賓州電力 (PPL) 2015 Q2 法說會逐字稿

Good morning, and welcome to the PPL Corporation second-quarter earnings conference call.

(Operator Instructions)

Please note, this event is being recorded.

I would now like to turn the conference over to Joe Bergstein, Vice President of Investor Relations.

Please go ahead.

Thank you, Emily, and good morning, everyone.

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

We are 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 differ is contained in the appendix to this presentation, and in the Company's SEC filings.

We will refer to earnings from ongoing operations, or ongoing earnings and other non-GAAP measures on this call.

For reconciliations to the GAAP measures, you should refer to the press release which has been posted on our website, and has been filed with the SEC.

At this time, I'd like to turn the call over to Bill Spence, PPL's Chairman, President, and CEO.

Thank you, Joe.

Good morning, everyone.

We're pleased that you joined us this morning.

With me on the call today are Vince Sorgi, PPL's Chief Financial Officer; and the Presidents of our three business segments.

Moving to slide 3, you'll see an agenda for today's discussion.

As we typically do, we'll provide an overview of our quarterly and year-to-date earnings results, which I'm pleased to say include significant growth in earnings from ongoing operations.

We'll discuss our 2015 earnings forecasts, which we are increasing, along with our dividend, based on the continued strong performance of our utilities, and I'll provide an operational overview, as well.

Vince will review our segment results and provide a more detailed financial overview.

And as always, we'll have plenty of time to answer your questions.

But before we dive into the quarterly results, I'd like to share with you my thoughts about the new PPL.

As you know, June 1 marked a major milestone in our Company's history.

On that day, we completed the spin-off of our competitive supply business.

And in doing so, we completed a strategic transformation of PPL that began with our acquisition of two regulated utilities in Kentucky, followed by the expansion of our utility operations in the United Kingdom.

It's a transformation that has been exceptionally well-executed, provides earnings and dividend growth potential, will create significant value for our shareowners, and positions PPL well for continued growth and success.

Today, in our first earnings call since the spin-off of the supply segment, our focus has never been clearer.

Our ability to control our own destiny through our proven track record of execution has never been greater, and I, without a doubt, have never been more excited about where we're headed.

Moving to slide 4, let me expand on some of the reasons why.

PPL is now a pure-play regulated utility investment, made up of seven high-performing award-winning and growing utility companies.

Year-in and year-out, these utilities prove themselves to be among the best in our industry.

They are diverse and located in different regions, with different regulatory structures.

They offer a mix of regulated assets you'd be hard-pressed to find anywhere else in our sector.

Each utility operates in what we consider to be a premium jurisdiction.

In addition, all of our utilities are investing heavily in infrastructure, producing robust rate-based growth for PPL.

In fact, organic growth in our domestic utilities is among the strongest in the US utility sector, with 8% to 10% earnings growth expected through 2017.

We expect our combined rate base in the US alone to grow by 47% over the next five years.

That's the equivalent of adding another major utility to our portfolio.

Our balance sheet is strong and so are our cash flows, credit ratings, and very competitive dividend.

The bottom line, we believe the new PPL, with its strong growth profile, a solid dividend, and a diverse mix of holdings, is a unique and very compelling investment option in the US utilities sector.

Looking at slide 5, you can see that robust rate-based growth combined with jurisdictions that permit near real-time recovery of our infrastructure investments is what will drive our targeted 4% to 6% earnings growth.

I want to point out that the 2017 $2.35 of earnings per share shown here represents a projection based on the midpoints of our 4% to 6% compound annual growth target off our 2014 adjusted earnings.

It does not represent earnings guidance for 2017.

Across the portfolio, over $10 billion in CapEx spending is expected to produce compound annual rate-based growth of more than 7%, or $5 billion by the end of 2017.

For 2015 through 2017, over 80% of that CapEx earns a return within 12 months, and approximately 76% in less than 6 months.

This combination creates a very strong foundation for future earnings growth.

Let's turn to slide 6. This slide offers additional detail on why we feel our US operations in Pennsylvania and Kentucky operate in constructive regulatory environments.

