Essential Utilities Inc (WTRG) 2014 Q2 法說會逐字稿

Good day and welcome to the Aqua America, Incorporated Q2 2014 earnings call. Today's conference is being recorded.

At the time I would like to turn the conference over to Brian Dingerdissen, Director of Investor Relations. Please go ahead, Sir.

Thank you. Good morning, everyone. Thank you for joining us for Aqua America's second-quarter 2014 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 aquaamerica.com or call Alex Whitlum at 610-645-1196. There will also being webcast of this event available on our 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 risk, 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 10-Q, 10-K and other SEC filings for a description of such risk 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 the call up for questions. Nick?

Thank you, Brian, and thank everyone for attending. I'll just summarize. We had a pretty detailed press release that went out, and I'm going to summarize some of the high points.

We had another -- Aqua had another solid quarter, $0.31 versus $0.30 on 0.5% more shares outstanding. That's despite a very wet spring. We had 7 inches of rain above normal.

And as a matter of fact, Pennsylvania consumption was actually down slightly for the quarter. We don't often see that year-over-year downs.

Unfortunately, consumption patterns haven't really upticked and they continue below normal in July. We got our July flash numbers. And even though we are up against a bad summer in 2013, the good news, if we look for silver lining, is all our reservoirs are fall, which is very unusual for this time of the summer.

To compensate for the weather's constrain on revenues, management once again delivered on controlling costs with O&M for the quarter actually flat. You may recall that we had a pretty costly winter due to main breaks and O&M was up about 6% in that quarter. This quarter being flat we have lowered the year-to-date to 3% and we expect by the end of the year we will be down to 2% for the year.

No matter what metric you want to use to analyze efficiency, O&M to revenue, customers per employee, O&M per customer, Aqua has always been an industry leader. And this really allows us to keep customer rates low, which obviously the regulators like, and also provides more cash to invest in our needed capital.

Aqua's EBITDA to revenue, which is a good measure of this, is now in the mid-50s range and that is very healthy, we believe, from a cash generation perspective. And of course cash generation is important regarding our ability to record shareholders and yesterday our Board increased the dividend approximately 9% for the September 1 dividend to $0.165 per quarter, $0.66 a year.

And that is the 24th dividend increase in the last 23 years. And it makes our 10-year CAGR on the dividend a very healthy 8% compounded.

Despite the severe winter and rainy spring we are still on track to invest $325 million as we earlier stated in earlier calls. Our largest capital investment is of course in Pennsylvania where the 2012 Pennsylvania PUC order that approved the adoption of repair tax flowthrough really continues to benefit our customers. It now appears we will not be filing any rate relief in 2014 despite investing $0.5 billion since our last rate case was filed in 2011.

Our calculations show that we have saved Pennsylvania customers $70 million in rates to date. Recognizing the repair tax deduction through the flowthrough method is unique for a handful of utilities. We realize it was difficult for those in the investment community to understand when we first, because they weren't familiar with it, when we first reported it in early 2013 when it took effect.

I think the continuing measurable and long-term benefits of the Pennsylvania Tax Repair Program for both our customers and shareholders is now being positively recognized. As a matter of fact, on my recent European roadshow tour it was the number one issue that I explained to each of our large European investors, which are about 20% of our institutional investors. And I think they came away with a much better understanding of its long-term potential and benefits.

Now, thanks to our efficient operations, rate relief in Aqua's other seven states and the low embedded costs, which is now less than 5% of our $1.6 billion of debt, the Company continues to generate operating cash flow in excess of a very healthy CapEx budget of 3 times depreciation. So all of that is handled internally; therefore, we don't expect to issue any new equity. As a matter fact we have room for future dividend increases due to our continuing low dividend payout ratio.

In addition to our September 1 announcement of the 9% dividend increase, we are also buying -- in the midst of buying 685,000 shares that we previously announced -- and we are also open market buying all shares needed for our DRIP investments. Purpose being to eliminate future stock dilution -- shareholder dilution. And that comparison will start showing up of course in the letter quarters of 2014 but more importantly in 2015.

Quick update on our portfolio rationalization program, which has been hugely successful. By the end of 2014 this three-year program will have produce an extra $175 million in cash after taxes.

