賓州電力 (PPL) 2005 Q3 法說會逐字稿

Good day.

Welcome to the PPL Corporation's third quarter earnings release conference call.

Today's call is being recorded.

For opening remarks and introductions I would like to turn the conference over to the Investor Relations Manager, Mr. Tim Paukovits.

Thank you.

Good morning.

Thank you for joining the PPL conference call on third quarter results and our general business outlook.

We're providing slots of this presentation on our Web site, www. pplweb .com.

Any statements made in this presentation about future operating results or other future events are forward-looking statements under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially from such forward-looking statements.

A discussion of factors that cause actual results or events to vary is contained in the appendix to this presentation and in the Company's SEC filings.

I would like to turn the call over to Bill Hecht, PPL Chairman and CEO.

Good morning.

With me today is Jim Miller PPL's President and Chief Operating Officer, John Biggar, our Executive Vice President and CFO, and Paul Farr, Senior Vice President, Financial.

This morning, PPL reported third quarter earnings, a relief, and the appendix to the material, the presentation material, provides you with some detailed information about our reported earnings, as well as earnings from ongoing operations which exclude the effect of unusual items.

You will also observe that there is an appendix to the material that is on the Web site that tries to give you some backup information.

It reflects questions that we understood you to ask in the past.

We tried to listen to that and provide you with the information up front.

Our remarks this morning will focus on earnings from ongoing operations.

Before we get into a detailed discussion of third quarter results I want to take just a couple of minutes and talk about the longer-term outlook.

Many of you have heard me say several times in the past six months, or eight months that I believe this particular chart answers the fundamental question of why someone should own PPL stock.

Our forecast of 6% to 7% compound growth in earnings per share combined with strong dividends holds the promise of a very strong total return for our share owners through the remainder of the decade with a very low risk profile.

The growth that we are projecting is very visible growth based on specifically identified projects and an assumption that forward prices for electricity would remain at the level markets we're showing in mid 2005, so it doesn't depend on further scarcity being reflected in prices and that of course would be upside, and our growth forecast doesn't depend upon extrapolation or as yet unidentified retail contracts or speculative trading.

Are all clearly identified, quantitative projects.

The forecast you see on the slide also excludes the effect of any asset acquisitions we might make for the right to explore the issue of additional assets, examine opportunities, and, from time to time, to bid in a disciplined way to provide near-term and long-term benefits to share owners.

Importantly, we do scan the external environment for opportunities, and challenges and it is a reason we think PPL has avoided many of the negative earnings surprises you may have seen.

As I said earlier, our growth drivers are very visible and are summarized on this chart.

The growth engine, of course, through the end of this decade is the combination of our generation and the energy marketing organization.

For this year, for 2005 our supply business represents just over half, about 51% of total corporate earnings.

Next year, 2006, it will account for about 60% of earnings and in 2010, the supply business will account for just under 70% of our earnings.

Starting in 2006 with a scheduled 8.4% increase in our POLR prices, supply margins are so is steady and sustainable growth through 2010 and the 8.4% that I am referring to is baked into our settlement agreement that we entered into years ago, was approved by the Public utility Commission and the supply that POLR load through an affiliate contract which was also approved by the Public Utility Commission so the recovery of the 8.4% increase in POLR prices from the regulated delivery business is established in regulatory arrangements that are long standing.

Periodic increases in POLR prices through the end of the decade, through 2009, again baked into our settlement agreement, will continue to add margin growth over the whole period.

In addition, during that same period there are other margin growth drivers.

They include new wholesale supply contracts that reflect more current higher market prices as existing contracts on line, according to their terms, that expire and we would bring that freed up to the market or through replacement longer term contracts.

The contract opportunities include full requirement bids like the New Jersey BGS process and sales in the Pacific Northwest.

Following expiration of the contract with the Northwestern Energy in mid 2007.

Also driving growth during that period is an increase in our low-cost coal, nuclear and hydro-generation, an increase of 255 megawatts, once plant upgrades that have been identified are fully implemented by 2010.

Of course, we have been achieving continued improvements in generation availability and we expect that to continue during the rest of the decade and have a specific plan for accomplishing that.

The revaluing of our generation fleet in 2010 at market prices following the expiration of the POLR contract is a major opportunity and that is shown on the charts that you will see on our Web site now.