Domestically, we have favorable allowed ROEs in both Pennsylvania and Kentucky.

When coupled with the numerous recovery mechanisms that reduce regulatory lag, including the DSIC in Pennsylvania and the ECR in Kentucky, we are well-positioned to achieve our earnings growth targets.

We have excellent growth in transmission, with allowed base ROEs of 11.68% through the FERC formula rate, and a 12.93% allowed ROE for the $630 million Susquehanna-Roseland project, as well as a return on CWIP for the $335 million Northeast Pocono reliability project in Pennsylvania.

It's this list of trackers and recovery mechanisms that drives the rapid recovery I described on the prior slide of 76% of our CapEx earning a return in less than months, and over 80% earning a return in less than 12 months.

Turning to slide 7, we provide a more detailed look at why we also believe the UK offers a superior regulatory jurisdiction.

The RIIO-ED1 framework in the UK provides long-term inflation-adjusted rate certainty without volumetric exposure, and OFGEM has accepted our business plans, which include total spend of over $19 billion over the eight-year regulatory period.

About $11 billion of that spend will drive growth in our regulated asset value, or RAV.

It also offers the potential to outperform through performance incentives, which as you know, WPD has been very successful at turning in the past, and it offers us the opportunity to earn an adjusted expected return on equity in the mid-to-upper teens through 2017.

We are uniquely positioned with our history of strong performance and innovation to earn these favorable returns in this premium jurisdiction.

Our utilities in the UK are the four best performers in the country.

They were the only utilities to be approved for fast tracking of their business plans under RIIO.

This enables them to collect additional revenue of about $43 million annually, and retains 70% of cost efficiencies compared to about 55% for the slow track DNOs.

And the UK business is self-funding, and does not require any equity from PPL.

In fact we have the flexibility to dividend between $300 million and $500 million of cash back to the US annually in a tax-efficient manner.

Turning to slide 8, our Board approved an increase in our common stock dividend, raising it from $1.49 to $1.51 per share on an annualized basis.

This marks PPL's 13th dividend increase in 14 years.

The quarterly dividend of $0.3775 per share will be payable October 1 to shareowners of record as of September 10.

The increase in the dividend is consistent with our prior messaging that we would look to raise the dividend after the completion of the spin.

Turning to slide 9, in summary, we are confident in our ability to achieve our 4% to 6% earnings growth targets through at least 2017.

We expect 8% to 10% growth in our domestic utility earnings, and approximately 2% growth coming from our corporate restructuring efforts, which combined are more than offsetting relatively flat earnings at expectations in our UK business over this time period.

There are several key drivers to our organic growth in the domestic utilities, and these include strong transmission rate-based growth of 18.9% through 2017 in Pennsylvania, limited volumetric risk in our distribution operation in Pennsylvania due to our rate structures and recovery mechanisms, environmental spending and favorable rate case outcomes contribute to our growth in Kentucky.

And outside the US, the UK spending program of $4.8 billion, along with our projected incentive return, support our overall RAV growth and strong financial performance.

Before turning to our quarterly results, I want to reiterate how optimistic I am about PPL's future.

I believe PPL's diverse mix of assets, our low overall business and regulatory risk, and our proven track record of earnings performance and transparency, set us apart from our peers.

It's a new day for PPL, but we'll continue to deliver for our customers and our shareowners.

Turning to slide 11, today we reported a second-quarter 2015 loss of $757 million, or $1.13 per share.

This reflects a $1 billion loss or $1.50 per share from discontinued operations associated with the June 1 spinoff of our competitive supply business.

The loss from discontinued operations included an $879 million loss, reflecting the fair value of the supply business at the time of the spinoff, compared to the recorded value of the segment.

Vince will address the loss from discontinued operations in more detail in his remarks.

By comparison, second quarter 2014 reported earnings were $229 million, or $0.34 per share.

The reported loss for the first six months of 2015, which also reflects the loss on discontinued operations, was $110 million, or $0.17 per share compared with reported earnings of $545 million, or $0.83 per share for the same period in 2014.