I'd like to report there are no remnant issues or tails from the Maine, New York or Florida transactions and the planned sale of our Fort Wayne water assets and the expanding role in serving Fort Wayne with wastewater services through the city's diversion of a portion of its wastewater operations to us over the next 15 years and paying the bill on that, which will help support the capital we are going to spend, it is proceeding very smoothly. We have a settlement agreed upon by the city council. It is now before the commissioners for their final approval and we hope to receive regulatory approval by yearend.

Assuming a positive review by the IURC, we should be able to close this transaction and book a gain in excess of $0.07 on top of our continuing operations, which most analysts are using for first call of $1.19 to $1.20. And that range is only depending if you take the Fort Wayne out of continuing and put it into discontinued for the year Fort Wayne used to earn about a penny.

Bright spot in this quarter's review is our increasing acquisition activity in both the regulated and nonregulated areas. In the regulated area we continue with our two-decade-old program of accumulating small water systems, many in need of major capital and operational improvements. And then confixing them and consolidating these small systems into our larger state operations for economies of scale.

We have done over 300 of these type transactions and 2014 will be no different. We closed on seven acquisitions so far. You read those in the release.

We expect to complete another 10 to 12 by yearend. And along with a slight uptick in organic growth we are not seeing major upticks in basic organic growth except in North Carolina, and especially in Texas. We should grow our customer base for the year 1.5% and that will be our best performance since 2008.

Interesting sideline of the acquisition activity is an uptick we are seeing in municipal opportunities which are usually larger in size and usually take longer to consummate because of the public input and traditionally are unique in how they are structured. Every city has a different understanding of how they want it to look in the future.

So in addition to five operative contracts, which is probably the easiest to enter with these municipal governments and we have done five new ones this year and have a couple more on the horizon, we are also working on some unique P3 partnerships where we not only operate the system but invest capital and get a return over 20 or 25 years with a regulated-like return. To date we have also closed two municipal deals, traditional acquisitions, Penn Township, a wastewater system in Pennsylvania and just last week, or this week, Sparta Township, New Jersey, small municipal system.

We have also been awarded -- it was a bidding process -- the sale of three municipal system so far in 2014 of larger size, Glenview, Illinois, which we talked about the last call; Mount Jewett, Pennsylvania; and Sussex Borough, New Jersey. Sussex still needs a voter referendum but all three still have gone through the regulatory approval process. Probably won't be effective in these transactions until 2015, so they will count in 2015's growth, which we are now projecting to be greater than 2%.

We really believe that the massive investment requirements now being recognized that are facing our nation's government-run water and wastewater systems is really driving municipalities to show interest in the public-private solutions to address this really growing problem. That's why we see a future in the medicinal market.

We have also been expanding our heretofore fairly small nonregulated water and wastewater services business. Although approximately 2% of our revenues, our Aqua Resources unit should hit $20 million in revenues in 2014 and that's going to be up over 30% from 2013. In net income, which is usually in the 6% to 7% after-tax range, should be up a similar amount.

We recently were the successful bidder on a $6 million wastewater infrastructure rehabilitation company, Tri-State Grouting in Delaware, that serves the Mid-Atlantic States. And we see excellent potential in this company and also more importantly for this whole business line.

So you can see that despite revenues being severely hampered by the weather management has been very busy to ensure our best-in-class operational performance while investing in numerous opportunities to ensure our future growth. Meanwhile, the Company, Aqua, remains a hallmark of consistency for our investors as the Company proceeds this year on a path to our 15th straight year of increasing earnings and our 23rd straight year of increasing dividends. Thank you and I'll take any questions.

Thank you. (Operator Instructions). Gerry Sweeney, Boenning.

And good morning, guys. I wanted to talk about the Aqua Resources side of the business and the Tri-State Grouting. But when you look at the business as a whole, I'm curious, what is the strategy going forward?

What do you want to grow that into? I'm not sure if that pipeline business falls under that category, then you have the Tri-State Grouting and then maybe possibly I'm not sure if the O&M contracts fall under there. But what do you want that to grow into and what's the vision for that business line?

