Essential Utilities Inc (WTRG) 2007 Q4 法說會逐字稿

Thank you for standing by.

Welcome to the Aqua America fiscal year 2007 earnings conference call.

Today's conference is being recorded.

At this time, it is my pleasure to turn the conference over to Kevin Brophy.

Please go ahead.

Thank you, Duane.

Good morning, everyone, and welcome to Aqua America's fourth quarter and year end 2007 earnings conference call.

If you did not receive a copy of the press release, you can find it by visiting the Investor Relations section of our website at www.aquaamerica.com.

There's also a live webcast of this event available on the site.

Presenting today is Nicholas DeBenedictis, Chairman and President of Aqua America, along with David Smeltzer, the company's Chief Financial Officer.

As a reminder, some of the matters discussed during this call may include forward-looking statements that involve risks, uncertainties and other factors that may cause the actual results to be materially different from any future results expressed or implied by such forward-looking statements.

Please refer to our most recent 10Q, 10K and other SEC filings for a description of such risks and uncertainties.

During the course of this call, reference may be made to certain non-GAAP financial measures.

Reconciliation of these non-GAAP to GAAP financial measures are posted in the Investor Relations section of the company's website.

At this time, I would like to turn the call over to Nick for his formal remarks, after which we will open up the call for questions.

Thank you, Kevin.

Good morning, everyone.

The -- we'll start with a broad overview and get into some specifics regarding the year end quarter.

I would characterize '07 and a good year, not a great year.

Despite a rapid slowdown in (technical difficulty) the second half of '07, provides us some of our organic growth towards our 4% goal.

Somewhat erratic weather this year.

Good weather in some of the states, heavy rains in Texas, great weather (inaudible) was declared in Texas (inaudible) North Carolina, Florida, which cut sales where we had an inordinate amount of maintenance with a colder than normal winter (technical difficulty), but the biggest disappointment that affected earnings and affected us and reorganized the rounds (inaudible) disappointing rate case in Florida that was somewhere between $0.02 and $0.03 to our earnings.

Overall we earned 71 versus 70, once again slowing dilution, net income was up 3%, with earnings up a penny 71 versus 70.

We slowed dilution down to now about 1.5% and we expect that to continue to go down as I'll get into later into the presentation.

The quarter was actually a solid quarter if you take out some of the what I'll call noise and this is a non-accountant speaking so forgive me but in '06 we had nearly two $0.01 gains that were one time, one was regarding our Texas rate case, and that was based on the fact that the ALJ decision came out in late '06.

The case is still not finalized but the preliminary decision came out and the accountants looked at what we were reserving and felt that the -- the revision of the estimates should be accounted for and that came about a penny, again obviously one time.

And the other was another penny that was a reduced (inaudible) because we switched the way we did insurance from a quarter to a quarter to a more levelized system so there wouldn't be as much variability and that actually added a penny and we looked at the reserves we had already accumulated.

This year, we had a penny for the fact that we sold an investment—we bought a company called -- invested in a company (inaudible) called—actually we invested in a company called Basin Water, we moved the money and they gave us (warrants).

They then did an IPO and IPO traded well above the warrant price, great price, and we decided to take that investment and they took that in the fourth quarter and that was about a penny and so you can add -- subtract two for one -- or one from the other and you will get a better feel, and so that (gives) a fairly solid quarter.

Looking at the year in general, our growth in customers was just shy of (20)% of the quarter.

Disposition of some property which I'll get into under a new policy we've adopted so not our normal 4%, not as rapid as it has been in our major acquisitions of the Heater, Florida Water, New York Water and AquaSource Company four years out of the last five but it was a year of digestion and we were just shy of 3%.

Our dividend was raised 9% because of some strong cash flow which we're seeing, EBITDA was up over 9%.

(Inuadible) And you'll see that is closely tracking the same -- (additions) we're making to our rate-base, basically we're about $2.5 billion in rate base and we're spending about $250 million a year in capital.

The disappointing area was expenses.

And across the board, I mean overall O&M expenses were up 15%.

Interest was up 15%.

Local taxes because of the New York acquisition, which obviously was not there the year prior, (and some rates in) other states, 36%.

And depreciation was up 17%.

And so, we had a lot of head wind in the expense side this year, which I'll go over for '08 and what we're projecting which is going to be much more contained.

Take the 15% in the O&M increases, over half of that 7.5% was from acquisitions, mostly New York Water.

1% was the write-off we had to take of legal expenses and rate case expenses in Florida.

Another 1% was accounting accruals regarding (inaudible) retirement in the Pennsylvania which will get back in rate case or we're asking to get back in the rate case and also the -- there were some other help and pension-type things that had to be trued up.

And the other was 1% of the expense increase because of an increased write-off in bad debt and I attribute that to not the economy as much as it is the fact that we implemented a new customer information system which basically now, requires us to automatically reserve a certain amount (inaudible) bills that are over a certain number of days and we had some of the states rendering their own systems, we used a lot more discretion before they would try to basically shut people off for nonpayment and this system was a little bit more automated and there is therefore there's always a washout of bad debt in the reserve side, we may re-collect it, when we start shutting people off if we find that out.

So overall I would say we had a -- that was our biggest challenge in -- in '07.

Now we had a lot of non-financial issues that I'd like to take two minutes and go over with you.

First of all, I mentioned earlier the organic growth being down considerably, about half of what it normally is.

And it all happened in the second half.

