manufacturing platform, is to let you know that we will file a rate case in Minnesota before the end of the month. This will be the first Minnesota general rate case since 2010. More details will be available after the filing.

Our manufacturing companies continue to be impacted by economic headwinds and agriculture and energy end markets and a general contraction in US manufacturing. But we continue to position them for future growth. For example, BTD's Minnesota optimization plan is on track.

By the end of the first quarter, the Detroit Lakes portion of the plan will be complete, and a new state-of-the-art paint line is already operational in the expanded Lakeville facility. BTD's world-class OEM customers are impressed with the facility, and we expect to receive paint system approval from all remaining OEMs by the end of the first quarter.

Another example of positioning for the future growth is BTD's September acquisition of Impulse Manufacturing, now known as BTD Georgia. Integration is going well; BTD Georgia has made significant progress on integrating the estimating function, has increased services and improved on-time delivery. Vinyltech and Northern Pipe Products, our plastic segment, had 2015 results similar to those of 2014, which is evidence of a nimble management team that managed to reduce demand in declining sales in resin prices.

Overall, 2015 included a number of important events for Otter Tail Corporation. We've captured some of the highlights on slide 8. In addition to what I've already discussed, the EPA announced its final Clean Power Plan rule. Otter Tail Power continues to work with stakeholder groups as states develop their implementation plans.

Survey results from two nationally recognized customer satisfaction firms rated Otter Tail Power highest in overall customer satisfaction, one of electric utilities in various categories. And the John Deere plant in Fargo North Dakota recognized BTD with its Highest Supplier award. Vinyltech set a record for pounds of pipes sold in 2015.

Now I will turn it over to Kevin for the financial perspective.

Good morning. Our guidance for 2015 was to be in the middle to upper half of the range of $1.50 to $1.65 a share from continuing operations. This was based on current tax law at the time the guidance was issued. We also disclosed, this guidance could be reduced by $0.02 to $0.04 a share if the tax law was changed. The Federal Government did change the tax law on December 18, 2015.

The large amount of capital we placed in service in December 2015, combined with taking bonus depreciation, put us in the consolidated net operating tax loss for the year. As a result, we were not able to take the Section 199 deduction, but did pick up the research and development credit that is now permanently placed in the tax law. And our 2015 results were negatively impacted by $0.03 a share. Without the effects of the tax law changes, our earnings per share from continuing operations would have been in the middle to upper half of the guidance range we had previously given.

Please refer to slide 9 for an overview of 2015 earnings from continuing operations. Our electric segment had strong earnings in 2015 in light of milder weather. The key factors of the $4.7 million increase in net earnings were: increased environmental and transmission cost recovery riders, increased conservation incentives, and increased sales to pipeline customers.

Year-over-year, weather negatively impacted earnings per share by $0.08. And compared to normal, weather negatively impacted earnings per share by $0.05. Lower operating and maintenance, travel and administrative costs also favorably impacted earnings.

For our manufacturing segment, net earnings declined between the years at BTD by $4.9 million and at TO Plastics by $200,000. An overview of these results by each company is as follows. BTD's revenues declined $6.6 million, due to continued softness in sales to customers served by BTD in agricultural as well as oil and gas end markets.

Lower scrap sales due to a reduction in scrap metal prices. And a reduction in scrap volume related to lower production and sales volume. Softness in scrap metal prices continues to be plagued with excess steel capacity in the US market and low priced steel imports.

Scrap revenues as a percentage of parts sales were 4% in 2014 compared with 2.2% of parts sales in 2015. This item alone accounted for a $1.9 million reduction in net earnings between the years. And lower tooling revenues also contributed to BTD's revenue decline.

These declines were offset by additional revenues of $8.8 million from the BTD Georgia acquisition in September of 2015. And BTD's results were also negatively impacted by higher costs in expedited freight, manufacturing consumables, and cost of quality.

TO Plastics revenues increased $2 million as a result of increased sales in horticultural and custom products, but while these revenues increased year-over-year for TO Plastics, margins declined due to a change in product mix. Our plastic segment earned $0.32 a share in 2015 compared to $0.33 a share in 2014. Revenues declined year over year, mainly due to lower PVC pipe prices. Pounds sold were down 1.4%.

Earnings however, were flat as we were able to maintain operating margins in light of declining sales prices. And our corporate costs were $0.16 a share compared to $0.22 a share in 2014. Since 2013, corporate costs have been reduced by more than 36%.

Please move to slide 12 for discussion of our 2016 business outlook. Our 2016 earnings guidance is expected to be in the range of $1.50 to $1.65 of earnings per share. This guidance reflects our current mix of businesses and the current economic challenges being faced in our manufacturing platform.