All of those factors combined produce the CAGR in supply margins on loans exceeds 6%.

I believe it is important to emphasize that all of these forecasts for net margin include increases in fuel prices, fuel transportation, environmental costs, and escalation and other O&M.

That is all included in the forecast.

Some companies have experienced some earnings surprises from unanticipated fuel shortages or from allowance shortfalls, emission allowances, and I want to emphasize that we have not and will not experience those same consequences.

Our emission allowances, for example, are fully hedged throughout the period.

Scrubbers, as you will hear a little bit later, at our Montour plant, are under construction as we speak.

Physical work has begun on plan.

We have got our permits some month and a half earlier than the normal timing cycles.

So that is going well for us.

There are other items that we plan to discuss on this call, as well.

They include the 8% increase in third quarter earnings from ongoing operations compared to the same period a year ago, and reaffirmation of our forecast of earnings from ongoing operations for 2005 and 2006.

There is an October 1 dividend increase that you are aware of that we announced, and our ongoing dividend policy we'll reaffirm.

We will talk about our financial outlook, cash flow, balance sheet information, and as I have already addressed, the reaffirmation of our long-term CAGR in EPS of 6% to 7% and, of course, if you take that earnings per share and assume whatever P/E ratio you think is appropriate and add that to our dividends, you get total share owner returns through the end of the decade that is an extremely strong and very low risk profile.

Let me just summarize the third quarter results quantitatively before I turn the call over to Jim Miller.

Earnings from ongoing operations, third quarter 2005 were $216 million.

That compares with the third quarter 2004 of $196 million.

That is a $20 million increase or 10% in earnings from ongoing operations.

EPS from ongoing operations increased from $0.56 per share in the third quarter of 2005 --increased to $0.56 from $0.52 in the third quarter of 2004.

That is a $0.04 per share increase or 8%.

And both the total earnings and EPS amounts, those are all third quarter records.

YTD earnings are as follows. 2005 YTD, $597 million compared to YTD 2004 of $513 million.

This is an increase of $84 million or 16%.

EPS from ongoing operations, $1.56 per share year-to-date 2005 and that is an increase over the $1.40 per share for 2004 YTD, an increase of $0.16 per share or 11%.

Solid year-to-date results in our outlook for the fourth quarter allow us to reconfirm -- reaffirm our 2005 forecast for EPS from ongoing operations.

Let me now turn the call over to Jim Miller.

Jim?

Thanks, Bill.

Good morning.

Let's look at third quarter earnings from ongoing operations.

As Bill mentioned, overall, $0.56 per share third quarter 2005 versus $0.52 in the third quarter 2004, a $0.04 increase.

Let's take a look at earnings by segment.

In the supply segment, margins were down $0.04 a share, really, basically, due to the higher purchase power prices and the higher cost of oil and gas from some of our generation during some of the extremely hot weather we experienced in the third quarter of this year.

In the OEM arena, we did see a $0.02 decrease and that is basically due to the fact in 2005 we had a few more planned unit outages, as compared to 2004.

We did see a $0.03 increase in synfuel operations in the third quarter as compared to last year and that primarily is due to mark to market gains on oil options that we purchased to hedge the risk associated with our synfuel operations in 2006, and 2007.

And also there was a $0.01 of dilution which reduced the segment earnings as compared to last year.

So overall, we see a $0.34 a share earnings from ongoing operations in the supply segment for third quarter 2005.

Let's move over to Pennsylvania delivery segment.

In the third quarter, the Pennsylvania delivery segment really had a strong quarter.

They were $0.10 a share higher in this quarter than as compared to third quarter 2004.

Principally due to really two impacts;

Primarily the 7.1% TNT rating increase that went into effect January 1st of 2005, and also we saw some strong volume improvements in the hot weather that we did experience this third quarter.

In the international segment we were just about $0.01 off and basically margins were up in the international segment, about $0.03.

Pension earnings were slightly down about $0.02 and with some taxes and other issues accounting for about $0.02, we ended up $0.01 off in international.

So I think you can see when you look across Pennsylvania delivery supply and in our international operations, one of the things you will see is a benefit of integrated business approach as well as the geographic nature of our businesses, which tend to balance each other as different impacts are felt in different business areas.

I would like to move now, and talk a little bit about the balance of the year if I can.

