CH Energy Group, Inc. (NYSE:CHG)
The Wall Street Analyst Forum Call Transcript
November 19, 2008, 11:10 am ET
Helen Baud – Host, The Wall Street Analyst Forum
Stacey Renner – Treasurer
Steve Lant – Chairman, President and CEO
Good morning ladies and gentlemen. My name is Helen Baud from the Wall Street Analyst firm. I’m your host in this room today. At the registration desk we have Sydney Baud who will escort you to the breakout session of this presentation. At this time, I would ask anyone with a cell phone, pager handheld device, to please either turn it to the silent or off position so it will not disturb the presentation. The next company we have this morning is CH Energy Group.
CH Energy Group is an energy company comprised of two primary subsidiaries. Central Hudson Gas & Electric Corporation is a regulated transmission and distribution utility serving electricity and natural gas customers in eight countries of New York Mid-Hudson Valley region. Central Hudson Enterprises Corporation or CHEC is focused primarily on non-regulated energy distribution and renewal energy. CHEC is the parent of Griffith Energy Services, one of the largest and most respected fuel distribution companies in the Mid-Atlantic and Northeast Region.
Presenting today is Stacey Renner, Treasurer and Steve Lant, Chairman, President and CEO.
Good morning. I’m Stacey Renner. Before Steve Lant could start, let me first review some cautionary language on these forward-looking statements. Please refer to the paragraph on page two of the slide presentation, during this investor presentation and in the question-and-answer session to follow. CH Energy Group participants may discuss managements intentions, beliefs, expectations, projections or make other statements are not historical of nature.
Please note that these forward-looking statements are subject to assumptions, risks and uncertainties that could cause actual result to differ materially from the forward-looking statements. These risks are discussed in more detail in our filing on Form 10-K for the year ended December 31, 2007 under the section labeled Risk Factors and is updated in subsequent 10-Q filings.
Those filings are available at our website www.chenergygroup.com in the Investor Relations section at the link SEC filings.
Thank you and I’ll turn it over to our speaker Steve Lant.
Thank you, Stacey, and good morning everyone. We have a small group here today and I think that will facilitate a more informal presentation. I really look forward to your questions; that tends to be the most useful part of our presentations. So, I will try to justice to the prepared slides, but nevertheless save time at the end to answer your questions and discuss any issues you find interesting or important.
Let me start out by giving you a quick overview of CH Energy Group. We are a utility company with an unregulated subsidiary as well that seeks to deliver long-term benefits to our shareholders through the combination of a stable dividend, which currently is producing a dividend yield of over 5% and long-term growth and earnings per share, which combined we will produce a attractive total return for our shareholders.
Experienced management team that is very capable, knows what it’s doing. It’s focused on our core competencies that we feel our fundamental to running a utility company successfully.
First; disciplined financial management, never more important than today. Enterprise risk management, likewise never more important than in the current environment and effective cost management and operational excellence. We deal with some very, very basic and fundamental quality of life related products electricity and natural gas, and reliability of service and cost effective service are two of the most important things to our customers.
We also have substantial capital resources in this current environment to achieve our business objectives and grow our company’s earnings going forward. So, let me tell you a little bit more about the different businesses in which we are participating. This is the map that shows the operations that we currently have. The blue shape in the Southern part of New York State is the service territory of our regulated utility Central Hudson, Gas & Electric Corporation, which you’ll soon learn is generating about 85% of our net income.
The green area is the market area of the Griffith Energy Services Company, which delivers fuel oil motor fuels and propane throughout that footprint, that you see displayed in green.
The stars are the locations of the renewable energy investments that we’ve made over the past few years. The Northern most star is the Lyonsdale Biomass Plant. The star that’s just to the Southwest of that against the Auburn Landfield Gas plant and the one in Pennsylvania is a wind farm and the one down Atlantic in New Jersey is a wind farm as well and just below the map, there is an arrow pointing west towards Lexington, Nebraska, where we have an ownership share of an ethanol plants.
