Pinnacle West Capital Corp (PNW) 2005 Q1 法說會逐字稿

Good morning, my name is Mary-Ann, and I will be your conference facilitator. At this time I would like to welcome everyone to the Pinnacle West first quarter earnings conference call.

[Operator Instructions]

Thank you. Ms. Hickman, you may begin your conference.

Thank you, Mary-ann. I would like to thank everyone for participating in this conference call to review our first quarter earnings and recent developments. Today, the following officers are here with me for the call. Jack Davis, our President and Chief Operating officer, and also President and CEO of Arizona Public Service. Don Brandt, our CFO, Barbara Gomez, our Vice President and Treasurer, and Chris Froggatt, who is Vice President and Controller.

Before I turn the call over to our speakers, I need to cover a few details with you. First, the quarterly statistics section of our web site contains extensive supplemental information on our earnings variances and quarterly operating statistics. Second, please note that all of our references today to per share amounts will be after-income taxes, and based on diluted shares outstanding. Third, we issued a press release yesterday announcing the commencement of a common stock offering.

Today's conference call is part of the company's regular practice of publicly discussing its quarterly earnings following the release of those earnings. This conference call is not being conducted as part of the company's common stock offering. We will not answer any questions regarding the offering, other than to discuss the offering's dilutive effect on the company's projected 2005 earnings.

It is also my responsibility to advise you that this call will contain forward-looking statements based on current expectations and the company assumes no obligation to update these statements, because actual results may differ materially from expectations, we caution you not to place undue reliance on these statements. Please refer to the MDNA in our 2004 10-K, which identifies some important factors that could cause actual results to differ materially from those contained in our forward-looking statements.

Today's call will be limited to a half hour. At this point I will turn the call over to Jack.

Thank you, Becky, and good morning everyone. I would like to thank each and every one of you for taking your time to join us today. We know this is a busy time of year for you because of earnings announcements. Before we get into the details of the call, I would like to explain why our chairman, Bill Post, is not with us this morning.

Bill had surgery recently, and is home recuperating. I am in contact with Bill on a regular basis and his recovery is progressing well. 100% recovery is expected and he will be back soon. He sends you his regards.

Now I am going to give you the pertinent details of our financial results for the first quarter, then I will update you on the highlights of our operational performance and regulatory developments.

The first I would like to discuss are - is a recent development in our earnings guidance. We have received proposals from several parties that have expressed interest in acquiring our 75% interest in the Silver Hawk power plant near Las Vegas. Silver Hawk is our only merchant power plant, although we believe our ownership of the plant would be profitable in the long term, we estimate that if we were to retain Silver Hawk, we would incur losses related to that plant in the range of 19 to $23 million a year in 2005 and 2006, or about $0.20 to $0.25 annually.

Each of the interested parties has indicated the desire to close on the transaction in 2005. Based on the proposals we would recognize a loss of the sale. We estimate that the net proceeds after income tax effects would be in the range of $200 to $215 million. If we were to complete a sale, we plan to contribute the net proceeds to APS to help fund its capital expenditures.

Our earnings outlook for 2005 remains within a reasonable range around $3 per share. This estimate continues our assumption that SunCor will report 2005 net income of approximately $50 million. We estimate that the net dilution from the common stock offering announced yesterday will be about $0.10 - sorry, about $0.09 a share.

Our earnings in the first quarter of 2005 were above our original plan. We currently expect approximately $0.11 a share of excess to benefit the full year earnings, thus offsetting the effects of the common stock issuance. Our outlook for 2005 does not reflect either the regulatory disallowance we will record as a result of the recently approved settlement of APS' general rate case, or a loss on the potential sale of Silver Hawk. Now I would like turn the call over to Don to discuss the first quarter earnings.

Thank you, Jack. Today I will review our financial results for the first quarter, and significant changes from last year's comparable quarter. I will also discuss our recently completed financing activities. In my comments, whenever I referred to earnings related amounts in millions of dollars, I will be referring to amounts after income taxes, unless I say otherwise.