Adjusting for special items including results from discontinued operations, second-quarter 2015 earnings from ongoing operations were $0.49 per share, up 11% from second-quarter 2014 adjusted results.

And year-to-date ongoing earnings of $1.26 per share is 15% higher than 2014.

As you will see on slide 12, because of the strong performance of our utilities year-to-date, primarily in the UK and Kentucky, we are raising the midpoint of our 2015 earnings forecast by $0.05.

That increases the midpoint to $2.20 per share, an 8.4% increase from our 2014 adjusted ongoing earnings of $2.03 per share.

For the full year, we see an improvement in our UK regulated segment as a result of lower depreciation expense, partially offset by the costs incurred to reprice some of the 2015 foreign currency hedges, and lower operating and maintenance expense, coupled with supportive weather in our Kentucky regulated segment.

Now let's turn to slide 13 for an operational update.

In Pennsylvania, PPL electric utilities continues to meet with various state and federal agencies regarding its proposed Compass regional transmission project, and to study potential options for the transmission line.

The project, announced in July of 2014, would involve construction of a new multi-state transmission line that would improve electric service reliability, enhance grid security, and provide cost savings to millions of consumers in the PJM and New York ISO regions.

We will continue to provide updates as this project moves further along.

Also in Pennsylvania, we're awaiting a decision from the Pennsylvania Public Utility Commission on PPL Electric Utility's request to replace its 1.4 million electric meters with new more advanced meters.

The Company has proposed replacing its meters between 2017 and 2019 to provide expanded benefits to customers, and to comply with state mandated regulations on metering technology, estimated to cost about $450 million, of which $328 million is expected to increase rate base.

A PUC administrative law judge has recommended approval of that plan.

In addition, PPL Electric Utility's March 31 distribution rate case means pending before the Pennsylvania PUC.

As part of this regulatory process, the Company is engaged in ongoing settlement discussions with the parties.

We'll of course keep you updated as the case proceeds.

The Company has requested an increase of $167.5 million in annual base distribution revenues.

The request is driven by continued investments required to renew, strengthen, and modernize our Pennsylvania distribution network.

We've already seen significant improvement in system reliability, based on the investments made to date, as we are experiencing 38% fewer outages than five years ago, and the average length of time our customers are without power has been reduced by 43%.

The investment being requested in this rate case is expected to further improve system reliability by another 20% over the next five years.

We expect the revenue increase to take effect January 1 of 2016.

In Kentucky, the Kentucky PUC in late June issued final orders that resulted in an increase of $125 million, in annual base electricity rates at Kentucky utilities, and a $7 million increase in annual base gas rates at Louisville Gas and Electric.

The new rates became effective July 1, as anticipated.

And after more than two years and over 2 million construction hours, the new $530 million, 640-megawatt Cane Run unit 7 combined cycle gas plant is now commercially available.

This unit is the first of its kind in the state, and represents our commitment to put resources in place to meet the future energy needs of our customers.

Since the start of the operations, the unit has been running as a base flow unit.

Finally, our WPD subsidiaries in the UK transitioned to the new eight-year price control period RIIO-ED1 on April 1, 2015.

While it's only been a few months under RIIO-ED1, so far we're performing very well, and either meeting or exceeding our performance targets.

With that, I'll turn the call over to Vince to provide a more detailed look at our financial performance.

Vince?

Thank you, Bill, and good morning, everyone.

Let's move to slide 15 for a review of segment earnings.

Our second-quarter earnings from ongoing operations increased over last year by $0.05 per share, driven primarily by higher earnings from the UK regulated segment, and lower costs in corporate and other, resulting from the corporate restructuring efforts which are essentially complete.

As Bill mentioned earlier, PPL's reported earnings for the quarter and year-to-date reflected losses from discontinued operations associated with the June 1 spinoff of our competitive supply business.

The accounting rules required us to evaluate whether the fair value of the supply segment's net assets was less than our carrying value as of the June 1 spinoff date, and we determined that it was.