We, as on a utility scale are on the small side serving about 300,000 electric customers and 74,000 natural gas customers through Central Hudson, but on the fuel oil side we are one of the bigger players in the industry serving 114,000 fuel distribution customers in that green market area.
I’ll talk a little bit more about Central Hudson Gas & Electric Corporation, which is the foundation stone of CH Energy Group. The C and the H and CH Energy Group come from Central Hudson. Central Hudson is by far the largest subsidiary representing about 85% of the assets and 84% of our net income for the last 12 months.
Again electricity and natural gas transmission and distribution, I need to pause here and just remind all of you that New York State is one of the – approximately 20 States that are about a decade ago decided to create competitive markets for electric generation and as part of that initiative we were require to divest our power generation assets and we did so in 2001. So, we are a Pipes and Wires Company as many analysts put it, and the pipes and the wires are regulated by the New York State Public Service Commission.
The Mid-Hudson Valley that we serve is an excellent service territory. One that has experienced about the fastest growth in New York State or in the Northeastern United States in terms of both population and job count or the growth of the local economy.
We talk a little bit now about the other side of CH Energy Group, the unregulated portion that’s called Central Hudson Enterprises or CHEC. This company has a diverse set of energy related activities. Most importantly we are in fuel distribution through Griffith Energy Services that’s that green market area that I showed you a slide or two ago, and then we have our renewal energy portfolio that we’ve been adding steadily includes ethanol, biomass, wind and most recently landfill gas to electricity, a facility that is currently underdevelopment and expected to go online next year.
We believe we’ve got growth opportunities throughout this energy portfolio as well as within Griffith and currently the total CHEC assets represent about 15% of our total CH Energy Group assets and about 16% of our earnings and we expect that it will remain an important, but much smaller portion of our company than Central Hudson going forward.
This is an organizational chart, which just kind of graphically shows what I’ve just described, so I’m going to move quickly through that.
One of the things that, I want to leave you with today is an understanding of where we currently are in 2008 and that we’ve been experiencing a dip in our earnings, which we believe to be temporary and correctable.
This year has been a difficult year for energy distribution companies, most particularly because the prices that we are passing through to our customers, those commodity prices especially fuel oil, which of course rocketed up to a record levels in July of a $147 per barrel, but also natural gas and electricity have caused our customers to conserve the amount of energy that they are consuming.
That has been coupled with in recent months concerned about the economy. There is a wealth of factors an income effect that’s on top of that price effect which is causing a contraction of use, and that has brought Central Hudson and particular below its earnings potential. We are currently in the process of negotiating or mitigating a rate settlement, which I’ll describe in more detail to bring Central Hudson back to its appropriate earnings level and trend line of growth.
The Griffith’s company you can see has been also significantly impacted and for the 12 months ended September 30th was just fairly profitable. However, we are taking steps there as well that we believe we will begin to bring earnings back starting with the fourth quarter of this year.
So, let’s talk a little bit more about the fundamentals of Central Hudson, probably the single most important fundamental, in terms of the investor profile is the rate of growth in our service territory. Customers, demand but most importantly the rate base that we need to invest in consistently to provide quality service to our customers.
There is a chart in the appendix of our presentation that shows the historic growth of that rate base, which we expect will continue into the future as we upgrade our system, continue to refurbish it, develop it, so that it can increase it’s transfer capability, access renewable energy in other parts of the state, as well as serve a growing population.
So, there is considerable infrastructure investment that we anticipate going forward, but in the immediate term as I mentioned, our earnings are depress this year by this customer conservation, which has driven our revenues well below the level that was built into our current rate settlement, but to cure that problem in July of 2008. We filed a rate case, which I’ll again describe in more detail on a slide or two.
The filing of that rate case initiated in an 11 month process that the New York Public Service Commission has established to process the case intervening parties an opportunity to review it, most especially the staff of the Public Service Commission itself. So that would lead to a decision or outcome in the case in June of 2009.