We reported net income of $24 million, or $0.27 per share for the quarter, compared with $31 million, or $0.34 per share in the first quarter of 2004. While quarterly earnings are down compared to the prior year quarter, compared to our original plan for the year, we were off to an outstanding start, significantly ahead of our plan. Reported earnings for the first quarter were down $7 million, or $0.07 per share. Several factors favorably impacted the quarterly results, 4% customer growth, lower replacement power costs to unplanned outages, higher earnings at SunCor in the absence of regulatory asset amortization.

These factors were more than offset by increased costs related to the Silver Hawk power plant higher operating costs, milder weather, and lower results from our competitive retail energy operations. Now I will review the details of the major variances in earnings for the quarter. The company's fundamental growth remains exceptionally robust, and is the foundation of our long term performance. Retail sales growth contributed $0.05 per share.

Our customer growth has consistently been three times the national average. Customer growth was 4% in the first quarter of '05, our highest level of growth since the first quarter of 2000. We have added a record 38,000 customers in the past year. Arizona's population and job growth continue to be among the top in the nation. This superior level of growth is expected to continue for the foreseeable future. Also, lower replacement power costs due to fewer unplanned outages added $0.03 per share to the quarter.

We concluded the amortization of substantially all of APS' regulatory assets in June, 2004. The absence of this amortization in the first quarter of 2005 improved our earnings $0.06 per share. SunCor's earnings were up $7 million, or $0.08 per share for the year. The change was due primarily to increased land sales.

These positive factors were offset by several items. First, our Silver Hawk plant in Southern Nevada was placed into service in May of last year. As a result we are currently expensing the related depreciation, O&M, interest, and property tax cost. At the same time, our margins from the plant are minimal, reflecting tight spark spreads in the region. Silver Hawk's net effect on the first quarter was a loss of about $0.04 per share.

Higher O&M costs, excluding those related to Silver Hawk, decreased earnings $0.11 per share compared with the prior year quarter. The increase is consistent with our plan for the year, and is primarily attributable to customer service maintenance programs, higher costs related to employee benefits, primarily pension and medical costs, and our bark beetle remediation program.

We had planned to see this pattern of O&M increases in both the first and second quarters of the year, with the second half of 2005 somewhat lower when compared with the second half of 2004.

APS Energy Services, our competitive retail energy subsidiary, turned in results for the quarter that reflect a decline of $0.06 per share. Finally, weather negatively affected results by $0.03 per share. The primary driver was a milder March 2005 compared to March 2004, the hottest March on record in Arizona.

Now, turning to our marketing and trading activities in the Western energy markets. At the end of the first quarter this year, we had hedged approximately 80% of our 2005 exposure to purchase power and natural gas commodity risk for native load requirements, and we continue to add to the hedge. Our hedge positions are at prices substantially below current forward market prices for 2005. As shown in the quarterly statistics on our web site, spot prices at Power Verdee in the quarter compared with a year ago were up 10-14%, and natural gas prices are up 13%.

Consequently, spark spreads in the stock market have remained at about the same at less than $1 or so per megawatt hour. Forward spark spreads have improved 2 to $4 dollars per megawatt hour for 2005. But outside of the summer months, margin is slim. On a side note, APS marketing and trading recently announced new long term agreements to supply 75 megawatts of power to ten electrical and irrigation districts in Arizona. The new 15 year contracts begin January 2006, and replace a ten year agreement that expires at the end of this year.

These contracts are expected to increase revenues by $5 million annually compared with the previous agreement. Now I will turn to our financing activity and liquidity situation. Earlier this month, Pinnacle West Energy issued $500 million of two year floating rate notes with a six month call provision to repay the APS inter-company loan.

The debt is guaranteed by the parent. We estimate this refinancing will improve 2005 earnings by at least $2 million over the next few months. Following the ACC decision, the rating agencies once again reviewed our ratings. S&P affirmed the ratings, and revised the outlook to stable from negative. S&P improved the Pinnacle West business profile score to a 5 from a 6.

The S&P business profile improvement provides Pinnacle with substantially greater financial flexibility from a credit metrics perspective, and it reflects S&P's belief that our business is simpler, more focused, and safer going forward as a vertically integrated utility. Much more so than we were prior to the rate settlement being approved. At the time, Moody's maintained the current ratings and negative outlook, however, earlier this morning, Moody's revised the Pinnacle West and APS ratings outlook from negative to stable, citing reasons similar to what S&P did.