Let's talk a little bit about the synfuel tax credit situation.

In the synfuel area, we expect continued high levels of production in our two facilities.

They are running very well, and we expect to be able to utilize our tax credits for the remainder of the year and they will create a positive impact in earnings in the fourth quarter.

As long as the way we see it, as long as West Texas crude remains at about $61, $62 a barrel, we don't expect to see any significant phase out issues with our 2005 tax credits.

Might note that we purchased some financial instruments to mitigate against the loss of annual synfuel tax credits in 2006, and 2007.

And we find that to be an effective way to mitigate the cash flow risk in the years that these tax credits would apply but it is worth noting that gain or loss from a P&L perspective may be reflected in the income statement for prior periods as these instruments are mark to market.

Yesterday, PPL Montana filed its market base rate authority analysis with FERC and we believe this analysis confirms that PPL Montana cannot exercise market power in the wholesale market in the portion of Montana certified by Northwestern Energy.

The conclusions we see from a wide range of market share and concentration analysis support work really tells us that FERC should renew our market-based rate authority in the west.

Additionally, we are continuously in discussions with parties in the West, industries in the West, as well as North Western Energy concerning additional power sales in their control area and outside of their control area, as well.

So those discussions continue for our forward sales.

I might add a little bit about energy margins in the fourth quarter for 2005.

They are expected to be lower than the same period in 2004 due to a scheduled outage at Susquehanna Unit One which is currently under way and the outage at Martin's Creek One and Two which we would hope to have that unit back by the end of November.

I will say both the Susquehanna outage and to the Martin's Creek outages are fully reflected in this year's guidance that Bill mentioned.

Let's talk about SO2 allowances if we may.

You remember in August we did point out in New York City the value attained in the avoided cost that we see from our emissions control program on our major coal units.

Since that time I am sure you have all seen the continued rise in allowance prices pushing to $1,000 even exceeding $1,000 per SO2 allowance.

We have updated our business cases for current pricing and it is interesting to note that when you really look at the avoided cost that we save now, through this program, we are looking at in excess of $100 million a year by not procuring SO2 allowances to run our units once we get our scrubber program completed.

And that is $30 million more a year than we gave you in August.

These large savings really just reemphasize to us the importance of getting these units on track and into commercial operation while this SO2 market continues to grow.

If you look at our scrubbers timetable, it just gives you a rough picture of the in-service dates of our equipment, and as Bill mentioned, in August, we had projected that we would be beginning construction at the turn of the year in 2006 on Montour One and Two.

Through a lot of hard effort we received our air permit some 12 weeks early and we have broken ground and construction is under way.

That really gives us a good jump here to be able to get our foundations in during the fall rather than waiting until the spring time.

So, all of our efforts will be to bring these units into commercial operation as soon as possible, and reap the upside potential of being even longer in emission allowance positions as we go forward.

And, I guess speaking of emission allowances I just wanted to reaffirm that we continue to actively manage our positions.

For the past two years, we have established a program and set targets in place to ensure that we have available to us the appropriate numbers of emission allowances, such that we do not impact our margin projections or our earnings projections for the Company, and I think by close monitoring of this program, we continue to feel comfortable that our emissions allowance program is where we need it to be until we complete our scrubber construction program.

So we feel very comfortable that as Bill mentioned, we will not have negative impact on earnings associated with rising emission allowance pricing.

With that, I now, turn the call over to John Biggar.

Good morning.

As Jim mentioned in his remarks, lower energy margins and higher OEM have put some pressure on our supply segment earnings in 2005 but, again, demonstrating the benefit of our balance strategy is this is more than offset by continued strong performance in PPL Electric Utilities, and by our international delivery business segment.

Now, we expect some of the factors that have affected each of our three business segments of the first nine months to continue through the year including, as Jim mentioned, lower supply segment margins as a result of the outages at Susquehanna and Martin's Creek.

But we are, as Bill noted, reaffirming our 2005 forecast of earnings from ongoing operations of $2.00 to $2.10 a share and, as Jim noted this does include the effect of those outages at Susquehanna and Martin's Creek.

The midpoint of our 2005 forecast, $2.05 a share, represents about a 10% increase over the $1.87 in earnings per share from ongoing operations in 2004.

We are also reaffirming our 2006 earnings forecast.