And I attribute that basically to the mortgage rates going up and the surplus of housing that was already built when the crunch hit.

We're starting to see an uptick in the existing stock and although prices are not as high as they were a year ago, that doesn't affect us because people buy water whether they pay more or less for the house.

And we're starting to see a little bit of recovery in the housing, new housing, based on the fact that interest rates are down, people are looking again and that the inventory is going down so the builders will start building again.

Obviously, going back to the building business and that is my assessment looking at numbers, you will have to talk to the (inaudible) to get a more accurate perception.

That's where we see it.

That put more pressure on the fact that the only way that you -- if you don't have organic growth to get to the 4% you have to do more acquisitions.

We had a flurry of activity at year end, is we did do 26 acquisitions.

And we did do (inaudible), as I mentioned, to the 3% range and so we're pleased with that.

And we do think that the slowdown in the economy, which also forces austerity on municipal governments with revenue slowdown, we think could open that door up a little more.

We did two municipal acquisitions in '07 and we're looking at more municipal acquisitions in '08 and remember, 85% of the market is all municipal.

We're -- we are a small 15% of the private sector of the overall water market.

The second thing that happened in '07 is we instituted a major customer information system.

As anyone who has gone through a major system change, we went from 35 separate systems in all of our regions and states to one centralized system.

(Inaudible) that you always double the estimate that the IS people tell you is going to happen and that is exactly what does happen.

It does -- we worked ourselves through it, I think we're beyond it.

Even our bad debt was up because the computer now kicks out the reserve versus discretion at the local, state level.

We had to ramp up expenses to fill up three call centers and have people get onboard and at the call centers during the transition.

The training of those people, getting more and more efficient but until they're more efficient, we had extra people and basically we had the typical growing pains which I think are now stable and we're ready for improvement and I think that will (inaudible) in comparison '08 to '07 but with a big comparison '06 to '07.

Again another solid capital spend, $236 million which, as I mentioned, is about 10% of our rate base.

We're going to probably up that next year to 250 plus based on the projects that we have in the pipeline now.

And the fact that we're seeing a lot more cash generation.

I mentioned earlier that our EBITDA was up over $300 million.

I'll get into that in -- and the fact that the new tax law which is called The Economic Stimulus Act actually gives a huge tax rebate for improvements made to water systems, and that is going to mean our systems and, therefore, re-light up our capital and the fact that for one year you will get a tax break and generate more cash.

If we take a look at where we are, I think that the biggest accomplishment on our capital spend in '07 is we completed all of the fixups that had to be done in the new system, small systems we bought from the former electric company, Elite and AquaSource where they had not fixed the problem therefore we couldn't (rule) for rates because the problems were fixed, in other words it be it (inaudible) arsenic, leaky INI system, infiltration in-flow on sewer plants, malfunctioning waste water and -- (inaudible).

We put a lot of money into systems and I can tell you that I'm very proud that we've now fixed them and at this point in time looking back five years and forward five years, obviously we've ramped up our capital spending from the mid-150s to now a quarter billion a year which we intend to stay at.

If you take a look at the mix of that, probably 50% five years ago was you have to do this to meet the current environmental rules.

In '07 30% of our spend is to meet compliance not only existing compliance but also the fact that we're trying to build in advance of the next set of EPA rules that will come into effect in two years and we're well on our way to already accomplishing that.

As we look forward five years I would estimate no more than 20%, probably closer to 10% of our spend would be for compliance issues, whether it be needed attention to the plant or--or fixup of some environmental rule that was just passed.

On the other side, (inaudible) pretty steady 28% of our capital spend growth meaning if you buy a system and it needs work or growth meaning that the system has grown to the point where you have to expand the water or waste water plant or build a new tank and that should -- that should go from 20 to maybe a little less five years out but we spend about 20% of our money on that this year.

(We) do that for 50% for infrastructure, infrastructure is probably 30% five years ago, infrastructure is pipes, tanks, things of that sort, meters.

That drops to -- that goes up, excuse me, to 50% in this budget, '07, and probably when you get to five years out, 10, 11, 12, it may be as much as 70, 75% of our spend and that is much less risky capital design-wise, fitting-wise, more standardized.

And it is also very discretionary, the EPA will not force you to spend the money but spending it is encouraged by the EPA and also encouraged by the regulators under the surcharge program I'm shouting.

I do not know what else I can do.

Are people having a hard time hearing me?

This is the operator.

It is just -- the MIC, if you would move it closer, it might be a little clearer, but we are hearing you.

Please proceed.

Can you hear me better now?

Yes.

Thank you.

Okay.

So on the capital side, I'm very, very pleased with the climate we've built, stable climate we've built.

And I think that bodes well for the future and for the controllability of our program going forward.

Now the next major thing we did this year, we changed out some people in our organization.

We built a whole new treasury department.

And I would say if there was one major accomplishment, this was our major accomplishment for the year.

First of all, we've -- we had a number of offerings, and in those offerings, S&P reaffirmed the fact that we had an AA- secured debt rating.

They said that our senior secured first mortgage bonds are one notch higher than the corporate credit rating, which would be an A+ and that we have a recovery rate of one-plus, which means that you are pretty sure of getting your money back if we borrow money from you.

The other, is our risk profile which ranges from a low of one to a high of ten for corporations, we're ranked at two.

So I think we're very pleased with the stability, especially for our -- our debt lenders, our -- our interest -- excuse me, our debt holders, the fact that we're secure and we're running this business in a secure way.