Both APS and the parent are in strong liquidity positions. APS is currently invested approximately $600 million, which includes $500 million from the repayment of the inter-company loan by Pinnacle West Energy. The parent is currently invested approximately $150 million. We plan to call it par on May 1st, our $165 million of floating rate notes due November 1, 2005. I'll now turn the call back over to Jack.

Thank you, Don. Now I would like to go over our recent regulatory developments and the highlights of our operations. APS' retail rate case has been by far our most prominent activity since we filed in 2003. I am pleased to say that the Arizona Corporation Commission approved the settlement of the rate case in late March.

That is something I have been wanting to say for quite some time. Although the commissioners made some modifications to the settlement agreement that we negotiated last summer with 22 of 30 parties to the case, the overall financial integrity of the settlement remained intact.

The 4.21% rate increase and other terms of the settlement went into effect on April 1st of this year. The purchase power and fuel adjustment mechanism of that settlement approved as part of the rate case is critical to us. It will reduce the regulatory lag inherent in recovering fuel costs.

We recently filed an application seeking appropriate approvals from the FERC for the transfer of Pinnacle West Energy's Arizona assets to APS. We estimate that the process for FERC consideration and approval will take 3 to 6 months. Meanwhile, in accordance with the ACC settlement, APS and Pinnacle West Energy have entered into a bridge power agreement that mirrors the economics of APS ownership of the assets.

Our retail customer growth continues at a remarkable pace, about four percent annually, ranking us second, nationally, behind Nevada. Our customer growth is underpinned by Arizona's population growth. According to 2004 census data, the state's population growth has been the second highest in the United States for the 11th consecutive year.

Historically, we have successfully met the challenges of reliably serving our high growth service territory and will continue to do so. In light of our remarkable customer service, long term resource planning acquisition are major activities for our company. We're currently awaiting FERC approval of our proposed purchase of Sundance power plant, a 450 megawatt gas fired picking plant which is 50 miles southeast of Phoenix. We anticipate receiving FERC approval and closing the purchase from PPL this spring. Even after the repurchase of the Sundance plant we expect to be some 1200 megawatts short of peak by 2007. For the rest of this decade we need to continually add peaking capacity. We plan to issue 2 requests for proposals this year. These RFP's will be issued in courts with terms of our recently approved settlement agreement.

The first RFP will be issued by mid-May for 100 mega watts of renewable resources with proposed liberty beginning in 2006. The second RFP will be issued later in the year for at least 1,000 mega watts of capacity with liberty beginning in 2007.

Our need for additional capital for new capacity beyond a (inaudible) plan will be dependent upon the outcome of our bidding process, since it will establish the portion of our need to be supplied through purchase power contracts versus plant acquisition.

Next I will briefly review some of our operating activities. My comments focus mostly on our first quarter operations.

We recently received new readings from J.D.Power & Associates. Once again, APS was ranked number one in the customer satisfaction among (inaudible) electric utilities in the west.

Looking at our power plant performance, the capacity structure for our nuclear plants was 94% during the first quarter compared to 88% the same quarter a year ago. The plant has operated very well this year. The improved quarter comparison results from about 18 days less unspent outage quarter over quarter.

Palo Verde (inaudible) number two is currently in a scheduled refueling and maintenance outage that began April 2nd. We expect the outage to last about 40 days. The next refueling outage at Palo Verde will be at unit one this fall. It is planned for about 80 days because we will be replacing the steam generators.

Unit one will be the second unit completed in our steam generator replacement plan. Our co-plans to operate it at an average capacity of 80% during the first quarter continue in their record of solid performance.

There are many facets of our business on which our employees focus steadfastly each day. Providing top care customer service, maintaining and improving operational reliability, controlling costs, working safely and the list goes on and on.

We work tenaciously to maintain strong liability and exceptional customer service. And solely I believe our tremendous customer growth and related potential for earnings and dividend growth are distinguishing characteristics of our company. We will endeavor to continue to capitalize on these advantages.