Our electric segment's 2016 net earnings are expected to be slightly higher than 2015, based on normalized weather for 2016, a constructive outcome of the Minnesota rate case, which is expected to be filed before the end of February 2016, rider recovery increases including riders in Minnesota and North Dakota related to the Big Stone plant AQCS environmental upgrades, and transmission riders related to CapEx 2020 and increased investments in MISO MVP transmission projects.

Increased volumes from pipeline and commercial customers, and lower pension costs as a result of a decrease in projected benefit expenses due to an increase in the discount rate. These items are primarily offset by the effect of the 2015 adoption of bonus depreciation for income taxes, which reduces 2016 earnings by $0.06 a share, higher depreciation and property tax expense due to large capital projects being put into service, higher short-term interest cost to fund major projects and increasing operations and maintenance expenses.

BTD, in our manufacturing segment, has significant exposure to the ag, oil and gas and recreational vehicle end markets. Customers served in these end markets are forecasting 2016 sales to be lower than 2015.

Despite these challenges, we expect increased net earnings from our manufacturing segment in 2016, due to increased sales at BTD Georgia due to a full year of ownership. Expected full-year sales for BTD Georgia are $33 million. Excluding the full year impact of BTD Georgia, revenues are planned to grow approximately 7%, based on BTD's new paint line being placed in service in January 2016, and its expected impact on sales growth.

Improved operating margins from improved productivity and efficiencies gained in our manufacturing processes. These items are offset in part by continued lower scrap, revenue due to lower commodity prices from excess, capacity and lower-priced imported steel. Scrap revenue is currently expected to be about 1% of total parts sales for 2016. And higher facility costs associated with BTD-- BTD's expansion.

TO Plastics earnings are expected to be lower in 2016 primarily due to a shift in product mix. And a backlog for the segment is approximately $134 million for 2016 compared with $140 million a year ago. We expect plastic segment net income to be down from 2015, as sales volumes are projected to be flat compared to 2015, and lower operating margins are expected due to tighter spreads between raw material costs and sales prices along with increased labor and freight. And we expect corporate costs to be lower in 2016 compared to 2015.

On February 5, 2016 we issued a $50 million 2 year note with an ability to borrow an additional $50 million with lender's consent. Proceeds were used to pay down borrowings on the line of credit used to fund BTD's Minnesota facility expansion, as well as fund the BTD Georgia acquisition. The borrowing costs under this facility are lower than the interest costs of our corporate credit facility. This facility also positions us to have a backstop to retire the remaining $50 million of 9% notes due in December 2016.

Let me provide an overview of our capital expenditure plans as shown on slide 14. We expect capital expenditures for 2016 to 2020 to be $858 million for the electric utility. This is an increase over our previous year's guidance as we have included additional wind and solar projects, as well as the completion of our natural gas generation facility. We expect capital expenditures for the manufacturing platform to be $114 million over the same time period.

Our updated compounded annual growth rate and rate base is 8% from 2014 through 2020. This reflects our updated capital plans and the impact of the recently extended tax laws related to bonus depreciation. Our need for equity over this time frame, before the change of bonus depreciation, was in the range of $140 million to $150 million. We expect this need to be reduced by $25 million to $35 million as a result of the extended bonus depreciation. We also expect to use our existing stock programs to satisfy these equity needs.

Based on our solid 2015 performance and the 2016 outlook, the Board of Directors increased our indicated annualized dividend rate from $1.23 a common share to $1.25 a common share. Our 2016 guidance is dependent on the business and economic challenges our two platforms face in 2016. Key initiatives include a constructive outcome of a rate case expected to be filed in Minnesota by the end of February 2016, BTD's successful growth in sales from its new paint line, along with operational improvements needed to further improve our return on sales margins, and full integration of BTD's new facility in Georgia to better serve our growing customer base in the Southeast.

These are key initiatives that must be successful in light of continuing end market softness in ag, oil and gas and recreational vehicle. And continued strong earnings, cash flows and returns on invested capital in our plastic segment. We remain confident in the future earnings ability of our two platforms to meet our long term stated growth goals of 4% to 7%, compounded annual growth rate of earnings per share using 2013 as the base year.

We are now ready to take your questions. And after the Q&A, Chuck will return with a few closing remarks.

(Operator Instructions)

Paul Ridzon with KeyBanc.

Good morning.

Hey, Paul.

When do you expect the Minnesota rates to kick in?

We would anticipate a filing by the end of February. There is a 60-day period to deem the filing complete, and so interim rates would go in by May 1.

May 1? Okay.

And then, with the drilling slowing down, you are forecasting higher pipeline sales -- is that just the system still backfilling with takeaway capacity?

The majority of our pipeline load is associated with Canadian oil, not directly with drilling in the Bakken. And the majority of those capital processing investments and plants in Canada continue to operate.

What's driving higher sales to commercial customers?

Paul, we just collectively have grouped the pipeline and the commercial sales together and the increase is -- its mostly the pipeline.