We had a -- an enormous year of refinancing to financings to get it started and to give you an example, this year we did over $205 million in new debt.

The average price using tax-frees, using low interest state loans came to 4.92%.

That allowed us to lower our embedded cost of debt on $1.2 billion, I think is our total debt now, from $5.72 billion to $5.58 billion.

And so we are clearly for the next decade or two in great shape from the standpoint for shareholders, and for ratepayers in getting a low interest rate for the 50% of our money that's invested in -- with debt on this capital.

We also assumed another $23 million in debt on the New York Water at 565, which isn't bad.

And our average -- this is the biggest part of the variation between seven and eight, we had $100 million always outstanding and an average balance during the year at our various states for short-term to carry the capital program.

And the average interest rate for '07 was 6.11 to carry that 100 million.

We have done two things: First, consolidate all those lines we are paying a lot higher rate with smaller lines in some in some of our smaller states, one line at the parent, we anticipate our cost being under 4% for all of '08, and we anticipate our average balance in '08 probably being in the $80 million range, we'll be borrowing less, having less on the line at a much lower interest rate and that should be a help for '08 versus '07 where we had such an increase in interest rates.

In '08 our borrowings at this point based on our $0.25 billion estimated capital budget and the cash that we're generating is -- basically we're taking $24 million out of Refi that is coming out at 6.5% average and we think we should be able to do better than that and we have another $80 million in tax-frees and regular ventures that we're going to borrow to support our capital program so you're seeing $100 million versus $200 million last year, obviously less interest rate risk.

We're very pleased with the status of our -- our program and of course the cash is helping.

We -- have -- I think we'll be up another -- I think we were up 9, 10% this year in EBITDA with some of the system sales next year.

Should have no problem beating that.

And this year we went up to $307 million of EBITDA.

The real story this year, however, was rates.

Both good and bad.

I mentioned Florida earlier.

That was a shock to us.

And of course a shock to our shareholders, because we had to take some writeoffs.

We've completely reorganized our rates department.

We have decentralized the rates departments so the presidents have much more responsibility in getting their rate cases filed and through.

We've brought in five new employees that are seasoned veterans, state agencies, other utilities.

And we've worked very hard as a team.

And basically had some immediate successes.

We've got a 70% rate increase in Kirkwood's division, which is about 10% of the state of North Carolina, a huge rate increase, but deserved.

Hadn't -- we hadn't -- Heater had not been in for rates there since 1996, so it's a pretty old rate case.

And also picked up -- already cashed in on $3 million worth of rate cases already -- that's an annualized figure in early '08, so we're already off to a good track.

On the other hand, we have $67 million in the pipeline.

These are major cases that have been filed and -- and of course this new team had to do all of this work over the summer to get them ready.

Most of them were filed late summer to fall.

We have the Pennsylvania case, which is our largest case.

New Jersey was filed in December.

And Sarasota in late August.

We have five cases filed in Illinois in -- late in the year, two in Ohio which are in the process.

And we're expecting two other major filings over the next couple months, 2Q in North Carolina and -- and Florida.

And, of course, we still have the decision in Texas, which we're hopeful will be forthcoming sometime in the second quarter.

And so you can see we have a lot of rate activity.

Now to put this in perspective, in our 4-7-10-5, 4% customer growth, 7% revenue growth, we usually say 3 to 4% in rate relief is part of that 7% revenue.

If you take the six -- new run rate of $600 million of revenues that we have, that would be $18 to $24 million and you can see we filed for $67 million.

So this is truly a slug in the pipeline, this is what we call regulatory lag.

We much rather would have spread it out over a number of years but it was impossible to do because we could not file the cases until we had all of the meters in place and all of the environmental problems solved and most of this back log are -- other than Pennsylvania, which is pretty steady every two, 2.5 years, has been in states where we had a backlog of environmental improvements we had to make.

So that's going to be our big task this year in rates.

And also the-- and also obviously the generation of cash and how to use that cash to support our big capital program.

The new item that we've added to basically our strategy, which will be ongoing now, when -- when we accumulated, we've (quintupled) in size in the number of customers in the last ten years and collected a lot of systems, although we say we've done about 200 deals, some of those deals included 50, 100, 200 systems so we have a lot of systems out there probably over 500 individual-type systems.

And not all of them -- of them are performing to the standards we want.

And we've listed some of those.

We're continually reviewing the portfolio.

We did sell one towards the end of last year, and I think it is a great microcosm example of why we would sell it.

We had a county willing to buy a facility where we had 13 or 14 small systems, all in one county, all on need of major capital and in a no growth county.

The county needed it for other reasons to accumulate their assets and they paid us a fair price.

We booked a gain which is in the numbers.

And it is one less major capital draw, major management attention draw without much in the way of future potential growth or future potential -- potential growth in customers or in net income.

Looking at a number of other ones like that, there are two in Illinois we're looking at and one that is in our 2 -- or, sorry, in our K and that is the Fort Wayne situation which we've been talking about for quite a while, a lot has happened on that in the last two months and at this point we have the north part of our system, which is about a third of our customers, has been taken by eminent domain, I guess you could call it, called a quick take.

We did sue and in settlement of the suit two issues, one, we're going to run it for the next three to six months under an interim contract to give us a steady transition period.

We have appealed the price that they -- the Fort Wayne government has given us $16.9 million for what they think the assets are worth.

We obviously disagree.

They've also agreed to allow us to continue as has the commission with a rate case which had been 100% request for both the north and the south.