Our forecasted 2006 earnings is $2.15 to $2.25 a share.

The $2.20 per cent per share midpoint of the 2006 forecast range represents a 7.3 increase compared to the $2.5 midpoint for our forecasted 2005 earnings.

The growth and earnings in 2006 is driven primarily by the 8.4% increase in the price per generation supply that is sold to our provider of last resort, our POLR customers, in accordance with our restructuring settlement that was approved by the PUC in 1998, as Bill noted in his remarks.

Earnings growth next year will also come from improved power plant availability as a result of a lower level of plant outages in 2006 compared to 2005 as well as a full-year benefit of the sale of our Sundance plant in Arizona.

We do expect to see increased fuel and fuel transportation costs but these are fully reflected in our 2006 forecast as our lower earnings from our energy delivery segments that result from higher O&M.

As Jim noted in his remarks there's some uncertainty with regard to synfuel tax credits as prices reduce the levels that could result in a phase out of those tax credits.

As we predicted that the beginning of this year, we have seen an increased earnings contribution from our Pennsylvania delivery business segment in 2005.

As a result of the distribution rate increase and the increase in transmission charges that became effective for PPL Electric Utilities at the beginning of the year.

Our forecast for 2006 reflects an increase in the earnings contribution from our supply business segment as a result of the factors I just discussed.

And in this regard we expect our supply business segment accounts for about 60% of our per-share earnings from ongoing operations next year, with the remainder being pretty much evenly split between our Pennsylvania and international delivery business segments.

Reflecting our solid earnings performance in 2005, and our forecast for strong growth going forward, we have increased the annualized dividend rate on our common stock twice in 2005 by a total of 22%.

The most recent increase, of course, was the 8.7% increase with a dividend paid on October 1st.

Now, future dividend action is subject to approval by the board but it is our intention to achieve a 50% payout ratio in 2006 as previously announced.

And if you combine that with our 2006 earnings forecast, this strongly suggests that you should expect a meaningful dividend increase next year.

We continue to strengthen our credit profile while maintaining a solid liquidity position.

Looking at our capitalization ratios, cap equity was 36% at the end of last year.

That improve to 39% at the end of this year's third quarter as a result of debt retirements and a growth in retained earnings and we forecast that to grow to 42% at the end of 2006.

On an adjusted basis that is excluding transition bonds and the debt of our international affiliates, all of which is non-recourse to the parent company.

Our equity ratio improved to 50%% compared to 54% at the end of last year and we expect to be at a 54% of adjusted equity level at the end of 2006.

There are two components to our cash from operations.

The portion of our cash from operations that is dedicated to transition bond maturities, which were issued to finance stranded costs and a restructuring proceeding coming out of the Pennsylvania Commission and that averages $290 million annually over the period 2005 through 2008, as shown by the orange bars on the slide.

And then, of course, there is cash that is available to meet our Corporate needs and as you can see there is significant improvement in cash available to meet our Corporate needs as we go out through 2010 driven by a number of factors.

One of these, of course, is the increase in POLR prices that we talked about, the increase in POLR sales volumes and electric delivery, Pennsylvania electric delivery margins, reflecting customer low growth, the 255 megawatts of capacity additions to power upgrade plants, as well as improved power plant availability.

In 2009, we continue to recover stranded costs from customers that would no offset transition bond maturities.

By itself that is a $200 million improvement in cash from operations after giving effect to taxes.

And, of course, there is the expiration of our long-term supply contracts including the contract with Northwestern Energy in Montana, in mid 2007, and the POLR contract in Pennsylvania at the end of 2009 and that provides an opportunity to remarket our supply at more current higher prices.

Now, let's take a look at how that translates into free cash flow for PPL.

For 2005 we expect positive free cash flow both before and after dividends.

But our free cash flow will be under some pressure in the 2006 to 2008 time frame, but that is really not surprising with a major CapEx program that we have in place over the next several years divided into three major categories.

Sustenance CapEx; which allows us to maximize the value of our low-cost generation and achieved the higher availability and capacity factors that we planned in our forecast; discretionary CapEx, which is really justified by strong project economics such as those associated with the 250 megawatts of plant power upgrade projects, and of course there is the environmental expenditures which as Jim's slide indicated are economically compelling for PPL.

