賓州電力 (PPL) 2006 Q2 法說會逐字稿

Good day, everyone.

Welcome to PPL Corp. second-quarter earnings conference call.

Today's call is being recorded.

For opening remarks and introductions, I would like to turn the call over to the Director of Investor Relations, Mr. Tim Paukovits.

Thank you.

Good morning.

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

We're providing slides of this presentation on our website at 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 could cause actual results or events to vary is contained in the appendix to this presentation, and in the Company's SEC filings.

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

Good morning.

Thanks very much for joining us.

With me today are Jim Miller, our President;

John Biggar, Executive Vice President and Chief Financial Officer; and Paul Farr, who is our Senior Vice President, Financial.

I also want to introduce this morning our new Executive Vice President and Chief Operating Officer, Bill Spence, who is here with me.

I'm sure many of you already know Bill from his prior experience and years at TEPPCO.

I think we have a very strong team and I'm very pleased to have Bill join our group.

As many of you may know, I will be retiring from PPL on October 1st, and this will be my last conference call, so I'll keep my remarks relatively brief and just hit the highlights and turn it over to Jim Miller and to John Biggar.

This morning, we reported earnings results for the second quarter of 2006 and our press release and the appendix to today's presentation materials should provide you with a considerable amount of detail about our reported earnings as well as our earnings from ongoing operations that exclude unusual items.

Our remarks this morning regarding 2005 and 2006 earnings will focus on earnings from ongoing operations.

In addition to the second-quarter results, of course, we will talk about what we see in front of us, and that will include a 2006 and 2007 earnings outlook, our forecast at 11% compound annual growth rate per share through 2010, which we've discussed with you in the past, our strong dividend growth and opportunities for additional dividend increases beyond 2006 and other aspects of our financial outlook, including our cash flow and balance sheet information.

Second-quarter earnings increased this year by 13% to $0.51 a share, up from $0.45 a share for the second quarter of 2005.

Those results keep us very firmly on track to achieve our 2006 forecast of earnings from ongoing operations, which we have given you as in the range of $2.20 to $2.30 per share.

Our press release this morning provides the details on our second-quarter results, and in his remarks, Jim Miller will address some of the drivers that were behind the numbers in that second quarter.

As I said, today, we are reaffirming our 2006 earnings forecast, which is an 8% increase over last year's earnings per share, and we also announced that we are forecasting 2007 earnings of $2.30 to $2.40 per share.

And that's our initial outlook for next year.

In providing that, we have conservatively assumed that because of continuing high crude oil prices, PPL will not realize any of the benefits from synfuel production in either the form of tax credits for synfuel that we produce and sell, or in the form of price reductions for the synthetic fuel that we purchase to burn in our own power plants.

In addition, we continue to forecast an 11% compound annual growth rate through 2010 based on 2005, starting point of ongoing earnings of $2.08 per share.

And as you know, that would give you a midpoint of our range for 2010 of about $3.50 per share.

As we've discussed in the past, this forecast does reflect growth that's very identifiable and visible and specific.

It's not based on conjecture or extrapolation or new projects that are as yet unidentified.

It's all based on assets that we have in place, firm facilities that are under construction and in design.

It's based on forward fuel prices that are visible in the market and contracts that we have in place.

And it's based on forward prices for 2010 for electricity, which are visible in the market and in fact, as Jim will discuss in a few minutes, some contract sales for energy production that we have already made -- executed for 2010.

Jim will discuss these items in more detail in his remarks, but first he'll talk about some of the drivers for the second quarter.

So with that, let me turn it over to Jim Miller, and then John Biggar will speak, and we'd be happy to take questions.

So Jim?

Good morning, everyone.

This slide you're looking at really breaks down our second-quarter and year-to-date results by segment.

I would point out that once again, strong results underscore the value of our operations in both the deregulated Energy Supply business, as well as the regulated electricity delivery businesses.

Now let's look at second-quarter operating results and I'll provide some insights into our 2006 and 2007 earnings forecast.