We've revised that only to the south now, submitted that last Friday and asked for 75%.

Obviously the -- you can see the south was more profitable than the north and in need of less rates so that's good for our customers also in the south.

But it also means that we still have out there a finalization of the price in the north to resolve.

And then the two Illinois cases will probably generate in the neighborhood of 15 to 20 million of new cash that we will put right back into capital, but that means that we don't have to borrow it and of course some of that is equity and so some of it would be -- to reduce our future equity needs because we're getting equity from selling these systems at a profit.

So I think that is a major new issue, it's part of our program and I guess if this was a REIT that you were listening to they would be telling you that they were selling this building, buying that building and continually moving your portfolio around, I think you can think of it that way versus when we were a single state area we did not have that opportunity to look at it that way.

It was all or nothing.

So I think what we can control we are really in good shape on.

Our capital spend is now mostly discretionary.

We don't have any major environmental issues we're building for.

We're staying ahead of the curve with the EPA.

We're looking at the tax policies of The New Economic Improvement Act and trying to see if we can gain for the '08 time period if permitted for water utilities a major part of our cash needs.

That could be in excess of 30 to a -- maybe as high as $40 million.

We are -- I think expenses we have our compliment now is under control, we have the (inaudible) of our customer information system behind us and less inflationary risk, which nobody can predict.

I think our expenses are going to be back in the, you know, three to four range versus the four to five core and then 15 overall last year.

Our interest is going to be under control, depreciation will probably be up less than 10%, interest probably low single digits, and I think our organization and our systems are in place which all occurred during '07.

Now what is not under our control, it could be a major plus or a major minus through '08 and '09, '08 for weather.

So far a good start, main breaks last year at this time were 450, this year they were about 150.

And in '06 what we compared to the prior year they were only 75 and so you can see it had a big, significant difference in the weather this year.

And then, of course, success in the rate case.

That makes or breaks our numbers next year.

And the success of our acquisition and disposal program would mean a lot to our core earnings and our total earnings next year.

That's a pretty broad summary to answer any questions.

(OPERATOR INSTRUCTIONS) Our first will come from Heike Doerr with Janney Montgomery Scott.

Hello, everyone.

Can you hear me okay.

Yes, I can.

I'm hoping that maybe this is a question for Dave Smeltzer.

If we can iron out what the impact of the Fort Wayne condemnation would be on PT and E and revenue and operating expenses, what percentage, you know, of revenue we could see a decrease, how much the operating expenses were relative to the base, can you put some numbers around this for us, Dave?

I will give you a general answer and Dave can either give you a specific or call you back, Heike.

The Fort Wayne north system was losing money.

And so it tells you that we're going to do better without it until we got rates than before.

We had put a lot of capital in.

We were arguing over how much we owed them for the sewer disposals.

Because we used their plant for our customers.

The range was we told them we felt we owed them 300, they asked us for 2 million and we settled at 450 which was reserved.

So it takes a lot of those question marks out.

Now, so for '08 it is going to have a positive effect because -- we're basically getting money for an O&M contract which is break even at worst.

And we also don't have the losses incurred through '08.

On the other hand, if we had gotten 100% rate increase then it would have been making money.

But Dave will give you the specifics for '08 and really it is irrelevant for '09 because they've taken it and Supreme Court ruled three to two in their favor.

Yes.

I don't have -- don't have handy the revenues or expenses.

Okay.

But actually improves the results when that (inaudible) -- but I can get you those details.

Okay.

We can handle that offline.

And, Nick, maybe as a bigger picture customer growth question I know that the target had normally been 4-7-10-5, as the company gets bigger and 4% customer growth is difficult to attain, do we scale back and think maybe 3% or 2.5% is a more realistic annual run rate?

Well, it -- it is the IBM problem, although we're nowhere near the size of IBM, it is tougher it continues to grow on a bigger base.

But I'm still optimistic, Heike, that there's so many out there and I think that the new part will be the fact that municipalities are going to be tighter now and maybe be looking again at selling their systems, when interest rates were so low on tax-frees and revenues were coming in because of tax revenues and property tax increases they were less willing to look at, you know, where they should trim costs and of course that is one of the areas, asset sells would be one of the areas.

I do any that you are correct, if I'm wrong and the housing market stays in the tank for a year-and-a-half, different story.

Because, I mean, we did depend on a percent, the 2%, actually more in North Carolina and Texas, of our growth being organic growth.

So I'll answer it with -- if we can get the housing market back to where it was in, you know, even '06, not even the '05 peak, I'm comfortable with the four.

If it stays down consistently for a couple of years, probably will be tougher to hit four.

Okay.

That's helpful.

And one final question, when we look at the $250 million CapEx you expect to spend next year and now all of the cleaning up of the systems is taken care of, how does that break down regionally?

Well, regionally it is mostly in Illinois, Pennsylvania, New York, and North -- and New Jersey.

Ohio's pretty steady.

We have a plant to build in Ohio and some pipe but it is not excessive in infrastructure, although they do have a disk-type program, it's called (sick) in Ohio but if the place where the capital spend slows down is in the south because we've fixed things now and it -- there was an inordinate amount of capital spent in the south over the last three years that we're not getting any return on, and that's our goal.

Go in and get return in the south.

Okay.

Great.

Thanks for your help.

Our next question is from Jim Lykins with Hilliard Lyons.

Good morning, everyone.

Hey, Jim.

First of all with Florida, the rate case that you're going to file down there, would that be for the same amount as the one that you withdrew last year?