Our free cash flow improves dramatically as the CapEx program begins to wind down in 2009.

PPL's balance sheet gets stronger as we go through the balance of the decade.

We expect to meet our needs for capital including the growing dividend with cash from operations and when necessary the issuance of debt securities of the 2005 to 2010 period.

Even with that additional debt, we expect that our total debt, including international debt will be about $330 million less at the end of 2010 and then it was at the end of 2004.

I have been doing corporate finance work for well over 30 years and looking at these debt needs, I think they are really, very manageable.

They are well balanced, quite manageable especially given our improving credit metrics at PPL.

We have no plans to issue common stock over this period to fund our CapEx requirements.

At the same time PPL's solid earnings position add on average $350 million annually to equity through growth and retained earnings of the period 2005 to 2010, which results in about about a $2.1 billion of additional equity on the balance sheet at the end of 2010 compared to 2004.

This allows us to meet our funding needs during this period and still maintain credit metrics that support our current triple B ratings with stable outlooks across the board and buy back about $700 million of common stock through 2010.

Why own PPL stock?

We believe is still undervalued trading at a discount multiple to its peer companies.

There is visible growth in PPL in both earnings and cash to provide superior overall share on our returns.

In these remarks, Bill discussed the factors that will drive our growth and earnings through 2010 and those are the same factors I just described that will improve cash flow over the same period.

That translates into growing high quality cash earnings over the balance of the decade for PPL.

And there are additional value drivers that are not included in our forecast.

They include improved capacity factors, increases in energy prices, further baseload generation increases, acquisitions of assets and divestitures as well as emission allowance opportunities.

Now, I will turn the call back to Bill to moderate the Q&A session.

Operator, we're ready to take questions.

[ OPERATOR INSTRUCTIONS ] We will take our first question from Paul Patterson, Glennrock Associates.

Good morning.

Can you hear me?

I can hear you well, Paul.

I wanted to touch base with you on the synfuel.

You mentioned higher production and you also mentioned the impact of the options.

And I wanted to get on an idea as to how much, I guess you might actually expect to see in 2005 in terms of EPS contribution from synfuel and how much of that is coming from the mark to market benefit?

Jim?

We should see about $0.16 in 2005 and we expect about $0.02 by the end of the year.

About $0.02, Paul, will be attributable to the hedges.

Okay, and then your 2006 guidance, does that expect you are going to be getting, that the synfuels are actually operating?

How much have you hedged of the 2006 production?

We have hedged, let's say about half of it, Paul.

Okay and about -- and some part of that has been recognized, $0.02 is recognized this year, assuming the oil prices stay high, what would happen here?

The $0.02 you already recognized, you wouldn't recognize in 2006, I guess you would realize that in terms of cash.

What would happen if oil prices stayed where they were?

We would be at about an $0.08 net in 2006.

If everything stays where it is.

Okay, that is, I guess, within the guidance range you guys have, a fluctuation we could have there?

Yes, Paul, that is correct.

Okay.

The currency impact for the quarter and year-to-date, can you give us an idea what that was?

I'm sorry if I missed it.

YTD, we are at about -- right about where we had planned, we are about $0.01 positive year-to-date.

Okay, and then if you could finally, elaborate a little bit, about how the discussions with your customers in Montana and in that region are going with respect to this mid 2007 remarketing opportunity, etc?

Yes, the discussions are ongoing and, in fact, we have been responding back and forth with Northwestern, working with them on providing them various options at their request.

I'd characterize it as sound discussions ongoing.

We continue to look at various ways we can serve Northwestern, and as well respond to their needs and different types of proposals.

We additionally put on additional sales with our industrial customers in Montana, and as well continue to put on additional sales both on and off peak outside of Montana, as well.

So, when the 2007 expiration comes about, how much power will you guys have to be remarketed?

Can you give us a flavor for that?

And now, that you guys have signed up some deals with other people, and what we might be seeing in terms of prices versus what you're getting and stuff?

Well, from a pricing perspective, we can give you certainly the midsea prices that we see out there around-the-clock, at midsea around $80, projected for 2006 and about $70 for 2007.

In that range, hi 60s, low 70s, but I think our intention as I said is to serve Northwestern in some deal capacity.

As you are well aware we have 300 block of power that we sell them currently with 150 on a unit contingent basis so we would like to, if possible, to sell that to Northwestern.