Second-quarter earnings from ongoing operations for the supply segment were $0.23 per share, or about a 5% increase over the $0.22 per share earned a year ago.

A significant improvement in energy margins in both the East and West was substantially offset by a decline in synfuel earnings.

The higher energy margins in the East were driven by the 8.4% increase in the sales prices under the Energy Supply contract between PPL Electric Utilities and PPL EnergyPlus and some increased low-cost generation.

Higher energy margins in the West were primarily driven by higher average sales prices and higher hydro output.

The higher supply margins in the second quarter were partially offset by some higher O&M, principally due to higher outage and non-outage costs at our power plant and lower synfuel earnings.

Our synfuel earnings declined by $0.04 per share from last year as a result of lower production and lower tax benefits due to the continuing phaseout of Section 29 credits that Bill referred to.

They were partially offset by some unrealized gains on our synfuel hedges that we put in place.

I'll discuss the status of our synfuel activities when I review the 2006 earnings forecast.

Moving over to Pennsylvania Delivery, second-quarter earnings from ongoing operations for the Pennsylvania Delivery business segment were $0.08 per share compared to $0.09 per share earned a year ago.

The slight decrease was principally due to increases in O&M expenses.

On the international side, the International Delivery business earned $0.20 per share in the second quarter of 2006, and that's a 43% increase over the $0.14 per share earned a year ago.

Now this increase was the net result of higher margins in the UK and in Latin America, and 24 million of income recognized from the planned liquidation of certain subsidiaries in the UK that were acquired as part of PPL's expansion into Wales in 2000.

These subsidiaries are unrelated to the core business of electric delivery.

This income was anticipated and included in our 2006 forecast of earnings from ongoing operations.

These positive results were partially offset by some higher pension expense reflected in O&M, and the negative effect of the foreign currency exchange rate.

We continue to forecast 2006 earnings from ongoing operations of $2.20 to $2.30 per share.

As Bill mentioned in his remarks, the $2.25 midpoint per share of the 2006 forecast provides an 8% increase over 2005 earnings from ongoing operations of $2.08 per share.

This slide highlights the major drivers of the 2006 earnings, which haven't significantly changed since our first-quarter update.

We continue to see an increase of $0.20 per share due to the 8.4% increase in the sales prices under the Energy Supply contract between PPL Electric and EnergyPlus.

Our energy margin increases of $0.17 per share are principally due to higher average wholesale prices in 2006 and some recent successes in securing Energy Supply contracts in the Northeast.

Additionally, higher hydro generation in the Western U.S. also contributed, partially offset by some higher fuel and fuel transportation costs.

We do expect an increase of $0.02 due to improved UK delivery margins.

And this slide also reflects our expectation of higher O&M expenses due to higher domestic and international pension costs and increased outage and non-outage costs at our power plants, and also some inflationary increases throughout the organization.

As we discussed during the first-quarter update and reflecting current oil price levels, we expect lower synfuel earnings in 2006 -- $0.05 in 2006 compared to $0.17 per share earned in 2005.

And the $0.05 projected for 2006 does reflect the benefit of the oil hedges I spoke about earlier.

In the second quarter, we recorded an unusual charge of $0.01 per share related to the full impairment of our synfuel assets.

We performed impairment reviews of the synfuel facilities during the second quarter, and as a result we recorded a $6 million after-tax impairment charge to write down the book value of these assets to zero.

Today, we announced our forecasted 2007 earnings of $2.30 to $2.40 per share.

For the same reasons that we reduced the amount of synfuel earnings we expect in 2006 we have assumed no synfuel earnings in our 2007 forecast.

That being said, we see 2007 earnings driven by a 5% increase in energy margins, principally due to the replacement of expiring fixed-price supply obligations with new higher margin wholesale contracts.

As I already mentioned, PPL has been successful in securing a number of multi-year supply contracts in the Northeast.

We will continue to be an active participant in the BGS and other options, as well as look for opportunities to secure margins for the long term.

In addition, we recently signed a new seven-year contract with NorthWestern Energy.

Throughout the term of this agreement -- and by the way, the high-level details of that contract are in the appendix.