This resulted in a loss on spin of $875 million.

In addition to the loss on spin, supply's operating results and all costs associated with the spin are classified on the income statement as discontinued operations for all current and prior periods.

You can find additional details on the spin-off, our evaluation methodologies used in determining our estimate of fair value for supply, and information on our transition services agreements with Talen in our second-quarter 10-Q that we are filing today.

Let's briefly discuss domestic weather for the second quarter and year to date, compared to last year and compared to the 2015 forecast.

Overall, domestic weather was flat to last year for both the quarter and year-to-date periods.

However, compared to our 2015 forecast, weather had a positive $0.03 impact year-to-date, and was flat for the second quarter.

Let's move to a more detailed review of the second-quarter segment earnings drivers, starting with the Pennsylvania results on slide 16.

Our Pennsylvania regulated segment earned $0.07 per share in the second quarter, a decrease of $0.01 per share compared with a year ago.

This result was due to higher O&M expenses, and higher depreciation due to asset additions, partially offset by higher margins from additional transmission investments.

Moving to slide 17, our Kentucky regulated segment earned $0.09 per share in the second quarter of 2015, flat compared to a year ago.

This result was due to higher gross margins from returns on additional environmental capital investments offset by higher O&M expenses related to costs for the retirement of the Cane Run coal facilities.

Moving to slide 18, our UK regulated segment earned $0.36 per share in the second quarter of 2015, a $0.03 increase, compared to the same period last year.

This increase was due to lower income taxes from a lower UK tax rate and lower US taxes on dividends in 2015 compared to 2014 and lower depreciation expense from the asset life extension we discussed last quarter.

These increases were partially offset by lower utility revenues, as we transitioned to RIIO-ED1 on April 1 of this year, and the effects from foreign currency.

Moving to slide 19, on this slide, we provide an update on to our GBP hedging status for 2015, 2016, and 2017, including sensitivities for a $0.05 and $0.10 downward movement in the exchange rate, compared to our budgeted rate of $1.60.

As you can see, we continue to be fully hedged for the remainder of 2015 at an average rate of $1.58.

For 2016, we increased our hedge percentage from 72% at the end of the first quarter to 90% today, at an average rate of $1.61.

We also continued to layer in hedges for 2017 during the quarter, and we are now 40% hedged for 2017 at an average rate of $1.62, up from the 20% we reported in the first quarter.

You can see from the sensitivity table that there is basically no exposure for the remainder of 2015, minimal exposure in 2016, and about $0.03 of exposure in 2017, if the average hedged rate on our open positions is $1.55.

Also on this slide, we have updated our RPI sensitivity.

As we discussed last quarter, under the RIIO methodology, our revenues for the 2015-2016 regulatory year were set using a 2.6% inflation rate.

Our revenues in 2017 and 2018 will reflect a true up for the actual inflation rate for the 2015-2016 regulatory year.

Current RPI forecasts using the HM Treasury forecast of the UK economy would suggest the 2015-2016 inflation rate of about 1.8%, compared to the 2.6% included in our revenue.

We are providing a sensitivity for 0.5% downward move in RPI for the 2015-2016 period.

RPI forecasts for 2016 and beyond continue to be either above or at our assumed 3%.

RPI affects three primary drivers for WPD: our revenues, our O&M expenses, and the interest expense on index-linked debt.

For 2017, since this is the first year we see the RPI true-up in revenues, a 2015-2016 RPI of 50 basis points below our budgeted rate, or an RPI of about 2.1%, would have a negative effect on earnings of about $0.02 per share in 2017.

As noted in the footnote, we updated the sensitivity to include the partial O&M and interest expense offsets in the sensitivity.

Let's move to slide 20.

As Bill mentioned earlier in his remarks, we have announced an increase in our common stock dividend to $1.51 per share on an annualized basis.

We have received several questions regarding our ability to fund and continue to grow our dividend during this period of high CapEx spending.

We're providing a new disclosure this quarter, which presents how we view our domestic cash flow picture.