If not, we will sell to other customers inside or outside of Montana.

Okay.

That explains it.Thanks a lot.

Thank you.

Moving on to Kit Konolige, with Morgan Stanley.

There we go.

Good morning.

Good morning.

How are you, Kit?

Good.

How are you guys?

Great.

I was wondering if you could give us a little more detail on the supply margins in the East, both what you saw in the third quarter and then a little more descriptive going into 2006?

Things like how much of an increase you are looking for in coal prices and any transport issues and that sort of thing?

Kit, we do see, obviously, a margin increase in 2006.

We have as Bill mentioned that 8.4% step up in our POLR contract rates, so that is very nice, helpful move for our 2006 margins.

On coal prices, I believe in August, we did point out that from 2005 to 2006, coal would be -- coal and transportation combined, Kit, and I want to be clear about that, coal and transportation combined would be going up perhaps about 10% and from 2007 on out, we see about a 4% a year increase in coal prices, 4% to 5% a year in coal prices.

That would include emissions allowances in there?

Yes, I think it is fair to say.

We continue to move away as much as possible when needed from the central-App, low-sulfur coal but we still do procure some of that.

I would look at it as 4% on coal.

As I mentioned earlier, our emission allowance program, all of our guidance includes all of the emission allowance needs going all the way out.

And availability of coal?

Has that be any kind of a problem for you?

No, Kit.

We continue to manage them very effectively.

We have 10 unit trains and we have not seen -- and we very active maintain real strong relationships with the railroads and our transportation situation has worked very nicely for us and I expect that to be no problem in the future.

We maintain very adequate inventories and we are in good shape there.

Great.

Thank you.

Thank you. [OPERATOR INSTRUCTIONS ] We now move to Daniele Seitz with Maxcor Financial.

Thank you.

I was wondering the $0.50 that you are pursuing in terms of earnings growth, from 2007 to 2010, how much of that is Pennsylvania going to market rates and roughly half of that?

Let us give you --

I just was wondering what kind of assumptions did you make for that type of number?

Yes, Pennsylvania going to market rates is the shift from 2009 to 2010 in total margins, and I think it is at least half of that.

We will give you more of a precise number in a second.

Okay.

Great.

And then you haven't assumed anything for RPM or anything like that?

No.

We have not assumed anything for RPM, and PJM, or for the little bit of production we have in New England we haven't assumed anything for LICAP either.

Okay.

Okay.

In terms of the fourth quarter, you said that Susquehanna was going to be in refueling.

Was there a nuclear unit in refueling last year, as well?

No.

It is not a refueling outage, Daniele.

It is a planned repair to what are called fuel channels.

It was not a comparable outage last fall.

That outage is ongoing as we speak and it is anticipated to last about three weeks, possibly less.

You are confident that the advantage of the delivery side as well as better prices will provide an offset large enough for the two outages?

Yes, the affect of the two outages is conservatively included in our reaffirmed guidance.

Okay, and obviously an advantage for next year as well.

Do you have a sense for how much it will be?

Will it be much more than the $0.05 that you had in the third quarter?

I am sorry, Daniele, which $0.05 was that?

The outage of the coal units you had in the third quarter was supposed to be an impact of $0.05 and I was wondering if you are assuming a bigger impact in the fourth quarter?

No.

The Susquehanna outage, you can approximate that by taking a $50, or $60 market price and multiply it by the production of one unit for three weeks and that would be the current market conditions and, of course, we hedged that outage over the past several months, knowing that it was planned.

The coal unit outage is probably less than that $0.05, $0.02 or $0.03, and that all has been reflected in our guidance that we have given you, Daniele.

Thanks.

I appreciate that.

[OPERATOR INSTRUCTIONS] We will pause for just a moment.

There are no further questions at this time.

I will turn it back over to Bill Hecht for any additional or closing comments.

Okay.

Thank you all very much for your participation this morning.

We hope we have been able to effectively answer your questions.

The material that we went through is going to be archived on the Web for a period of time and as you will notice there are appendices to the slides that we used that are also there to give you some more data that we think responded to questions you have traditionally asked.

So, thank you all very much.

That concludes our remarks.

Thank you gentlemen.

That does conclude today's conference call.

We thank you for your participation.

You may now, disconnect at this time.