Throughout the term of this agreement, we have the ability to sell additional power to wholesale and/or to retail customers in the Northwest.

Our 2007 margin forecast also reflects the benefits of a 1.3% increase in our sales prices under the Energy Supply contract between PPL Electric and PPL EnergyPlus, overall higher generation in 2007 as a result of higher availability of our power plants and planned power upgrades.

These are partially offset by some increased fuel and fuel transportation costs, including higher fuel costs to replace synfuel currently being purchased from third parties.

We also expect lower earnings from our International Delivery business in 2007 due to higher local taxes in the UK.

In addition, we do not expect income from the sale or liquidation of UK non-electricity delivery businesses at the same level in 2007 as occurred in 2006.

As you can see from this slide, we expect our supply business segment to provide an increasing contribution to PPL's per-share earnings from ongoing operations.

Although we expect to see earnings growth each year through the rest of the decade, our long-term forecast of an 11% compound annual growth rate and our forecast of earnings of $3.50 per share in 2010 are driven primarily by improvements in supply margins, as detailed on this slide.

I'd like to comment briefly related to our past approaches in communicating pricing and strategy relative to our expected margin growth in 2010 over 2009.

The obvious driver of course in 2010 supply margins is the generation now serving our POLR customers that can be sold at market prices after 2009.

We remain very confident in our ability to achieve the 2010 earnings growth we forecasted.

We've been able to validate our assumptions about 2010 prices, both for energy and for fuel by directly executing contracts for this time period.

Given the relatively less liquid market for this timeframe, as well as the lack of market data for load following transactions covering this time period, we really believe it's to our advantage not to discuss specifics covering our assumptions or relative changes to those assumptions since we set them at the end of 2005.

We believe discussing those assumptions could create some additional difficulty in achieving our results.

That being said, our forecasted 2010 margins are not solely tied to providing load following services.

Our forecast assumes generation resources now serving POLR customers will be used to hedge a mix of energy contracts, products of varied duration, priced off of an around the clock PJM Western Hub price for 2010 that existed at year end 2005.

Today's prices for 2010 are not materially different from those at the end of 2005 and we expect the mix of energy contracts and products to provide an additional margin of $20 a megawatt hour in 2010 compared to POLR margins in 2009.

As Bill mentioned, we have executed energy contracts for delivery in 2010, 2011 and 2012 at forward market prices consistent with or better than the assumptions in our business plan.

Based on the results so far, we're confident in achieving our 2010 forecasted earnings of $3.50.

We'd like to provide more detailed information around pricing as well as our hedge position for 2010, but as I said, we believe disclosing information right now is not the proper time when we are in the midst of executing our 2010 strategy.

As I've stated in the past, we currently anticipate no rate shock to our retail customers in 2010.

We anticipate total customer rates to increase about 20 to 30% from 2009 to 2010.

Now this is going to be significantly lower than the rate increases you've seen in Maryland and Washington and other areas that have recently transitioned to market-based rates.

Yesterday, PPL Electric Utilities filed a plan with the Pennsylvania PUC detailing how it proposes to acquire its electricity supplies for customers who don't shop for electricity in the competitive marketplace.

In the filing, Electric Utilities is proposing six regularly scheduled procurements for its POLR supply over a three-year period to provide customers with the benefits of dollar cost averaging.

Under the proposal, PPL would issue RFPs twice a year, March and September of 2007, 8 and 9 to procure its 2010 POLR supply for most customer classes.

As PPL Electric Utilities executes its request for proposals, more pricing information will become available to you.

In addition, we will provide you with more specific details of our 2010 position as we get further along in the execution of our strategy.

We are actively marketing and layering on contracts in 2010, 11 and 12.

The next slide shows our emission allowance position through 2010 and reflects the length we expect to have as our scrubbers go into service in 2008 and 2009.

The benefits show up in two ways.

First, the ability to purchase the most economical coal, whether it's been high or low sulfur.

And second, the ability to sell our excess allowances in the marketplace.

As we've remarked before, we're well-positioned in our allowance positions and we will not see any earnings impacts from the purchase or need for emission allowances.