We start with our domestic cash from operations, and subtract the domestic maintenance CapEx as represented by depreciation expense.

We then add the cash distributions we received from the UK, and as you can see in the table, we have sufficient domestic cash flows to fund our maintenance capital and the common stock dividend.

So the debt and equity issuances in the US are funding our domestic growth CapEx and ongoing debt maturities.

From a cash perspective, we believe this is the appropriate way to look at it, since the UK is a completely-self funding business.

Before I turn the call back over to Bill for the Q&A, I'd like to reiterate Bill's comments that we're confident in our ability to achieve our stated 4% to 6% earnings growth target through at least 2017.

This growth directly reflects our robust capital expenditure plan, combined with very constructive regulatory structures, at significantly reduced regulatory lag, driving an expected 8% to 10% EPS growth at our domestic utilities.

That level of growth, combined with lower corporate and other costs, which will add an additional 2% earnings growth over this period, more than offsets the relatively flat earnings growth profile expected from the UK during the period.

We continue to believe the UK is a premium jurisdiction, given an 8-year rate cycle with revenue and RAV indexed to inflation, and an incentive-based model, that given our historical best-in-sector performance, provides us the opportunity to continue to earn very strong ROEs in the UK, expected to be in the mid-to-upper teens through 2017.

We also believe our common stock dividend is not only very competitive, but very secure and poised for future growth.

That concludes my prepared remarks and I'll turn the call over to Bill for the Q&A period.

Bill?

Thank you, Vince.

Operator, we are now ready for questions, please.

(Operator Instructions)

Daniel Eggers, Credit Suisse.

Thanks for all the updates today.

Always being a little bit greedy, you talk about through at least 2017, when we look beyond that, the UK should be through the transition period, as far as the normalization of incentives.

When we look at the US utilities, how do you think about the growth, and I guess with CPP coming today, how are you starting to think about layering that into your capital budgeting?

With the Clean Power Plan just being released today, obviously we're going to need a little bit of time, as I think you are, to look through what this all means, but I think as you noted in your note this morning, I think it does support potentially higher CapEx for the utilities segment, generally speaking.

And I think the pieces that I've read about the Clean Power Plan are pretty consistent with what we would have expected.

I think in Kentucky, we'll need to study it a little bit more closely, to see what the impact on our Kentucky operations might be.

I think going beyond 2017, clearly we're going to look to incorporate whatever we may need to do, to respond to the Clean Power Plan.

And I think in PPL's case as I indicated in my prepared remarks, we do have the Compass program or project, which is obviously a fairly large chunk of transmission spend that potentially starts to come into our capital plans post-2017.

So we'll continue to monitor that specific project, and any other transmission projects as we go forward.

So I think those would be the key drivers, Dan.

Bill, thinking about the CPP, and I know it's early, but what dialogues are you having with the states, particularly in Kentucky, and how are you planning to work with those different states and try and devise plans, to work with them to try and meet what the EPA's laying out from a goal perspective?

Sure.

Relative to Kentucky, I'll ask Vic Staffieri to give you more color on that.

Go ahead, Vic.

Yes.

We have been meeting with the state, as have the other utilities, to try to develop a program that best accommodates the earlier draft of the CPP.

We now understand that a new one is coming out today.

There may be some stricter requirements.

I'm confident that we'll go back to the Commission and work with them to find a way that meets those requirements, and in the best interest of all of our stakeholders.

I think we have in place the regulatory structures to allow us to recover the costs.

We were looking at a power plant that we were going to put in place in 2018, we've delayed that a little bit.

We know where we want to put it.

We know where the transmission would be, and those are some of the options we would look at.

We have a very favorable DSM program in recovery, if we have to accelerate that, we can.

I think we have the regulatory tools to accommodate it, but until we see the final requirements today, it's hard for us to comment definitively, but we do have a good relationship with our Commission.

We have been working on putting in place a program to accommodate the previous draft of the CPP, and I'm confident that we'll work again once we get these final regulations out.

Great.