Sure. The vision is to see it as a complementary function to the acquisition of municipal water and wastewater systems, chiefly wastewater. As we started looking at wastewater systems although there is less affinity to keeping the wastewater than the water for most municipalities, all of them are recognizing the need to cut back I&I to prevent -- I&I being infiltration inflow -- to prevent fines and also excess costs.

So we did a little televising. We do a lot of service work for pumps and lift stations and so on with Aqua Resources now. That's probably the most profitable and fastest-growing part of the line.

But it is limited by geography. People hire people who they know and are reliable because these are like we need this fixed this year type contracts.

And we found this company, which was very very successful but was capital and resource constrained. And the owners were willing to take a buyout -- a payout, excuse me -- based on the fact that they are very confident they can grow the business at least 10% to 15% a year, which of course makes it more profitable too.

So I would argue that at a minimum, 10% to 15% a year growth. We are looking at some other ones, Gerry, so that would expand it revenue wise more rapidly. But we want to make sure as we always are conservative, walk before we run.

We have been around 120 years. We are going to be around another 120 years. So we want to make sure what we're doing is successful.

The second part of your question related to the pipeline, the pipeline is a separately run business. We call it Aqua Infrastructure because it was an LLC and we wanted to keep it separate from this services-type business.

And although pumping is up a little bit over 2012, excuse me over 2013, we are still not seeing what we think is the maximum potential. We have built a pipeline that can carry 3 million gallons of water a day and we are nowhere close to that.

On the other hand, it is still generating cash because we are depreciating so much of the assets so quickly. And although it is not adding anything to net income, a matter fact probably for the whole year it will lose about a penny versus last year's penny loss too.

The cash flow coming in will be a little over $2 million. Last year it was a little under $2 million. So it's not hurting us cash wise but we just are waiting for gas drilling to return at which point we'll start seeing some good returns on the pipeline.

It's there. It's not going away, it works, it is just a matter if you think drilling is ever going to take off again. Does that answer your question?

Got it. It does. And I know the pipeline is a good asset in a good location, it is just when takeaway capacity increases drilling is going to start up again.

(multiple speakers) recoveries, even just if we got a 50% increase, which would be about half of what the pipeline could cover, the leverage factors are phenomenal.

Got it. Looking at the comment on the potential for municipal acquisitions and I think you said the P3 opportunities that may be floating out there. Can you give us a little bit of an idea what type of size those P3 opportunities are? Would they be an Allentown size, or is it smaller that --?

No, we are looking at pieces of systems so that we attack the problem they are having, build a relationship and then see where it goes from there. They are in the 5 to 20 range.

Okay, great, that's helpful. That's it for me. I'll jump back in line, thank you.

(Operator Instructions). Spencer Joyce, Hilliard Lyons.

Good morning, guys. Thanks for taking my call. Just one quick one from me.

Nick, we saw over the weekend a news item out of the Northern Ohio area about some toxic algae in Lake Erie. And I guess I was just wondering if you could comment there what Aqua America's exposure may or may not be to that particular situation?

Sure. We work with and offered help to the city of Toledo. That was a unique situation.

Algae formations come from different weather patterns, hot weather and lack of winds and dispersion of the algae. But they don't occur in free-flowing streams normally because you have aeration and dissipation of any kind of organic buildup for the algae to eat.

But in a lake you have the potential for it. It would be like the Chesapeake Bay, natural Chesapeake Bay artificial and natural Great Lakes, artificial for man-made lakes.

When you do a man-made lake you build in the perspective flowthrough taking water from the bottom versus the top and so on to prevent any kind of thing like an algae buildup from preventing you from disrupting your water supply system. But in a shallow area, Chesapeake Bay headwaters, natural, the western end of Lake Erie where you have a buildup and you have a couple of big cities and you have shallower and lack of -- as the wind actually pushes it into the cove and that's where the intake, unfortunately, was for Toledo.

We are on Lake Erie also. We have two water systems, Ashtabula and Lake Mentor.

We have readjusted our intakes and I think we are in better shape there but also the much deeper part of the lake. So we have not seen the blue-green algae buildup in those areas.