With that, I'll turn the presentation over to John Biggar, and John will review the cash flow, our balance sheet conditions and some dividend growth opportunities.

Thanks, Jim.

Good morning.

Our current annualized dividend rate is $1.10 a share, which equates to a payout ratio of 50% based on the $2.20 per share low end of our 2006 forecast range.

To get to this level, we increased the dividend twice in 2005 and once again in 2006, most recently for our April 1st dividend payment.

We expect to grow the dividend faster than the rate of growth in earnings per share from ongoing operations over the next few years, and this would result in a payout ratio greater than 50% after 2006.

And future dividend action is of course subject to approval by our board.

The pressure on free cash flow before dividends in 2006 and in 2007 reflects the impact of our major capital expenditure program, primarily our environmental expenditures, including the expenditures for scrubbers being installed at our coal-fired Montour and Brunner Island plants in Pennsylvania.

However, we see significant improvements in cash available to meet our corporate needs as we move toward 2010.

These improvements are the result of reduced environmental CapEx as the scrubbers are completed in 2008 and early 2009; continued POLR price increases; 270 megawatts of additional generated capacity that will result from the power upgrade program at our existing generating facilities; together with improved plant availability.

In 2009, we continue to recover stranded costs from customers with no offsetting transition bond maturities.

And as we've noted in the past, this results in about a $200 million after-tax improvement in cash from operations.

Also our cash flow position will improve with the expiration of current long-term supply contracts because it provides us with the opportunity to remarket that supply at higher prices.

The improvements in cash flow will result in additional financing flexibility for us and a stronger balance sheet going forward.

Our credit profile has continued to get stronger over the past twelve months.

Our GAAP equity ratio at June 30 was 43%, up from 38% a year ago.

On an adjusted basis, which excludes all non-recourse debt, and that is about $740 million of transition bonds and $2.1 billion of international debt, our equity ratio was 56% at the end of the quarter, up from 52% a year ago.

Essentially we have achieved our target adjusted equity ratio.

Our liquidity remains strong.

We have $3.1 billion of available capacity under our $3.5 billion of bank credit facilities.

We're making excellent progress on the installation of the scrubbers at our Montour and Brunner Island stations.

In addition to the scrubber contract with Foster Wheeler and the EPC contract with Shaw Stone & Webster, substantially all of the subcontracts are in place and construction has begun at both Montour and Brunner Island.

At Montour, for example, we're about 25% complete on the scrubber vessel construction and about 30% complete on the 700-foot shell for the stack.

Steel erection will begin in September, and I'm really pleased to report that our scrubber project continues to be on budget and importantly ahead of schedule.

We plan to fund that project and our other capital expenditures in our program with cash from operations and the issuance of debt and preferred securities.

With the issuance of $400 million of PPL Energy Supply debt in July, we have raised the cash needed to fund all of our 2006 domestic capital expenditures and to meet about a third of our expected 2007 funding needs.

We have no plans to issue any common stock to fund our current capital expenditure program.

In fact, in the absence of an investment that will provide a better return for our share owners, we expect to be in a position to repurchase a portion of our common stock beginning in 2009 and that's reflected in the 2010 equity ratios that are shown on this slide.

During this and other calls and meetings with you, we have shown there is high-quality visible growth at PPL reflected in both earnings and cash to provide superior overall share owner returns.

Although we face the industrywide challenges of increased fuel and O&M cost pressures, and expenditures for environmental compliance, there are additional factors that could provide benefits beyond what we've included in our forecast.

These factors include higher capacity prices, greater equivalent availability at PPL's power plants, higher wholesale electricity prices and the addition of new assets to our portfolio.

On this slide, we have provided some sensitivities for some of these value drivers.

And as we remain on track to meet our forecasts, we will continue to search for opportunities to add value for our share owners.

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

Operator, we're now prepared to take questions.

(OPERATOR INSTRUCTIONS).

Leslie Rich, Columbia Management.

Good morning.

When you talk about the customer rates in 2010 going up 20 to 30%, is that just the generation portion, or is that the aggregate bill?