Thanks.

One last one on the UK performance.

Obviously, you guys keep doing better each quarter than probably we were expecting, or given where guidance has fallen out.

Can you give a little color more holistically as what's going on in the UK, that allows you to keep exceeding expectations?

And are you set up in a way where you're going to do better than this normalized flat growth over the next couple years?

Rick, why don't you take that question?

I think overall, Dan, the UK continues for us to be a tremendous success story.

I think you've seen us consistently outperform, and obviously, we believe we're the best network operator in the UK.

And clearly our integration of the central networks went exceptionally well, and really was just flawless.

So Vince commented that we believe it's a premium jurisdiction, and it's going to help -- it's really going to help bring cash back.

It's going to help fund our domestic growth as well, and support the dividend.

So in terms of outperformance going forward, maybe Rick, you could talk about some of the things that might drive the outperformance as we look to the future?

Bill, as you mentioned, the outperformance, especially in customer service, customer reliability, and we had announced in the last Q1 earnings call of $130 million of incentive revenue that resulted from our performance for the regulatory year ending in March.

This year though, as you look at our outperformance, we had also discussed in Vince's remarks that in Q1 we did talk about an asset life extension.

We had a major engineering study that we had performed at the end of our last regulatory period here.

As we head into RIIO-ED1, and as a result, we did extend the asset lives of a number of our assets.

And so the 2015 outperformance, and the reason we can increase guidance for 2015 was really driven by the lower depreciation expense than what we had expected or planned for, for this year.

Got it.

Thank you.

Julien Dumoulin-Smith, UBS.

Perhaps first quick question here, where do we stand on synergies and parent cost guidance after the spin here?

I suppose that's a first consideration.

And then in tandem with that, I'd also be curious, given the charge today, how do you think about tax benefits and ability to bring back cash from the UK to the consequence of the charge as well?

How does that play into your tax planning, if you will?

Sure.

Let me start, and then I'll ask Vince to supplement my comments.

I think first on the corporate shared services costs, or what we've called dissynergies at the spin transaction, we've done an excellent job of identifying how we were planning to reduce many of those shared services costs that otherwise would be stranded, and we're well on track, if not ahead of plan on that.

We're actually looking at opportunities for additional synergies or cost reductions as we go forward.

So I think we've done a really great job of addressing what could been a drag on earnings.

And as I mentioned in my initial remarks, part of the growth domestically that we're going to see comes from corporate shared services costs coming in lower than we had originally expected.

So with that brief bit of background, maybe Vince, you want to put some more details around those two questions?

Sure.

So Julien, let me cover your tax question.

So the spin, as I think you know, was designed to be a tax-free spin.

So the $875 million loss was a pre- and post-tax number.

There was no tax consequence of that.

The whole thing was treated as a tax-free transaction.

So really, no impact on our future tax position.

I think extending bonus is probably the biggest item that would favorably actually impact our tax position going forward.

Great.

Thanks, Vince.

Perhaps a second detailed question here, as you look at your FX hedging program, you've obviously shifted the contango -- or perhaps the contango that's emerged in your hedging program for FX.

Can you talk to that?

Basically, in the quarter, did you shift hedges on FX, or is this really just what arises out of organically layering in FX hedges against each of the respective years 2015, 2016 and 2017?

We did, Julien, we did shift some hedges from 2015 out into 2016 and 2017.

The total impact for 2015 is about $0.035.

Got it.

And would it be fair to say that's pretty similar to what the uplift is in subsequent years?

It is.

Yes.

Okay.

Great.

Well, thank you.

Greg Gordon, Evercore ISI.

Just a quick follow-up on Julien's last question.

Essentially the way I think about the hedge disclosure is you're doing well enough this year, in terms of meeting your earnings guidance, that you were able to raise the lower end of the guidance range, while still moving some of the -- moving essentially some of the benefits of hedging out a year?

Is that right?

That's correct.

That's good.

Great.

The second question is, as I think about the slide where you talk about cash sources and uses, you give us a projection for 2015.

