Otter Tail Corp (OTTR) 2016 Q1 法說會逐字稿

Good morning. Welcome to Otter Tail Corporation's First Quarter 2016 Earnings Conference Call. Today's call is being recorded, and there will be a question-and-answer session after the prepared remarks.

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

Last night, we announced our first quarter 2016 results. 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 is Chuck MacFarlane, Otter Tail Corporation's President and CEO; Kevin Moug, Otter Tail Corporation's Senior Vice President and Chief Financial Officer, who by the way is also celebrating his birthday today.

Before we begin, I'd 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 developments, events or otherwise.

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

Thanks Loren. Good morning, and thanks for joining our call. For the quarter, net income was $14.5 million or $0.38 per share. This is in line with our expectations with the exception of warmer-than-normal weather. The warm weather impacted Otter Tail Power's first quarter earnings per share by $0.04 compared to normal, but this was partially mitigated by improved margins in our manufacturing platform. Our business model continues to combine a strong regulated electric utility for the portfolio manufacturing businesses intended to enhance long-term returns.

A key component of these two platform strategies are planned to grow the utility business. My remarks today will focus on our strategy to grow rate base and our recently filed rate case. I will also update you on efforts within our manufacturing platform to improve our competitive position.

Slide 5 shows our utility rate base expansion, which will drive earnings per share growth for the next five years. We planned to invest $858 million in Otter Tail Power during this time frame. This will result in a compound average annual growth rate in rate base of more than 8% from 2016 to 2020. (technical difficulty) natural gas generation and renewable generation projects will account for the majority of this rate base expansion with most eligible for construction cost recovery during construction.

This is noted on the bottom of slide 6, which shows our regulatory framework. As we've discussed on prior calls, we are investing in two 345-kv transmission line within Otter Tail Power Service area that the Mid-Continent Independent System Operator has deemed the multi-value projects. The cost of these projects will be allocated across all customers in MISO's 12-state upper mid-west footprint. One line will run from Brookings, South Dakota 70 miles north to a new substation near Big Stone plant. It's the next leg of a recently completed CapX2020 line from the Twin Cities to Brookings.

Slide 7 shows how they are connected. We are a 50% owner in the transmission line portion of this project with Xcel Energy. Our investment is $97 million and we have all required easements and permits. Xcel started construction late last year and has the line on schedule to be in service in 2017. The other line will run from the new substation near the plant, 170 miles northwest to Ellendale North Dakota and is scheduled to be in service in 2019. Otter Tail Power manages the project and is a 50% owner with MDU. Our investment is $153 million. Construction will begin this summer. Landowners assigned more than 325 of the 350 needed easements. We are finalizing contract with construction vendors and the steel tower vendor has begun producing transmission structures.

We also expect to invest in new generation. Utility management has identified options within our service territory for natural gas plant to replace capacity from the Hoot Lake coal plant, which we plan to retire in 2021. We have identified three sites, each with good access to transmission and natural gas supply. We expect to announce our site selection later this year.

Otter Tail Power management is also determining the most beneficial timing and location for additional renewable energy. The Company already has 250 megawatts of cost-effective wind generation, that's 19% of the Company's retail energy sales. Fuel utilities in the nation have a higher percentage of wind energy. We anticipate adding up to 200 megawatts of additional wind energy before 2021, which will put the Company wind resources near 30%. We also plan to add enough solar to power 1.5% of our Minnesota electric retail sales by 2020. This equates to approximately 30 megawatts of new solar. Otter Tail Power will file an updated resource plan in Minnesota on June 1.

Rate base investment is important to the health of our Company. Also important is the successful outcome to the request Otter Tail Power filed in February with the Minnesota Public Utilities Commission for permission to increase rates by approximately $19.3 million or 9.8%. This reflects the 10.4% return on equity and 52.5% equity ratio. The Company's current rates were established in 2011 based on 2009 costs. The proposed increase reflects investments in new environmental technologies, strengthen delivery system, expiration of integrated transmission agreements and overall rising costs.