One of thing that distinguishes Central Hudson among utilities and among corporations of America at this point is its credit worthiness. We had a strong investment grade rating and in fact a strong A rate. We were rated in AA by Moody’s and Standard & Poor's. This is the result of a continuing emphasis on our part, our credit worthiness of disciplined financial Management of a strong capital structure.
We are in a very capital intensive industry. We have a legal obligation to serve and in our view that leads to a conclusion that we should have a very, very strong capital structure and strong credit ratings to provide us access to capital, so that we can continue to serve our customers in all markets both good and bad. Obviously this market we’re now experiencing is among the worst in memory and clearly this attention to credit worthiness is paying-off very well for us right now.
We believe Central Hudson has got very good long-term prospects, again a lot of that due its geography. We are serving a suburban territory, North of New York City in the Hudson Valley. It is probably the least congested and has the lowest population density of any of the regions surrounding New York City, certainly less than Long Island, less that Central New Jersey, less than Western Connecticut. So, we see that the growth of the Metropolitan Valley will continue to be disproportionately up The Hudson Valley as it has been for the last ten or so years.
So, let me talk a little bit about the rate filing that we made on July 31. We asked for a $35 million electric rate increase, which has offset by a bill credit that we have had on our balance sheet of about $21 million. So, the net is only about $14 million for that year.
That translates for a typical residential customer to just over $3 a month. So, we feel that even in this difficult environment that is a reasonable increase and a necessary one for that matter. The natural gas increase of about $15 million is slightly bigger in terms of the monthly effect on customers, but again very small when compared to the supply volatility and certainly very small when compared to the gasoline bill that has comedown dramatically over past few months. So, I think again it’s an affordable and a necessary increase for our customers.
We’ve requested a return on equity of 10.25% in this case. Our currently allowed ROE is 9.6% we’ve been earning less than that recently. We are in the middle of a three year rate settlement. We are toward the end of a three year rate settlement. In the first year of that three year period we are into a little bit above that 9.6%. In the second year we earned less than that level and our trend is continuing to be low in that third year, which is why we found it necessary to file a rate increase.
We are also asking for a stronger capital structure, 45% common equity instead of the current 45%. Again in an attempt to be certain that we are able to maintain those strong credit ratings that we think are going to be very important going forward.
A big change in terms of our profile is the revenue decoupling mechanism that’s been included in our filing. The New York State Public Service Commission over the past year issued a new policy that said all utilities in their upcoming rate cases would have revenue decoupling mechanisms and for those of you, who don’t follow the electric utility industry and are not familiar with that jargon, the purchase of a revenue decoupling mechanism is to remove the disincentive the utilities have to market energy efficiency to their customers. So, this decouples our profitability from our volume of sale.
Under our current rate structure, our revenues is a direct function of the number of kilowatt hours that flow through our wires to customers, meters and the number of molecules of natural gas that flow through our pipes. So, energy efficiency reduces those volumes and reduces our profitability.
We definitely want to be in the business of providing energy efficiency services to our customers. We think that we are the best provider of those services. We think there is a strong demand for those services, in fact we know that. Our customers are calling us every single day asking us for that kind of assistance. So, revenue decoupling mechanisms is just a way to remove that disincentive and allows us to forcefully and enthusiastically offers energy efficiency services and as a part of that we have included the proposals to do just that in our rate filing.
We have some dollars in there as well to continue our projected remediation of manufactured gas plants. These are plants that turned coal or fuel oil into gas in the pre-1950 timeframe, going back into the post Civil war period in the early part of the 20 century. Every town and village has its own gas light company, which used either coal or oil to produce gas to be locally distributed for lighting, and our predecessor companies have such plans and some of those sites need to be remediated. That’s been a very long-term project and we’ll continue into the future
Then we want to continue the various cost recovery mechanisms, most particularly for purchase electricity and gas. These are absolutely critical, these are very volatile price commodities and it’s absolutely necessary that we have these recovery mechanisms.