And I'm also wondering, I know there's been issues with the regulators down there, just curious as to whether you've been able to make any inroads with the regulators in that state?

Well, we did successfully -- I would say we have been in constant contact, and we're working with all of the parties this time.

Last time we had not touched base with everybody, meaning the people for and against this.

And we're at the very final stages in the withdrawal of the case.

It wasn't just as easy as just dropping the case.

We actually had to give refunds back, which was not an easy task with the new customer information system.

We also committed to public meetings and public phone calls, which we've accomplished, and now we're doing some town meetings which have been very helpful for us because we're hearing what's on people's minds and that all has to be done and that should be done shortly before the old case can be shut down.

We hired a person who actually came from The Florida Commission who's now our rates person in Florida.

He has given us a lot of insights and a lot of experience that we're going with.

And we think that we're going to come up with an acceptable rate plan when we file in the second quarter to come up with a way so we don't have 82 different systems we have to file for each time, which would make investment in Florida very difficult because the accounting and administrative costs overwhelm the great case needs for, you know, service and for capital needs.

So we're a lot more optimistic and probably know a lot more this time around and it was about this time last year we were filing the case that was ill-fated.

And so we're a year behind in Florida.

Any your first question is what will we be asking for?

I -- I can't imagine it will be any less than last year because we actually -- that last year was 7 million, as we've put more capital in Florida.

We've put all automatic metering in and everything else so we can improve service to the customers, and we -- we could justify the 7 million last time and so I can't believe it would be any less.

I think probably before a final decision is made though, it won't affect '08's earnings, it will only affect '09.

Only '08 earnings, not '09?

We'll file it in '08 but it's going to take at least six to nine months, I do not know what the rules are in Florida specifically, how many months during a process they take but I can't imagine it having any effect on '08 earnings, so it is all back-ended loaded into '09.

Okay.

As are by the way many of these cases.

The 67 cases, the biggest one -- 67 million cases in nine out of our 13 states, the biggest being Pennsylvania, none of these would be actually coming to fruition before probably mid-to-late summer, most of them late in '08.

And so the biggest impact of this bulge that's gone through is still going to be late '08, early and mid- '09 for your quarterly modeling.

I mean it's you'll going to happen in over a year period but where it bulges in in the quarters, is all dependent on the litigation time period after you file.

And we can give you that separately so for your specific model we can tell you when to anticipate.

Okay.

That would be helpful.

Regarding acquisitions, I know that you mentioned something about some opportunities with municipals and -- and what you're going to need to do there to make up for the customer growth but I'm just wondering if you could give us a feel for what you are seeing out there right now and if you think that at least in '08 it will be similar to what we've seen historically on the acquisition front?

Well, we'd like to do fewer but bigger, because some of these systems have been very small and it takes a lot of work to do any of them.

You have closings and you have to go through the regulatory approval but you take them as they come because it is not like we can say we're ready to buy you now it is when they are ready to sell.

So it is not completely under our control.

But we just had a meeting with our corporate development department before our board meeting yesterday and they feel that the pipeline is full and they have this time a little bit larger and now sometimes they are harder to close but they are pretty confident that we can keep up the pace, like Heike asked about the 4%.

Usually that is 2.5, 2, 2.5% of -- of acquisitions and 1.5 to 2 every organic growth.

We're asking our team now to come up with over 3% so the bar actually went up.

So we need some bigger deals.

Okay.

And one last thing and then I'll let someone else ask questions, the Economic Stimulus Act that you mentioned, can you maybe give us some color and what you think the impact will be from that.

For your '08 capital spend in the water business if you are a private utility, a tax rebate for -- so 35% is our federal taxes, Dave, I guess?

Yes.

It is actually bonus depreciation.

Bonus.

Not unlike that that was enacted after 9/11.

So if all 250 would be eligible.

Yes.

Multiply 250 by 35% and that's the amount of cash we would get by not paying taxes.

Okay.

250 times the 15% bonus depreciation then times the 30%.

Oh, I'm sorry.

And that would only be reduced by some, you know, 30, 40, 50 million of the 250 that may be financed by the low interest tax frees and may therefore may not be eligible for the bonus depreciation.

Right.

So if it is 250 you would multiply 250 times 50% times 35%?

-- so 125 by 35 and so you can see it is pretty healthy though, it is 30, in the 30, $40 million range.

Okay.

The fact at that we're generating more cash with the EBITDA really means that we'll be able -- and, Dave, that -- because you are paying less taxes falls to the equity side, retained earnings.

It is not an income item.

Okay.

Just cash.

(Inaudible) in payment of taxes.

Okay.

Yes.

So we're -- we're seeing less need for equity too, Jim, in our analysis than we did a year ago at this time with the five-year plan.

Okay.

All right.

Thank you, gentlemen.

Our next question is from Tim Winter with Smith Moore.

Good morning, Nick.

Good morning, Tim.

Just a couple of questions on the O&M expense line.

You talked about a, you know, new computer system and three new customer information systems and kind of a washout with the bad debt reserve, can you quantify, at least to some degree, how much that impacted the O&M line?

Yes.

I can give you exact.

We'll call you back.

$1.7 million?

That was the bad debt.

Yes.

Bad debt was $1.7 million more.

But we also have to quantify the increased operating expenses year-over-year which we'll call you back on, Tim, of the new call centers versus how much we had to staff at the old and the -- the hidden dollar in there is the fact that we couldn't reduce the local staff until the new staff overlapped with them and -- and was trained.