Now when we ever find it, and it's not always blue-green algae, there's all kinds of different algaes, most of the problems, Spencer, are taste and odor. It's not toxic.

This particular type of algae, if you break down the cellular unit releases a toxin. That was the fear. I don't want to downplay it but I think once the press hears the word toxin it becomes a lot more elevated than probably the real health risk is.

I don't want to demean it. It definitely shouldn't have been there, it definitely should have been screened out before it got into the water system. But it's not like Ebola, okay, which I think it's just sharing the news with.

On the other hand we didn't have any on the western end of the lake. We looked for it, obviously, always look for it. And it is weather dependent, wind dependent and how shallow the lakes are.

You can dissipate it either by mechanical means. Sometimes you will see a small reservoir with an aerator in it, that's really to get rid of the algae.

And the second would be there's chemicals you could apply to it that dissipate it and kill it. And that's like copper sulfate that sometimes, in an extreme buildup, the regulators will let us use.

But most of the time they want to do it mechanically. So I hope that was helpful?

Yes, very informative there. And I guess just for this particular incident, you did mention Toledo was able to lean on you guys as a resource, perhaps a little bit. But again no real direct impact to you all whatsoever?

No, no. They handled it. The state was involved and I think they handled the PR pretty good.

Thanks. That's all I had.

(Operator Instructions). Gerry Sweeney, Boenning.

Hi, guys. A follow-up -- I want to talk about the tax rate real quick. I know repair tax accounting creates -- influences -- the tax rate dependent on how much money you spend on which projects in the state of Pennsylvania, etc.

Is there any way you can give us any type of guidance as to where some of that is going to fill out for either Q3 or Q4? Just looking at your CapEx budgets where you are spending money now should give you an idea of what those projects are and whether or not they are eligible for the repair tax accounting, the flowthrough side. Can we get any info on that?

Yes I will start and then let Dave fill in the exact on the tax rates. The very positive aspect is we filled up NOLs with the repair tax catch-up mechanism and so on to the point where we -- and again this is great for cash -- we don't anticipate having to pay any taxes through 2016.

At the current levels and that depends on bonus depreciation not being reenacted. If it's reenacted we may even go a year further.

So the positive aspects from a cash point, which is what is allowing us to do all of this capital investment without floating equity and requiring major rate increase to Pennsylvania has been very very positive for operating the business. These specific tax rates, which really get to the long-term approach, I think caused most of the misunderstanding in 2013 as to this wasn't a long-term program, really has proven out and Dave can give you some numbers.

Sure, Nick. Thanks. Gerry, I've got a couple of numbers I can give you.

When we book income taxes in general the concept in booking income taxes is not to look on a quarter-to-quarter basis but to look at the year. So by the second quarter we should have a pretty good look at the year and you will see as of the second quarter on a year-to-date basis, our effective income tax rate is about 10.2% at Aqua America.

So that means that we have projected through the yearend and that's what we expect it to be. So there's always a chance as we get closer to the yearend and additional couple of projects will close, or perhaps a couple of projects will not get done and that effective tax rate could be changed slightly from that estimate.

But that's where we are year to date and we are there year to date because that's where we expect to be by yearend. As we look forward beyond 2014, we do see a slight uptick over the course of the next 5 to 10 years in that effective tax rate.

And by slight I mean it could move into the teams, for example, over 5 or 10 years. So we don't see anything dramatic happening. We see it being fairly stable and in particular for the balance of this year.

Okay. That's helpful. And then one other question, Nick.

This came up on the last call. There was some talk about maybe succession planning at Aqua America. I'm not sure exactly when your next contract's up and I know you serve at the pleasure of the Board.

And there was a little bit of some questions around that the last call. Care to elaborate on that, or is that still up in the air, or you haven't --?

My contract is up in mid-2015. The Board is actively working on succession planning. And we have really nothing definitive to report but I'm hoping by the yearend we can be more definitive.

Okay. I appreciate it. Thank you.

It appears there are no further questions in the queue at this time. I'd like to turn the call over to Mr. DeBenedictis for any additional or closing remarks.

I just want to thank everybody for being on. Thank you.

That does conclude today's conference. Thank you for your participation.