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ALLETE, Inc. (NYSE:ALE)

Q4 2012 Results Earnings Call

February 15, 2013 10:00 AM ET

Executives

Alan Hodnik - President and CEO

Mark Schober - Chief Financial Officer

Analysts

Paul Ridzon - KeyBanc

Brian Russo - Ladenburg Thalmann

Chris Ellinghaus - Williams Capital

Michael Bates - D.A. Davidson

Operator

Good day, ladies and gentlemen. And welcome to the ALLETE Fourth Quarter 2012 Financial Results Conference Call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. (Operator Instructions)

As a reminder, this conference call is being recorded. Certain statements contained in this conference call that are not description of historical facts are forward-looking statements, such as terms defined in the Private Securities Litigation Reform Act of 1995. Because such statements can include risks and uncertainties, actual results may differ materially from those expressed or implied by such forward-looking statements.

Factors that could cause results to differ materially from those expressed or implied by such forward-looking statements include, but are not limited to, those discussed in filings made by the company with the Securities and Exchange Commission. Many of these factors that will determine the company’s future results are beyond the ability of management to control or predict.

Listeners should not undue -- should not place undue reliance on forward-looking statements, which reflect management’s view only as of the date hereof. The company undertakes no obligation to revise or update any forward-looking statements or to make any other forward-looking statements, whether as a result of new information, future events or otherwise.

For remarks and introductions, I would now like to turn the conference over to ALLETE President and Chief Executive Officer, Alan Hodnik. Please go ahead.

Alan Hodnik

Thank you and good morning, everybody. Joining me today is Mark Schober, ALLETE’s Chief Financial Officer. This morning we reported ALLETE’s year end earning results for 2012. For the year, we earned $2.58 per share, which was nearly upper end of our revised guidance range of $2.50 to $2.60 a share. We delivered strong results in 2012 and look forward to continued earnings growth as we execute our strategy.

Beyond financial success, significant progress on our multi-faceted, multi-year growth strategy was achieved. Minnesota Power’s mineral customers experience strong production levels in 2012 and we believe 2013 will be just a strong. Despite one of the warmest winter seasons in recent memory. Minnesota Power recorded the highest total kilowatt hour sales ever due to its retail and municipal customers.

With respect to organic growth, Magnetation began operations at two new production facilities within Minnesota Power service territory. Also Essar Steel Minnesota which is served by one of our municipal customers, the City of Nashwauk, made significant construction progress on its new taconite processing facility.

In December, we commissioned our Bison 2 and Bison 3 wind generating facilities. Combined with Bison 1, we now own and operate nearly 300 megawatts of North Dakota wind generating capacity. Given our strategic positioning and the adaptability of our Bison location, we are exploring an additional investment, which I will comment on in a few moments.

During 2012, we also announced our intent to retrofit our largest coal-fired facility Boswell Unit 4. While regulatory approval is required we estimate a total investment between $350 million and $400 million will be made to meet state and federal environmental rules.

We also announced plans for a major new transmission line designed to deliver competitively-priced carbon free hydroelectric energy from Canada to Minnesota Power’s territory.

This project which we have named the Great Northern Transmission Line will be a strategic capital investment for the company in the second half of this decade. While I will talk more about this effort a little bit later, we are very excited about the Great Northern.

Solid 2012 results, strong execution of multi-faceted strategies and overall positioning resulted in ALLETE’s Board of Directors raising the quarterly dividend by 3.3% in January.

This action, a reflection of their confidence in ALLETE’s management team, our longer-term earnings outlook and our ongoing commitment to building value for you our shareholders, it’s an exciting time at ALLETE, and I will return later with further observations on our outlook for 2013 and beyond.

But, first, I will turn the call over to Mark, who will provide details on 2012 financials. Mark?

Mark Schober

Thank you, Al, and good morning, everyone. I would like to remind you that we filed our 10-K this morning and I encourage you to refer to it for more details of our 2012 results. For the year, ALLETE earned $2.58 per share, a net income of $97.1 million, compared to $2.65 per share, a net income of $93.8 million in 2011.

Total operating revenue for 2012 was $961.2 million, compared to $928.2 million in 2011. Excluding two non-recurring items in 2011 and $0.08 per share income tax benefit and an $0.18 per share reversal of a deferred tax liability, ALLETE’s pro forma earnings were $2.39 per share in 2011.

On a pro forma view, 2012 results were $2.58 per share versus $2.39 per share in 2011, an increase of 8%. The year’s results were at the upper end of the company’s 2012 revised earnings guidance range of $2.50 to $2.60 per share.

Income from ALLETE Regulated Operations segment which includes Minnesota Power, Superior Water, Light and Power, and our investment in the American Transmission Company was $96.1 million in 2012, compared with $100.4 million in 2011.

As I mentioned a moment ago, net income for 2011 included the recognition of a $2.9 million income tax benefit related to federal health care legislation and the reversal of a $6.2 million deferred tax liability resulting from a rate case stipulation and settlement agreement. Excluding these two item, 2011 net income would have been $91.3 million.