On March 24, the PUC granted a 9.56% rate increase on an interim basis, while it considers the overall request. The interim rates went into effect on April 16 and we expect a final decision on the rate case in 2017. We intend to keep delivering affordable energy and expect Otter Tail Power's rates to remain among the lowest in the nation and region even with the increase. I'd like to mention three other projects at Otter Tail Power. One is a 10-week schedule maintenance overhaul at Coyote Station. The largest projects are replacing the lower boiler wall installing a separated overfire air system to reduce NOx emissions and tying into the new mine coal conveyor system.

Crews have completed 6 weeks of the 10 weeks. So far, everything is on schedule, we've encountered no surprises and boiler maker availability has been good. This is a $35 million project and Otter Tail share is 35% or $12 million. Second project I want to mention is implementation of a new customer information system. New system will be able to integrate new rate design, geographic information and outage management system. Otter Tail Power has dedicated a strong team to this $15 million project. Attention to detailing tracing requirements, validating business processes, testing deliverables and managing change will ensure a successful final implementation.

The third project I want to mention is the relicensing of five small hydroelectric plants we own on the Otter Tail River near Fergus Falls. Hydroelectric power has been part of our energy mix since 1907. It was the origin of Otter Tail Power's name. These five small plants are combined under one FERC license and must be re-licensed by 2021. We have begun the relicensing effort, which takes four years to five years.

Before turning to our manufacturing platform, I should also mention the EPA's Clean Power Plan to limit CO2 emissions from existing power plants. When we held our earnings call in February, the US Supreme Court had not yet issued its stay on the rule of pending a lower court's review. We expect the outcome from this review later this year followed by a review at the Supreme Court. You may recall that changes from the draft rule to the final rule were positive for Big Stone plant in South Dakota, but created new concerns for Coyote Station in North Dakota. We don't have an immediate compliance concern in Minnesota because we intend to retire Hoot Lake Plant in 2021. We are continuing to meet with stakeholders in all three states, as each state determines whether we'll continue implementation planning during the stay.

Now turning to our manufacturing platform. As we pointed out in our earnings release, net income was up quarter over quarter. That said, our manufacturing companies continue to be impacted by economic challenges in agriculture, energy, and recreational vehicle end markets leading to lower sales quarter over quarter excluding sales from BTD, Georgia, which was acquired in September last year. Our Plastics companies continue to be impacted by tightening margins on PVC pipe. The presence of these companies continues to guide improvement in each of their businesses as they work through the current economic challenges in the markets they serve.

We look for much of our future growth in the manufacturing segment to come from BTD, our metal fabricator. In the past year, we've expanded the size and capabilities of our Minnesota facilities and made a strategic acquisition of a $30 million annual revenue metal fabricator near Atlanta. BTD has nearly $33 million in spending commitments to expand its facilities in Detroit Lakes and Lakeville, Minnesota. The goal is to increase capabilities, reduce logistics cost, enhance margins. The Detroit Lakes portion of the plan is complete, a new state-of-the-art paint line is operational in the expanded Lakeville facility and previously outsourced work is now painted in-house. BTD will finish consolidating the fabrication facility in Lakeville in May. We are beginning to realize productivity improvements associated with these projects. The integration of BTD-Georgia has gone smoothly. We will begin implementing IT production systems or begin integrating IT production systems this summer.

At T.O. Plastics, net income was slightly ahead of first quarter in 2015, again on slightly lower revenues. The Company continues to focus on our horticulture containers, which is its primary market. At the PVC pipe companies, Northern-Pipe Products and Vinyltech, volume was strong during the quarter, which was offset -- which offset a reduction in margins. Our resin suppliers have announced additional resin price increases for the second quarter, both of these customer -- companies are efficient low-cost operators. They're in a good position and are working to ensure their pricing policies appropriate.

I'll now turn it over to Kevin for the financial perspective.

Well, good morning. Please refer to slide 10 as I discuss our first quarter results. The utility net earnings decreased $640,000 quarter over quarter. The decline is due to; one, milder weather in the first quarter of 2016 compared to the first quarter last year. Heating degree days were down by 16%. As a result, weather negatively impacted earnings per share by approximately $0.04 quarter over quarter and compared to normal. Two, higher operating and maintenance expenses; and three, a higher depreciation expense due to increased rate base investments. These items were offset in part by increased environmental and transmission cost recovery riders and increased sales pipeline customers.