Let me talk a little bit now about the Griffith subsidiary, this is the company that distributes fuel oil and propane and motor fuels in the Northeast and Mid-Atlantic region. We think the Griffith is the most competitive player in this industry. We have a very strong competitive position. We’ve got excellent customer service.
We market quality of service that is the market niche that we are after full-service. So, we do installations of equipment. We do equipment maintenance, heating and air-conditioning as well and provide automatic delivery kind of service that allows peace of mind were all that the customer need to do is what is a monthly checks for a budget account and not worry about whether they’ll have fuel of whether the equipment is going to operate and operate efficiently.
Clearly this environment has been more challenging for the oil company than really any other form of energy solely because the price of oil has gone up even more than the other forms of energy, and so we have seen even more customer conservation there. I would say though that the price of oil has come down just about a fast as it went up.
When we were climbing that ladder up to $247 in July, didn’t see possible that by November we will be back to $53 which is below where it was a year ago this time, but nevertheless that is the mountains that we have climbed and now come down the other side. So, we do believe that there will be some rebound in demand now that this price pressure on our customers has been relived.
Looking at our company; I guess with franc eyes, given the price changes we’ve seen, given the economy; given customer response and competitive response to make sure that our marketing programs are what they need to be; make sure we are serving the right markets growing in the right place and alike.
Let me just briefly touch on the renewable energy portfolio. We probably talked more about this than we really should have in terms of this proportion in our business, but we have done so because it is what is new and in fact for most people what is most interesting. Certainly renewable energy is something that everybody is paying more attention through these days.
So, we have a series of investment, we have made over the past three years. Most recently the landfill gas project in Auburn, New York, Auburn is Southwestern, New York they have a landfill which is producing methane. We are going to gather that methane and convert it through turbine generators to electricity to be sold back to the city.
The existing portfolio consist a minority share of an ethanol plant in Lexington, Nebraska that’s called Cornhusker. The Lyonsdale Biomass plant, this is the plant now state in New York that take three residual that has been shift into small wood chips and put into a boiler converted to electricity under a long-term contract. So, we have a reliable revenue stream coming out of the Lyonsdale plant and likewise the wind farms, which are currently operating and operating very, very close to their expectations, have long-term contracts with predictable revenue streams
We’ve got an ongoing business development effort. We have a team in place that reports to Chris Capone, our Chief Financial Officer. Looking for like type investments that have this predictability of future performance in terms of their earnings and cash flows and that largely is a function of having off take agreements of some type for the probably the energy product that has being manufactured whether it would be ethanol or electricity.
To quickly sum up, we believe our company is well positioned to grow its earnings, most specifically though the growth of it’s utility component. We have a growing rate base, we have a growing franchise territory and we have a rate case currently underway to bring its earnings back to its trend line and back to its potential.
We have a growing unregulated portfolio, which we believe will produce predictable and stable earnings and cash flows going forward, with the current focus on renewable energy which is in area that is likely to continue to expand in terms of the opportunities that. We got a very strong balance sheet and credit quality, when I talked about that three or four years ago, I’m not sure (inaudible) will agree with those now, but certainly I think we had foresight in recognizing that was a very, very important part of our business overtime and that’s certainly prove ensure.
We bring to everything we do a conservative philosophy. We are not big risk takers. We don’t believe that our shareholder base is the type of group of people that is looking for us to take a lot of risk. They are looking for predictability, stability, their yield oriented investors who really care about the dividend and we certainly recognize that and having appropriate management philosophy to make sure we run a company, our company in a way that will meet their needs.
So, we focus a lot on financial management. We focus a lot on our risk management policies. I think we’ve got an excellent track record in terms of anticipating risks and mitigating them, and we focus everyday on management of our costs. We are a very productive company. We’ve been among the lowest cost suppliers in our regions on the electric side for over decade, and we really believe in operational excellence.
We’ve got an excellence safety program with that 12 months, going on actually now 15 months without a loss time accident throughout our company. It’s that kind of attention to detail that we bring to our aspects of our operations, and last but definitely not least it’s the dividend. We pay healthy dividend and we intend to continue to pay a healthy dividend at this levels for higher in the future and we believe that’s a great foundation of value.