If I look at that going out into 2016, it is right that the cash flow being repatriated back from the UK rises to between $300 million and $500 million?

That's correct.

Fantastic.

Finally, the --

I'm sorry.

Rephrase the question?

But you've got page 16 of your cash repatriation guidance for the UK regulated segment?

Has cash coming back going from $290 million to between $300 million and $500 million?

Oh, yes.

So all I'm saying is you show $290 million on the slide associated with cash coming back from the UK on that new cash sources and uses, on page 20.

And that goes up to somewhere between $300 million and $500 million if I go out to 2016 to 2018?

It does.

I would expect the next few years to look, if you look at that cash available for reinvestment line at $250 million, I would suspect it would be around that level, improving a little bit over that period.

Don't forget we also had net about $130 million that we received from supply.

So that will go away in the 2015 number, and that will be replaced by the higher dividends from the UK.

Okay.

Got it.

Great.

Okay.

Thank you.

My final question is, the CapEx and rate base forecast through 2019, just want to be clear, does that include or exclude this potential Compass project in Pennsylvania?

That excludes it, Greg.

It's not in there.

Okay.

Great.

Congratulations on the quarter.

Thanks very much, Greg.

Appreciate it.

Paul Patterson, Glenrock Associates.

My question's been answered really, but could you go over again what happened in terms of the charge associated with supply?

If you could break it down like, what exactly is causing it to -- what's actually driving that?

If you could break it down in layman's terms?

Sure.

I'll let Vince take that one.

Good morning, Paul.

What happened was, we need to do an estimate of fair value at the date of spin, and then compare that to the book value.

And what we did was, we used a combination of three different valuation methodologies, basically two market approaches and one income approach, which is a discounted cash flow approach.

One of the market approaches was the use of the Talen market value of their equity as of the spin-off date, which was the last date, as you know, of their when-issued trading period.

And so that number, and we weighed it about a 50% weighting to that, because it was publicly available information, and that was a lower number than we were expecting to end up at the end of when-issued, so that I think drove some of the decrease in fair value, say since year end.

And then just power prices have come off in PJM.

So I think when you look at the DCF, that was lower, and the market approach was lower than what we were expecting combined, resulted in about a $3.2 billion fair value against a $4.1 billion book value.

Okay.

Great.

Is that pretty much over?

We shouldn't expect anything going forward on this?

Yes, that's it.

Thanks so much.

Gregg Orrill, Barclays.

I was wondering if you could talk a little bit more about the payout policy?

As you look out into 2016 and beyond, I know you've talked about getting below a payout of the US businesses and the cash flows from the UK.

How are you looking at that, going forward?

Are you, just to be clear, Gregg, are you talking about the dividend payout ratio for the total dividend or just the dividends coming back from the UK?

Really, the dividend policy.

2016, 2017, et cetera.

Where we sit today in the 65% to 70% range is, I think, a comfortable range for us to continue to be in.

So I think as Vince and I have stated in the past, we'll continue to look for opportunities to modestly raise the dividend, particularly as we're going through a fairly large CapEx spending program.

And post that large program, look to see if we could enhance it even more.

But I think where we are, in terms of the dividend payout ratio today, is fairly consistent with our new peer group, and we're fairly comfortable with it.

Great.

Thank you.

Keith Stanley, Wolfe Research.

One quick clarification on the asset life extension and depreciation change in the UK this year.

I think it was a $0.10 benefit for this year.

How much of that benefit was in your initial 2015 guidance, and is it fair to assume it's fully baked into the updated guidance now?

There was $0.10 year-over-year that represented about $0.06 better than expectation.

And yes, we have -- that basically continues going forward, so that is in our updated guidance.

Okay.

So the $0.06 increment from the initial guidance to the updated guidance?

Yes.

Okay.

Thank you.

Neel Mitra, Tudor Pickering.

I had a question on the ROE in the UK.

You mentioned that's it's roughly 15% to 18% through 2017.

What's your overall target, once the UK earnings start to grow off of the 2017 base for that ROE?