This concludes our prepared remarks and I'll return the call back to Becky.

Thanks, Jack. Before we start the question and answer session, I need to remind you of two things. Todays call needs to be limited to 30 minutes and we want to remind you that we will not answer any questions about our pending common stock offering. Mary Ann, we're ready to take our first question.

Thank you.

[Operator Instructions]

Your first question comes from Dan Eggers of Credit Suisse First Boston.

Hey, good morning.

Good morning, Dan.

I guess question number one on Silverhawk sale; anything you can give us as far as when we should expect an announcement to be made on actually who is buying this? How long we should expect it to close? When the cash should be delivered? That sort of thing?

Well, I'll kind of answer the questions backwards. We'd expect a closing early to mid fall. I think we'll probably get something wrapped up from an agreement in the relatively near future.

Okay and then from a earnings impact perspective, since you guys have made this announcement, we should take out the earnings (inaudible) at Silverhawk for the rest of this year. Should we just do the 4 cent loss in the first quarter by four?

Yeah. The Silverhawk losses of 20 to 25 a share; and let me first just make sure we're on the same wave length. Our $3.00 guidance assumes, includes that loss of 20 to 25 cents. But if you back it out, it's roughly, relatively equal throughout the year other than the third quarter; it's a little less, maybe about half of that. It's 4 to 6 cents a quarter other than in the third quarter. But if you divide it by four or so the total amount you wouldn't be far off.

Okay. Jack, when you look at getting Silverhawk squared away, getting the (inaudible) assets close, Sun Dance (ph) closing in the not so distant future and a fair amount of cash going back toward the utility, is this pointing to another rate case filing here in the not so distant future?

Dan, as I think we've stated in our previous quarter conference call, we're looking at a (inaudible) latter part of this year and that was also discussed at the open meeting at (inaudible) will we be looking at a filing later this year to pick up the Sun Dance acquisition amongst other things within the general rate filing.

I guess though the big headline issues we should look for on the next rate case are going to be getting Sun Dance properly treated (inaudible), readdressing the fuel clause, because of the ceiling they put on it in this last deal and what is going to look like probably a higher equity ratio, is that right?

That would be part of it, in other words, I would say that this rate case filing would have significantly less emotional issues than the previous rate filing.

Got it. Thank you guys.

Thank you, Dan.

Your next question comes from Steve Fleishman (ph) of Merrill Lynch.

Hi guys. A couple of questions; one specific one on the quarter. I think you showed your weather normalized sales are up about 2.5% like residential which seems to be less than your customer growth rate? Anything that would explain that?

Well we've got the effective leap year which is actually 1%. One day doesn't sound like much until you figure it's over 90 days.

Alright. Well, we'll blame it on the lost day.

It is 1%.

I guess more generally, could you just remind me when there would be another commissioner election?

(Inaudible) 2006 there will be 2 seats up for election. That will be the seat that is presently occupied by Commissioner Mays (ph) and the seat's that presently occupied by Commissioner Smitzer (ph).

Okay. And if you file your rate case in late '05, the timeline would be done by late '06 or would it be sooner than that?

Well, we would hope that would be the timeline, but sometime in the late '06 or the very first part of '07.

Late '06 or early '07, okay.

If you use the October 1st filing date you'd say by the end of '06, that's a 15 month timeline.

And then just roughly, with both the equity issuance and with the Silverhawk expected sale proceeds, your equity ratio in this filing would likely be somewhere in the low 50's area?

Correct.

Okay. Thank you very much and send my regards to Bill, please.

You bet, Steve.

Thanks, Steve.

Your next question comes from Terri Shue (ph) of J.P. Morgan.

Again, also refresh our memory, if just reviewing APS's earning power, the rate base and then adding in the West Phoenix and the Red hawk (ph) unit and what is the rate base? And then the equity component in the agreement is 45% right? So we could kind of do a quick calculation of the utilities earning power under the current agreement?

Well, the rate base that we wrapped up the settlement with is roughly in the 3.9 billion range.

Including some of the (inaudible) units?