And then, if we prorate the -- I think $8.8 million that Georgia earned since September 1, that gets me about $26.4 million on an annual basis. But you are forecasting $33 million. Is that business ramping up? Or are you realizing some synergies -- what drives that increase?

Yes. While we're expecting additional -- as a result of the acquisition -- we are expecting additional volumes coming from other customers that BTD was serving before the acquisition that we can now also better serve them down in the Southeast.

So is it revenue synergy and cost synergy?

There's revenue synergies and then there's cost synergies as well. But the $8.8 million, just to clarify -- that's revenue in 2015. And we are forecasting approximately $33 million of revenue in 2016. So that's roughly a $24 million increase. One just -- now the benefit of having it owned for an entire year, plus some additional growth from being able to better serve customers in the Southeast that we had not been able to necessarily serve as a result of the not having the location, and then additional sales growth from some of the other customers that we're serving there.

Got it. Thank you.

And then lastly, excluding Georgia, you're looking for revenues to be up 7% of BTD. What are the end markets that's driving that increase?

Well, a lot of the stuff that's coming is the bringing the paint line in, effective here in January. Because we know there is additional opportunities with existing customer bases to now provide them additional product or services, if you will, given that we have paint. So we would expect that, that growth is coming across a number of the end markets as we are now able to paint for ag, recreational vehicle, lawn and garden, and other end markets that we're serving.

And you've got, at this point, good visibility on that business coming in?

We have -- as Chuck mentioned, we're mostly qualified for stuff. I think we are expected to have remaining qualifications wrapped up by the end of the first quarter, and the line is running. We were just there last Tuesday with our Board, and saw the line running, and painting parts and so the visibility -- obviously we've still got to go out and quote and win the work, but we've got a line that's operating well. It's in service, and it has passed a number of the qualifications for paint specs by customers.

Okay. Thank you very much.

You're welcome.

(Operator Instructions)

Mike Bates, Robert W. Baird.

Good morning gentlemen -- how are you?

Hello, Mike.

I was hoping to get a little bit more color on your upcoming rate case filing. Can you talk to us a little about the expected breakdown in your ask, between just rolling rider-recoverable projects in to rate base and things like that, as opposed to evolution of your operating expenses, changes in demand forecast, things like that?

Yes. Our case, we will continue to work -- the riders will be in place, and generally at the finalizing of the case we will roll some of those riders into what we would anticipate -- the emissions equipment at Big Stone, whatnot -- would be rolled into base rates. So our filing is an adjustment above what we are getting currently in rider recovery.

Good morning, Mike. This is Kevin. Until the rate case is filed, there's just really nothing that we can give in terms of additional detail on it. You know, when we file the rate case, there will be an 8-K filing that will go along with that, and that will have some more details in it.

Sure. Absolutely. Don't want to get too deep into the weeds before we have that filing in front of us.

One other question, though, is, should investors expect to see a multi-year rate plan? Or would you expect it to be a more traditional single test-year type of deal?

It will be more a single test-year, forward-looking test-year, single-year case.

All right. And then, any color you can offer in terms of when we might see rate cases filed in your other jurisdictions?

We will start in the middle of this year with our -- as we do every year -- our cost of service studies and allocations between jurisdictions, and would make a decision probably early in the third quarter, if there would be any additional filings this year in either of the Dakotas.

Absolutely. Okay.

And just the last question, before I hop off -- in terms of your new generation resources we are looking at over the next several years, will you be required to hold a competitive RFP as we think about the likelihood of these projects being owned, rate forces put into rate-based as opposed to PPAs?

Well, we will continue to at least cost planning. We currently are not under a requirement to RFP that in any of the jurisdictions.

And remind me -- do you have the ability to get pre-approval or predetermination for either type of resource?

We have the ability in both Minnesota and North Dakota to file for, yes, an advanced determination of prudence on these facilities, and also incorporate those into our integrated resource plan that is filed with Minnesota. That plan -- an update to that -- is due in June of 2016.

Excellent. Thank you very much.

And we have a follow-up from Paul Ridzon.

What was the impact of weather versus normal for the full year? Sorry -- I didn't get that.

The impact of weather versus normal was $0.05.

So if we were to add that back to 2015 results, you are looking for a down year at the utility?

Well, the weather is arguably offset by the first year in this bonus depreciation.

Right. Correct. Okay. That was $0.06. Thank you for that clarification. Thanks.

Thank you and this does conclude today's Q&A session. I would now like to hand the call over to Mr. Chuck MacFarlane for closing remarks.

Thank you. I will summarize by saying we remain committed to a diversification strategy focused on two distinct platforms: manufacturing and the core utility. Our Companies will continue to focus on customers, and we will take a long term view. Our strategic objectives are to grow our businesses, achieve operational excellence, and develop our talent. We thank all of our employees for their hard work, and we thank you for joining the call and for your interest in Otter Tail Corporation. We look forward to speaking with you next quarter.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program, and you may now disconnect. Everyone have a great day.