Our manufacturing segment earnings increased $669,000 quarter over quarter, primarily due to BTD's performance. Revenues increased quarter over quarter from BTD by $3.9 million. The components of this increase are as follows: Our Minnesota location's revenues were down $5.6 million, due to softening demand from the agriculture, oil and gas and recreational vehicle end markets. Our Illinois location had an increase in revenues of $1.7 million, driven by strong demand for wind tower components and our Georgia facility accounted for $7.8 million in new revenues. We acquired the Georgia facility in September 2015. The higher net income at BTD is due to improved productivity relating to lower cost of expedited freight, manufacturing consumables, cost of quality, and lower labor and benefit costs. Our plastics segment revenues increased between the quarters with the result of an 18.5% increase in the amount of pounds sold despite 13.3% decrease in the price per pound sold. Increased sales came primarily from the southwest and central regions of the United States where construction activity remained strong and our earnings were basically flat between the quarters due to margin compression that occurred with a large drop in PVC pipe selling prices.

And our corporate expenses decreased $648,000 quarter over quarter, primarily due to a reduction in employee headcount and lower benefit costs. We are reaffirming our consolidated earnings per share guidance of $1.50 to $1.65 as shown on slide 12. Our 2016 guidance is dependent on the business and economic challenges our platforms are facing. As part of this, we are updating our segment guidance to reflect current conditions being experienced by our operating companies. We are maintaining our guidance range for the electric segment. We expect 2016 electric segment net income to be slightly higher than 2015 net income based on the reasons listed in the press release.

We are increasing the expected earnings per share range for the manufacturing segment by $0.01 on both ends of the range. We're able to do this through aggressive cost management and improved productivity to address challenges with softening end markets at BTD manufacturing. We are reducing the expected range of earnings per share for our plastics segment to $0.24 to $0.28 from $0.26 to $0.30. We are expecting operating margins to tighten for the rest of 2016, as announced resin price increases are not expected to be fully passed on sales prices due to current competitive market conditions.

And we are improving the range of our corporate cost by a penny a share on both ends of the range due to continued cost reduction efforts. 2016 continues to be dependent on the following items: Constructive outcome of our Minnesota rate case that was filed in February of 2016, BTD's successful growth in sales from its new paint line along with continued focus on operational improvements needed to improve our return on sales as well as full integration of BTD-Georgia to better serve our customers in the Southeast. These initiatives are especially important in light of the continued market softness in the agriculture, oil, gas and recreational vehicle end markets that BTD serves and continued strong earnings, cash flows and returns on invested capital from our plastics segment.

We are pleased with our first quarter results. We also like our position, a strong balance sheet reflective of our current equity to total capitalization ratio of 51%, investment grade, senior unsecured credit ratings, solid regulatory environments and rate base growth in our electric segment. And we are well positioned for a rebound in end markets served by BTD with the strategic investments we have made over the last two years. This ongoing effort positions us to meet our long-term goal of 4% to 7% compounded growth rate in earnings per share using 2013's $1.50 share as adjusted for the base year.

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

Thank you. (Operator Instructions) Paul Ridzon, KeyBanc.

Just one quick question, you mentioned a 10-week outage, will those costs be capitalized or will you sum that here at O&M?

Paul, the majority of those are capitalized. I believe the entire project has approximately $2 million in operating costs and the remainder is capital.

(Operator Instructions) And at this time, I'm shown no further questions or comments. So, with that, I'd like to turn the conference back over to President and CEO, Mr. Chuck MacFarlane for closing remarks.

Thank you. To summarize, net earnings increased quarter over quarter from continuing operations. Our manufacturing segment has improving performance including increased margins associated with improved operations and Otter Tail Power filed the first rate increase request in Minnesota in five years and received approval for interim rates, which began in April and we reaffirmed our 2016 earnings guidance of $1.50 to $1.65 per share. Thank you for joining our 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. You may now disconnect. Everyone have a wonderful day.