Yes. Yes.

Okay and then the equity ratio allowed on that was 45%, correct?

Yes.

Right, so we could do that and the drag of course from Silverhawk is outside of the utility. As far as the other components, if you could review it with us of the $3.00 guidance, SunCor, etc. what is assumed in there?

We're assuming $50 million for SunCor.

For the current year?

Correct.

Yeah and I had also remembered that you gave a multi-year expectation for SunCor, if you could review and update that as well?

Terri, the last guidance we gave beyond that would be for years beyond '05 was back in October of '03 and that's been superceded a couple of times, but never the less what we said in October of '03 was going forward the combination of SunCor and APSCS would be a total of about 10 million. And I recall at the time we said ES was a relatively minimal amount of that number.

Okay 10 million starting which year? I'm sorry.

Respectively '06.

'06, okay. So it would be a drop off from the 50 down to the 10 kind of thing?

Well, we haven't updated what '06 would be; it will be - I think it's reasonable to assume it will be less than 50.

Okay if we wanted to again just do the quick back of the envelope for the total corporation in terms of holding company debt, etc., what would that be? Holding company which still has the Silverhawk unit, right, carrying that?

I'll let Barb Gomez, our treasurer talk about what we'd look like at the parent level on a debt respective.

What will happen at Pinnacle is that basically if you get to year-end '05, Pinnacle will only have the 300 million of votes that come due in April of '06. Because the other 2 issues that Pinnacle currently has are the 165 million floating rate notes that will be called on Monday.

Okay.

And then the 500 million of notes that were issued to repay the inter-company loan that once the assets move into APS, APS will pay for those assets by paying back the 500 million over to Pinnacle West Energy who will repay the existing 500 million floating rate notes.

Okay and as far as Sun Dance, that would be really the next rate case, is that right?

This is Jack. Yeah, Sun Dance would be a piece of the rate case I'm talking about filing at the end of this year.

End of this year which will be kind of end of '06 type?

End of '06, first part of '07 kind of thing.

Right, yes end of '06 type decision, is that right?

End of '06, first part of '07

And for Silverhawk, back to that, the original cost phase, am I right is somewhere around 300 million?

That's correct, within a couple million of 300.

Right. Okay thanks so much.

Thanks Terri.

Mary Ann, we have time for one more question.

Your next question comes from Heather McPherson (ph) of T.Rowe Price.

Hi, you guys. Thanks for doing this. I think my answers were pretty much answered, but the book value of Silverhawk right now - did Terri just ask that question?

She-well-yeah, basically the net book value is currently right at 300 million.

Okay, but some portion of it, you've already sold and that includes the 25% piece that you already sold off?

Well, the total project cost was right at 400 million and Southern Nevada Water Authority purchased 25% of it for 100 million at book value, so our 75% interest has a book value of right at 300 million.

Okay, the other question and I don't know how quick the answer could be, but you guys are saying that at 50 million of SunCor earnings for '05 that it potentially could go down to 10 million? I think you've said that in the past, but you haven't really updated us. Prior to this accelerated sale program, you guys were doing more than 10 million, I think at SunCor and to me I still see significant amount of assets of this real estate company in a region that's arguably improving real estate values. Is there any way that at some point we'll get more insight into the value of the assets that are lying there?

Yes, I think in answer to your question, we will get more clarity around it. To date we haven't updated guidance. Again, I'll point out the guidance has been superceded, but the last time we spoke that would infer numbers past '05 was back in '03 and it's getting to be a little ancient history and certainly we've seen nothing but property values escalate in Arizona and longer term, it would certainly be our desire and we're working on plans to capitalize on those values in this market.

And we operate in other markets, like Santa Fe, New Mexico, Boise, Idaho and St. George, Utah; three just red hot markets in the Western United States.

And have you ever given sort of public insight into what you think the valuation of that property is?

No, we have not.

Okay, thanks, you guys.

Thanks, Heather. We apologize for having to cut this call short. Obviously, as always if you need more information, please call me or Lisa Mallegon (ph). Thank you very much.

Thank you. This concludes today's Pinnacle West first quarter earnings conference call. You may now disconnect.