And so here's the example, we had people in our (Canca Key) office, in our Danville office and in our -- in our Woodhaven office, in Illinois, we probably had 10 people, answering phones and we beefed up a call center in -- and it happened to be in Canca Key, one of our three regional call centers where we hired 25 people.

They're handling the whole country, all 13 states.

But we couldn't reduce the ten people that were local until the others got up and running and the system got up and running and so we had that overlap for probably two quarters which it will go away also.

Okay.

And then as far as this pruning process goes, did you take a gain on the Virginia sale and, if so, how much?

And what is roughly the price to book that you are selling?

That you sold Virginia for and what the $16.9 million represents as price to book?

Okay.

Well, let me start with the Virginia, because the 16.9 is Fort Wayne.

In Virginia we sold for a little under $1.5 million that was the purchase price negotiated.

It was 2.5 times our book value, if not more, almost three times.

And therefore that difference after we expensed the lawyers and all that was put as part of the way the accounting system does it is you take it as a, what, deduction from O&M.

Yes.

Since it's a sale of an operating asset it needs to appear in the operating section of the income statement up top and since it is relatively immaterial we incorporate it as the deduct in line of O&M expenses.

That's about 2.5 times book.

Okay.

So it's not on that item on the press release that's gained on sale of other assets?

No, it's not.

That's the security sale.

All 2.5 million of that is Basin Water?

Basin Water, yes.

Okay.

And Mr.

Winter, any follow-up question?

Right.

And then Fort Wayne --

Oh, Fort Wayne, the way -- because we're still in court debating what the final cost is.

Right.

It's impossible to book the gains.

I can tell you the $16.9 million covers our book value and we think it's worth a lot more.

Okay.

And can you give any kind of time frame?

I mean, could this go on for years?

The court, the Supreme Court ruling was about six months in waiting for the hearing, (inaudible) the briefings, and then it took them a year to rule it three to two.

This is not a Supreme Court.

This will be an Allen County court.

But if either party, us or Fort Wayne disagrees with that court, then you have access to the Supreme Court.

So I cannot tell you what the final is going to be settled, whether we'll both agree with what the jury says, the judge says so, you know it is a guess.

I would argue probably a year though.

Okay.

Thank you.

Our next question is from Steven Gambuzza with Longbow Capital.

Good morning.

Good morning, Steven.

If you were to receive 100% of your requested rate relief that you have pending right now, just curious if you could give me some approximation for how much would flow through in '08 based on the timing of expected decisions?

Well, it would be half of Pennsylvania.

You want 100%.

Just, like, if you've got the amount that you referenced in the press release.

Sure.

67.

I would say 40 of it, be half a year, 20.

And 65% of 20 would be 12.

And so 12 million in top line revenues.

Okay.

Is that -- so is that just for Pennsylvania or is that the total amount.

12 million in net income, Dave, because I already took the 35% off.

Yes, you asked for 100%, Pennsylvania we asked for 40, assuming we get it sometime this summer, I just made the broad adjustment, half a year, and since all the expenses that we asked for are already been expended there's no more expenses when we get the case so it falls on the bottom line of today's run rate.

Okay.

And what about the other $27 million of rate relief outside of Pennsylvania.

New Jersey we probably won't see until late fall, maybe winter, and so maybe a month.

New Jersey's filing was for $7 million.

And the Illinois ones are due in 11 months, filed in December.

And so they won't be out until November.

And the Illinois ones totaled about $4 million.

Takes one month, 4 million times 35% off for taxes and that goes to the bottom line.

(It's just, you know,) going to roll into next year for 11 months then.

Okay.

That's how it works.

Now most of this revenue from REITs are going to really come a little bit -- not a little bit, a lot, half a year of Pennsylvania is a lot for us but the rest is all going to be really back end loaded into '09 with the two big cases still to file in Florida and North Carolina, definitely won't show up in eight.

They will all be in nine.

Okay.

And I was just wondering if you can comment on the outlook for O&M expense in '08.

I think that you mentioned that you expect some moderation, back towards the three to 4% growth rate.

I'm just wondering if you can make talk about risks and opportunities associated with that given, you know, the potential opportunities to do better or given the inflation trends that everyone in the industry has been feeling broadly where some risk to the upside might be?

Yes.

Well, the risk to the upside is more people needed than what we've said.

We think we're going to be flat to down in number of (inaudible).

This year we were up considerably based on what Tim Winter asked me about, which was how many people did we add for the customer service and in our IS department, so we'll get you that.

But that should not be -- and that's the biggest part of our factor.

I mean, people is 40% of the budget, O&M budget.

Healthcare we've locked in pretty good rates for all of '08, so there shouldn't be a major increase in that, maybe 3, 4%.

And we've had people pay to their benefits which is not normal in the utility business but to cut back on the -- moderated the increase.

Pension is hard to figure at this point.

That's really based on how well the stock market does.

But, you know, at this point pension could be -- could be good, could be bad.

We already are putting money in each year for expensing pension increases.

Insurance is always a risk will now we're on an accrual basis for a rolling 12 moments so it won't be as radical quarterly.

We don't have any major litigation that we've noted in the K but we have trip and falls every day, that kind of thing, a car accident, you know, something like that, what it could be.

And then power.

Texas is very volatile in power prices.

Obviously we're big power users everywhere.

Most of the states we've figured increases.

And on the positive side, as we sell these systems I think you'll see that those systems have higher expense to revenue ratios than the systems we're keeping.