That's the aggregate bill.

It includes increase in the generation portion by replacing the fixed-price POLR with market prices, and also includes the expiration of our stranded cost recovery.

It does.

So I had thought that when the stranded cost recovery collection sort of fell away that the net net impact to customer bills wouldn't be material.

So I guess that's increased based on higher market prices?

Precisely.

Yes, that's right.

And how does that play into the plan to transition -- sort of what's the status of the docket at the Pennsylvania PUC to consider transitioning in rates prior to that?

Well the Pennsylvania Commission does have one activity going on that's specifically to deal with the potential for rate shock.

And we participated in that.

Separately, we filed yesterday a petitiion at the Commission to propose a procurement method for electric utilities to procure its POLR supply.

And what we're proposing is that the utility would buy the power over three years, '07, '08, and '09, in a total of six tranches for commercial and residential customers.

And basically, what we're proposing is -- well you can call it dollar cost averaging, if you like.

What we're saying is conceptually, we should not be trying to time the market or speculate with consumers' money, if you can put it that way.

So that's what we're proposing.

We're also proposing along with that strengthened programs for low income customers, demand side response program to give consumers an opportunity to affect their own electric bill and reduce usage when prices are high and get an economic credit on their billing.

We have a family of things proposed.

That was filed yesterday.

The text is available on our website so you can read all of it.

The press coverage in the local press and press in the state capital we think was quite balanced, if not favorable.

So the 20 to 30% increase coming after more than a decade of a rate freeze is pretty manageable, and in fact one-half to one-third some of the headline rate shocks that you've seen.

So we think it's quite manageable.

And what's the timeline on the Pennsylvania PUC's docket to look at phasing in rates?

Is that sort of a decision by early next year?

I don't know what the Commission's timeline is.

I don't --

Middle of next year.

That timeline, Jim, is not a regulatory timeline.

No, it's a target timeline by the PUC.

Yes.

The distinction I made is with -- a conventional distribution rate case has a clearly defined timeframe in the Commission's rules.

Other proceedings don't have a timeframe, but the Commission has their own target on this.

Thank you.

Jeremy [DeVaney], Scott & Stringfellow.

I was wondering if you would comment on how your relationship with ESCO is moving along in terms of your AMR technology implementation.

I don't think we have anything to report on that.

Our automatic meter reading system is installed, and has been complete for gosh, a couple years, three years.

What kind of benefits are you seeing from that?

Well we're seeing substantial benefits.

We can -- we now bill 99.8% of our customers with an accurate bill each month, and no estimated meter reads.

We have -- and of course the reduced costs associated with no manual meter reading.

We also have the ancillary benefits of being able to communicate with a meter to detect outages and the extent of outages and not just rely on customer no light calls, and it will serve as the platform for our demand side response going forward.

So it's been a success and I'm not aware of any relationship issues with a vendor whatsoever.

We're real pleased with it, and it's been complete for several years.

(OPERATOR INSTRUCTIONS).

Danielle Seitz, Dahlman Rose.

I was just wondering, you mentioned that you may be repurchasing some shares in 2009.

Did you have a sense of the magnitude of that program?

About 400 million in '09.

Okay.

And if I may, could I go back to this Pennsylvania Commission's proposal, it seems that there is a tendency, if I may say so, by the Pennsylvania Commission to actually jump the gun and raise rates ahead of time.

Is this something that companies will have to comment on, and what is your position as far as that is concerned?

We have a settlement that we entered into in about 1998, I believe, with the Pennsylvania Commission on restructuring.

And that had various provisions that included a onetime rate reduction for the utility; it included an electric utility delivery charge rate freeze, which has since expired; and it included a POLR rate freeze out through the end of 2009.

And PPL Electric Utilities hedged that entire amount, so that they could keep their promise.

So we've maintained our complete commitment to each of the provisions of our transition agreement.

And we think that's the right thing to do, as we think that positions the Company to get the most progressive treatment when the transition period ends, and we think it's also in the best interests of our customers, both before and after the transition period.