So, I’ll stop here and (inaudible) hope is a stimulating question-and-answer session.
The question is in terms of renewable energy. What are the cost and where it requires subsidies going forward?
The simple answer to that question is today every form of renewable energy is more expensive than conventional forms of energy and so there is a gap that needs to be closed and that gap is being closed by government subsidy streams of one type or another, whether its federal tax credits, production tax credits or whether it’s state renewal energy credits or other devices of that nature.
Now I say that’s the case today, because one change that has likely to come is that there will be a price attached to the carbon emissions of traditional energy generation in the future, and to the extent that is an internalize cost that raise the cost of traditional or conventional forms of energy, with the exception of nuclear which of course does not emit carbon.
Then that gap will shrink and it could shrink to the vanishing point, depending on what that price of carbon ends up being. Of course that’s a very difficult thing to predict at this point, but I think that is the direction that with a carbon tax or a carbon price that comes through a carbon trading system that the need for subsidies and the level of subsidies will diminish overtime.
The question is what proportion of our customer’s are involved in Green Energy Programs and do we see that growing?
At this point there is really not a lot of participation. We’ve had a couple of our municipal customers, sign up for what are called voluntary energy, green energy credits. That is really very small phenomenon at this point. We have not had a claimer on the part of our customer base to offer a green product. However, there are energy service companies, if you remember I said that we had a deregulated electric generation market in New York State and one of products that the energy services companies can sell is green energy.
However, I’m not aware that has made a great penetration and so I think with that concluding that leads to is that a voluntary approach. Your seeing a much greater proportion of lower carbon emission technologies is probably not going to have a big impact and that therefore some kind of mandatory machines such as a cap-and-trade law at the federal levels is going to be the only way that a material reduction in carbon emissions is going to come about.
The question is how optimistic are we that we’ll achieve a settlement in our current rate case and if there is no settlement, what will be the process and schedule including the receipt. Are they recommendation from the Public Service Commission staff?
I mentioned that, we filed the rate case in July and that set in motion a procedural schedule that’s well established in New York State. The next step in that procedural schedule is the filing by the New York Public Service Commission staff and other interveners of their positions in our case, and that filing will come next week on November 25. So we’ll then have much better visibility as to what those positions are. This has been a very active case so far, we’ve responded to over 800 information request by various parties. So there is a large record that’s being built upon which a decision can be based by the New York Public Service Commission.
As to its settlements, we entered into a three year settlement in 2006, which as I indicated had risks embedded in it that frankly we underweighted, specifically the degree to which energy prices would rise and the economy would weakened, and our sales would fall below the trend that we are relying on. So, having experienced that risk, we’re a little weary of the risks that a multiyear settlement may contain.
Obviously, we’ve reached an inflexion point of some kind in our economy and the future is very, very difficult to predict. So, we certainly signaled to the parties that we are concerned about the degree of uncertainty in the future and while we are discounting the possibility of entering into multiyear settlement, that settlement will need to contain provision or protections and perhaps haven’t been seen in prior settlements.
So, at this point our approach is that we have a one-year filing and we are going to continues to work on that one year filing and if we are going to use to consider something longer than that to the settlement process, we have an opportunity to negotiate, with safe negotiation and then we would we will take that opportunity, but again with the I guess the lessons of the past in mind and as well as the concerns about the future uncertainty that we are facing.
The question is, would the settlement have to be for a longer than one-year period or could there will be a settlement for a single year period?
The history is that settlements have involved multi-year periods. I don’t think there is anything that precludes that we reach a settlement for a one year period. So, I would just leave it that would be a possibility. I don’t see that there is any barrier to that.
Other questions, questions from those participating on the webcast? Hearing none, I want to thank you very much for your attention. We are going to now move to the break out room, in the adjoining room and we’ll be very pleased to speak with you individually there. Thank you very much.
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