So that could be a moderating force.

The $250 million of CapEx and those--I'm shifting gears from talking about CapEx versus the operating costs but I would imagine that a substantial portion of that is capitalized labor associated with the pipe refurbishment and other activities.

Is that fair?

That's fair.

We try and keep that pretty steady, so it's not one that -- as long as the total spend is steady, the amount of capitalized labor is steady.

I don't know what the exact percentage is, probably in the teens but, yes, we use our own workforce to do some of the work on labor which means that their labor gets capitalized on that project and then it is recovered in the next rate case.

Okay.

Thank you very much for your time.

Our next question is from Ryan Connors with Boenning and Scattergood.

Good morning, Ryan.

Good morning.

Yes.

I wanted to go back to the topic of CapEx budgeting for a minute and just kind of more conceptually get your thoughts on the strategic outlook for capital deployment.

You know, you talked, Nick, about this analogy of with the REIT where you are now sort of in a mode where you are evaluating and prioritizing among your different assets and territories, and what I'm wondering is in some of the states where there's at least some uncertainty as to whether you can get a decent return on capital in a timely fashion, how do you manage the process of capital deployment there as it pertains to capital improvement projects.

In other words--

Great question.

In theory, you would want to invest where you know that you can get a good return and you have good confidence that can you do that in a timely fashion and so do you hold back on some of the more proactive projects in the states where you have concerns about the regulatory climate?

As of '07, your answer is yes, and that was one of the issues both with our new computer system and with the reorganization of rates and spreading the responsibility of trying to tie your capital spend into what you can recover in rates and putting that responsibility on the president of that state, i.e.

measuring ROE's so you don't get too much lag was a major organizational shift that we made.

Dave now has a program that -- we call it The CWAC Analysis what does that stand for, Dave?

Can We Afford the Capital.

Can We Afford the Capital on every system that has a rate base so that we decide, okay, you want to spend this money as part of the 250, when will you get the money back and what kind of rate case will it need, and if it doesn't seem realistic, we cut back spending.

And so in some of our states for the -- there has been a shift in the '08 capital budget, although you are seeing the same number, 250, that we told you about for a couple of years, more of it has been shifted to states where we are ready to go in for rates or states that has a surcharge program.

Okay.

So when you look at the states that you laid out where there is going to be a lot of spending, PA, New York, New Jersey, Ohio, those seem to be states where the regulatory climate is fairly favorable so you are saying that that is not a reaction to some of the issues that you are seeing in the south.

It is more just that the improvements have been made in the south and there is not a lot more to do there.

Both -- because I will tell you the engineers in the south have plenty of projects for us.

Right.

I'd say, and not Ohio it is Illinois where we're putting the -- more money.

The south has fixed their immediate problems where -- whether we can get it back in rates or not, we have to spend the money, because the environmental agency would have sued us and service was down and now we're into more the discretionary phase where we're now saying we'll give you the latest spend if you can show that you will get quick return and the regulators want you to do this.

Okay.

That's helpful.

Thanks.

Okay.

And we do have one question remaining it is star 1 for an initial for follow-up question.

Our question is from Ajay Jain with UBS.

Hi, good morning.

Maybe I'll address my first question to Dave.

Could you just confirm how much cash you have on hand right now and what the remaining proceeds are on the -- the forward purchase agreement, how much of that is available for you to draw down on at this time?

Yes.

Cash at the end of the year you will see on the balance sheet when we file today is about $(13) million and the funds restricted from construction activity, which is the undrawn portions of the tax-free debt that we've issued in the last year or so is about $77 million.

Okay.

So.

We expect to bring a large portion of that down during 2008 as part of our financing.

Okay.

So on that basis, and I guess taking into account your CapEx budget for this year, I mean, do you feel like you may need to raise any additional equity in 2008?

I mean, can you comment on that at all?

Well, we -- we don't have any new equity planned for 2008, other than the standard equity that we bring in as a matter of course with our drip program.

Okay.

This is Nick.

We may look at all the alternatives provided under that forward equity provision because you know that is such a flexible provision.

It says that, you know, could be put to us this August.

We don't have any feel that that's the case but it also gives buy back provisions and everything else and obviously the value of the stock that UBS is holding in our account is, what, $23, $22.30 which under the current market conditions we're in the money, I guess you could call it.

Got it.

Okay.

And Nick, can you give any more specificity on some of the drivers behind the revenue deceleration last year in '07?

It looks like sequentially the top line growth decelerated pretty consistently each quarter and obviously, you know, you've got the regulatory setback in Florida and you talked about the impact of housing and erratic weather and I know there are always a lot of moving parts with the results but are there any major issues based on what you are seeing in terms of underlying consumption trends?

Yes.

The acceleration, you are looking at the slope of the increase more than the total so let me qualify it that way.

Your acceleration was more in the first half than the second half because Pennsylvania got their rate case in June or July or August I guess it was of '08 -- excuse me, '06.

So your first two quarter comparisons in '07 were huge.

11, 12% on our biggest state.

Add to that New York Water, which was an additional 8%, 7% right off the bat, New York Water we did a run rate of $23 million in revenues on a 500 base and there they were heavy in revenues up till the fourth quarter, so that was one of the reasons for the decelerations in the fourth quarter.

The third I would argue is that the -- most of the acquisitions that we did came in very late in the year, so there was really no -- unlike other years where it has been a steady -- you know, you could average 4%, 2% over the whole year, we didn't have that advantage in '07.