There are companies that -- each company in Pennsylvania is differently situated differently situated, and some companies didn't -- or chose not to -- hedge their POLR supply and they have to deal with that as best they can.

But our view has always been, abide by the terms of the settlement and take management actions that permit us to abide by the terms of settlement and still provide growing share owner value and we've been very successful in doing both.

So I don't know that there is a tendency of the Commission to raise rates early or not raise them early.

I think they do the best they can to represent the interests of the people they regulate and certainly the consumer.

The general idea was that -- if they were to phase in the rate increase they wanted to avoid the interest cost on top of the rate increase.

I mean, the logic is all right, I was just wondering if you were on their side, or -- and if you had to comment or if it was just a general discussion.

Well I think I've kind of given you what the general discussion is about.

You know, when you look at the consumer reaction to electricity prices, I suppose there are two different parameters.

One is, what's the absolute price that I'm paying, and the other is what's the rate of increase?

And people have an emotional reaction to a rate of increase, but even with the 20 to 30% increase in 2010, our rates are going to be highly competitive, probably lower than most of the surrounding states, New Jersey, New York, Maryland -- that have gone through the transition and structure it a little bit differently.

So -- we think that -- I frankly think all of the pieces for our 11% compound growth are extremely well-positioned.

Each of the elements are tightly tied down very, very nicely.

So our consumers and our share owners both benefit from it.

So that's about all I can say, Danielle.

I appreciate it, thank you.

(OPERATOR INSTRUCTIONS). [Rize Hadafi], Polygon Investment Partners.

Good morning, thank you.

Could you remind us what the average aggregate rate is right now for your customers, for the utility?

We can dig out the number for you.

If you have another question we'll take that while we find that number.

I don't have it at my fingertips. (multiple speakers).

Paul Farr's encyclopedic memory says the average residential rate is 8.3.

8.3 So about $83 a megawatt hour, which includes something like 10 for the stranded cost.

So 20 to 30% above that would be another $20 or so.

But of course you have the $10 for the stranded cost, so that's like a $30 upside.

So is it sort of fair to assume then that your guidance potentially is on the conservative side and has a good amount of potential upside?

There is potential upside.

I would say your $83 plus or minus in '06 is about right, all in.

And you can figure a 20% increase will bring you to round numbers $100, and 30% increase, something above that.

And of course that 2010 extrapolation is lower than people in surrounding states are paying now.

Great.

So it does sound like the 20% getting you from around 80 to 100 is $20, but of course the stranded cost goes away as well, so that's like another incremental 10, so in reality it might be like $30, which sounds (multiple speakers).

No.

The round number, 100, $110 is net of the stranded recovery.

The stranded recovery is around 12, $13 a megawatt hour, and it declines as we go out in time.

As we go out in time, the stranded recovery declines per megawatt hour, and the POLR price tends to climb.

Great.

Thank you.

Ladies and gentlemen, that does conclude today's question and answer session.

I would like to go ahead and turn the conference back over for any additional or closing remarks.

Okay.

Thank you all very much.

I appreciate your participation today and your questions.

I just want to express my thanks to the financial community.

It's been a pleasure to work with you and meet many of you.

As I look forward to our 2010 guidance, I have to tell you that all of the pieces are in place.

Our plants are performing really well, all the capacity additions that we've spoken of, the licensed power operater at Susquehanna and so forth are all proceeding as planned.

The scrubber construction program, as has been mentioned, is very well put together, and way ahead of the competition.

The utility businesses in Pennsylvania and in the United Kingdom especially have received customer service awards and still have been profitable businesses.

And all of the commodity pieces are in place.

Our fuel hedges are very effective.

Our power sales contracts are very effective and with creditworthy counterparties.

Our emission allowance position is excellent.

And we think we have a very progressive plan to manage any rate increase that consumers would see in 2010 here in Pennsylvania.

So we're very optimistic that all of the pieces are in place, and everyone in the organization is executing on the details.

And with that, thank you very much.

Ladies and gentlemen, that does conclude today's call and we thank you for your participation, and have a great day.