Well, go ahead, Vince.

I'll let you take a stab at that one.

Neel, when you say target, where do we think ROEs are going to be in the middle of RIIO?

Yes.

After you start growing there again, since I guess there's three years of flat earnings there?

Yes.

I would say we stay in the low to mid-teens out through 2019, would be our expectation.

I think we're going out a little too far even at that level, to be honest with you, to give you ROE projections, but still quite healthy ROEs, I would say, even throughout RIIO.

Okay.

Is 2017 the last year of flat earnings you start growing off of that base?

Or should there be further years out where there's flat earnings?

I think on the previous calls, we've really just talked about it being flat earnings through the 2017 period.

And beyond that, beginning in 2018, we'll assess as we go forward.

Obviously a key in terms of earnings for bringing back to the US is going to be what the FX rates are, the RPI, there will be a lot of other moving factors that could help or hurt the projection of earnings per share coming from the UK, so I think it's a little early to make any significant projection at this point.

Got it.

Last question, with the RPI, if that were to come down, would there be some pass-through with lower O&M costs from your side?

Or are you guys managing the business as efficient as you can right now?

We're always managing as efficient as we can, but I think to the extent that inflation is driving the RPI down, that could have a ripple effect, a positive ripple effect on our cost of maintaining the network through lower contracted costs, for either labor or materials.

So yes, it could have a potential offset.

And that's not included in your sensitivity?

No.

We updated the sensitivity to include all three components.

Okay.

Great.

Thank you.

Brian Russo, Ladenburg Thalmann.

Referencing slide 5 and the pie chart with the capital recovery, and earning on investment, does that imply that you have a high level of confidence that you can earn your allowed ROEs?

Or is there any sort of structural lag that we should incorporate in our outlooks?

I think with the regulatory mechanisms we now have in place in Pennsylvania and Kentucky, our ability to earn near the authorized levels is greater than it's ever been, quite honestly.

And so I think the regulatory lag is minimal, probably, looking forward.

And I'd also point to the fact that in both Pennsylvania and Kentucky, we're using forward test years, which is the first time we've done that historically.

So I think those, combined with the regulatory mechanisms that we have, all would suggest that we should be able to earn near the authorized levels, with pretty minimal regulatory lag.

So after the conclusion of the current pending Pennsylvania rate case, and with the recent Kentucky rate case outcome, do you think you could stay out for a few years, given the mechanisms you have in place?

I think in Kentucky, probably not, because number one, we're going to have to comply with the Clean Power Plan, as we talked to earlier on the call, which probably will drive some different decisions that are not incorporated in the plan today.

In Pennsylvania, that potential, depending on the outcome, how strong the outcome is of the current rate case, would be a possibility, but until we get the outcome from the rate case, it's hard to tell at this point.

Lastly, can you quantify the lower amount of depreciation at UK year-over-year?

Yes.

We indicated it was about $0.10 per share year-over-year.

For the full year, on a full-year basis.

Okay.

Got it.

Due to the asset real life.

We are continuing to spend CapEx in the business, and so there is higher depreciation resulting from our additional spend, but just due to the engineering study that resulted in the asset real life, that would be about a $0.10 per share year-on-year change.

Okay.

Lastly, and forgive me if I missed this earlier, but what's the total potential upside of, on an annual basis for performance incentive revenues in the UK?

We indicated what we have built into our plan at this point.

I believe we laid those numbers out on the last call.

And if you go to slide 9 in the deck, you can see there, for 2015, it's $125 million, 2016 it's $120 million to $130 million, and 2017 $80 million to $100 million, and 2018, $60 million to $90 million.

So the upper ends of those ranges would be our expectation of the upper end of the outperformance.

It's not necessarily the maximum, but it's our guesstimate, if you will, at this point, or our best estimate of the ranges that we will likely fall into.

Okay.

Great.

Thank you very much.

No problem.

Okay, well thanks, everyone for joining us today, and appreciate the questions and look forward to speaking with you on the next earnings call.

Thank you, operator, as well.

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