As a matter of fact, we did not get Sea Cliff until probably -- I forget what it was, until mid-year and that was our biggest one and Manteno was late in the year.

It wasn't really as much comparison-- next year will be a better comparison than that.

Okay.

And just in terms of the situation in Florida, you know, assuming the discussions are back on track, and, Nick, you mentioned that '09 is your anticipated recovery period, I just wanted to clarify if there's a retroactive component to that or should we expect that the writeoff is basically permanent as it relates to '07 and '08.

Very seldom do regulators ever go retroactive.

They call it retroactive rate-picking.

We could argue it is fair but I do not think that you would get it anyhow so I do not think we're asking for it so I think that that is lost forever.

And just lastly, Nick, I think you mentioned in your prepared comments you characterized the tax provision as a little bit of a headwind and that was based to large a degree on Sea Cliff or maybe I misinterpreted -- but it looks like the tax rate was actually lower in '07 and it was materially down year-over-year in the fourth quarter to 36%.

Is there anything I'm missing in terms of the implications of --

How about the federal tax?

Federal tax.

Yes.

Maybe you'll have to help me with that.

Yes.

The federal -- federally enacted tax credit for the exact term escapes me right now, for the production credit, it was enacted a couple of years ago and at 3%.

And it doubled now in 2008.

So you'll find that -- the biggest chunk of the reduction in our effective tax rate is related to the doubling of the federal production credit.

Okay.

That's another cash generation for us.

Yes.

Okay.

Thank you very much.

Should go into the cash business, gee.

Our next question is from Selman Akyol with Stifel Nicolaus.

Thank you.

A couple of quick questions, if I may.

First of all, in terms of the revenue in the quarter, can you say how much of that was acquired and then, as well as O&M, how much of that was--

That was -- so the acquisition of the increase I think was 13% year-over-year.

55% was acquired.

Sea Cliff.

New York Water.

Manteno and the other small acquisitions.

But that's looking at '07 over '06.

I'm just looking at the quarter.

Oh, for the quarter.

I can't -- I'll have it get back to you on that.

Do you have for the quarter?

9%.

Most of the quarter, and this is what I said earlier, the rates really didn't really help us in the first half of the year, for the quarter, revenues were 9% or $12.2 million.

7.6 of that was acquisitions.

Okay.

The bulk of it was acquisitions.

New York Water and Sea Cliff.

And then the other 4 or so million was rates.

And when I looked at the O&M line, how much of that was up due to the acquisitions?

O&M, O&M, O&M.

It was $8.7 million.

Acquisitions were well over $3 million of that.

Insurance was $1.8 million.

It (inaudible) that was the big hit in the fourth quarter.

And post retirement benefits were a million, which was the one I mentioned, we'll get it back in rates in year end true-up.

Got it.

And then just one other question, you had North Carolina and Florida still to file, I guess, and that's part of the $67 million total.

Can you break those two out?

North Carolina and Florida are not part of the $67million.

Okay.

They are in addition.

And I'm going to say that Florida just from our last filing you can judge that it is a year later and we've put more capital in, expenses went up.

We felt we justified seven million last time so that would be the floor.

And on the North Carolina, I just don't have a number but I think it's high single digits, because it is a bigger state and we haven't been in for a number of years.

And we put a lot of capital into North Carolina so you figure seven, eight, nine million dollars.

I got you.

Do have you a number for Ohio?

Yes, Ohio will be -- we're negotiating -- we already got one rate increase in the first quarter.

That was 400,000.

We have the Lake County rate increase which is part of the $67 million, Dave, what's that?

$2.5million?

Three.

Three million and that's in final stages of negotiation now that hearing is-- matter of fact, the hearing was last night.

And the other one is -- is (stark) division, which we locally negotiate.

And that's probably about half a million to three quarters of a million.

So in total approximately $4 million for Ohio?

Yes.

Okay.

Thanks so much.

And our final question will come from Vishal Khetriwal with Stanford Group.

Nick and Dave, how are you doing?

Hi, how are you Vishal?

Doing good.

Just a quick question about the Fort Wayne system, the litigation, they are offering $16.9 million, Nick, what is the fair value according to you?

What is a fair value of Fort Wayne?

I think because of the litigation I -- the lawyers told me I'm only allowed to say -- I apologize, but I'm only allowed to say that it is more than our book value.

You see, we're going to be negotiating in court.

Okay.

And again the difference between book value and what you get, you know, after the litigation, will that hit the O&M line just like the (inaudible) systems or will that be a separate line item?

You would expect, Vishal, that any gains in the end of the Fort Wayne negotiations might be more significant than those gains which were realized in the past and, if so, we'd likely have a separate line in the operating section to break that out.

The gains historically have been somewhat immaterial and that's why they've been included in the O&M line.

Okay.

That helps a lot.

Thanks.

With that the -- I would like to turn the call back over to management for closing comments.

Okay.

I think that the turning program and all of the questions we've gotten we'll clarify more individually with you but it will be part of our ongoing story.

It's going to be generating cash and equity for the Company which means less need for new stock sales, which should be less dilutive in the sense of what's happened in the past and I think we'll try and clarify it on the accounting as Dave just mentioned so it's very clear as to what we bring in but I consider it absolutely as part of our ongoing business model now as to how we're going to achieve our goal of 4-7-10-5.

So I appreciate all your time it was kind of granular but I thought it was an important one since it was a year end call.

Thank you.