Total 2012 Regulated Operations revenue increased $22.5 million over 2011. Let me give you some of the contributing factors. Cost recovery rider revenue increased $22.1 million due to higher capital expenditures for our Bison and CapX2020 projects.

Revenue from our municipal customers decreased $1.6 million, primarily due to period-over-period fluctuations in the annual true-up for actual cost provisions of the contracts under formula-based rate.

Revenue decreased $1.1 million due to 0.7% overall reduction in total regulated utility kilowatt hour sales. The decrease in total kilowatt hour sales was largely due to lower sales to residential customers and other power suppliers.

Residential sales compared to 2011 were down slightly due to unseasonably warm weather during the first four months of 2012. Heating degree days in Duluth were approximately 22% lower than in the first four months of 2011.

In addition, total kilowatt hour sales to other power suppliers decreased 9.3% from 2011. These decreases were partially offset by continued strong sales to our industrial customers, which increased 1.9% over 2011.

Transmission revenue increased $7.3 million, primarily due to higher Midwest independent transmission system operator or MISO revenue resulting from our investment in CapX2020.

Fuel adjustment cost recoveries decreased $1.7 million due to lower fuel and purchased power costs attributable to our retail and municipal customers. On the expense side, fuel and purchased power increased $2.1 million or 1% from 2011, primarily due to a $3.2 million increased in the capacity component of our Square Butte power purchase agreement. The capacity component is not recovered through our fuel adjustment cost.

Regulated Operations operating and maintenance expense increased $8.5 million, or 3% from 2011, mainly due to higher salary, benefit and transmission expenses. Benefit expenses rose due to higher pension expense, resulting from lower discount rates. Transmission expenses reflect increased MISO expense. These increases were partially offset by lower plant audit and maintenance expenses 2012.

Depreciation expense increased $8.5 million or 10% and interest expense was up $4 million, or 11% both directly attributable to the capital investment program at our Regulated Operations. This year’s earnings from our investment in ATC were slightly higher than 2011 results due to a larger investments balance in 2012.

Income tax expense rose by $7.2 million or 17% from 2011, primarily due to the non-recurring tax benefits that we recorded last year. As I mentioned, 2011 included the recognition of a $2.9 million income tax benefit related to federal health care legislation and the reversal of a $6.2 million deferred tax liability resulting from a rate case stipulation and settlement agreement.

The investments and other segment reported net income of $1 million, compared to a net loss of $6.6 million in 2011. The increase in 2012 was primarily due to lower state tax expense and lower interest expense, partially offset by increased business development expenses.

Finally, our largest share balance was over last year’s due to funding our capital investment had a dilutive impact of $0.16 per share for 2012.

In summary, we are pleased with our financial results for 2012. Our cash flow was solid for the year, generating $239.6 million in cash from operating activities. Our balance sheet remained strong and at year end we carried a 46% debt-to-capital ratio.

As disclosed late last year, we expect 2013 earnings per share to be in a range between $2.58 and $2.78. We anticipate that our industrial customers will continue to have strong electricity usage. In December, our taconite customers demand nominations indicated full production levels for the first four months of 2013.

We also expect an increase in rider recoverable revenue and federal production tax credits related to higher renewable investment balances and Minnesota Power’s ongoing investment in CapX2020 transmission assets.

Rider recoverable capital investment will also begin for our Boswell 4 environmental project, subject to regulatory approval that Al will talk about in a moment. We project similar earnings results from BNI Coal and Superior Water, Light and Power and about the same a net loss at ALLETE properties as in 2012.

On the expense side, we expect higher depreciation and interest expenses in 2013 due to ongoing capital investment. In addition, we anticipate an effective tax rate of about 20% because of production tax credit and we expect $0.10 to $0.15 dilution from share issuances supporting our capital investment program. Al?

Alan Hodnik

Thanks Mark. ALLETE is an energy company with multi-faceted and multi-year earnings growth opportunities. Organic growth has and will continue to provide top line revenue increases, significant capital investments across several fronts will provide for continued rate base growth, and we remain disciplined and focused on other energy centric infrastructure and infrastructure service investment prospects.

Before we take your questions, let me take a few minutes to update you on organic growth, capital investments and other strategic positioning aspects. Minnesota’s Iron Range is mineral rich and Essar Steel Minnesota sits upon an extensive and relatively high quality ore reserve.

In our December earnings guidance, we assume Essar would have minimal impact on our financial results until late in 2013. We expect we will move towards full production levels in 2014 that ultimately results in 110 megawatts or more of additional load for Minnesota Power.

On February 11, 2013, Essar announced a landmark 3.5 million ton annual 10-year pellet offtake agreement with ArcelorMittal. Essar is also currently exploring other strategic partnerships relative to the production of direct reduced iron or the production of steel fab or both at their site in the 2015 or later timeframe.

Magnetation, which started up two new facilities in 2012, recently announced equipment additions that are underway at one of these facilities. This expansion will result in an additional 3 to 5 megawatts of electric load. A joint venture between AK Steel Corporation and Magnetation contemplates building two new additional facilities with construction likely to commence this year.

The first of these could come on line in late 2014, with the second shortly thereafter to supply a new AK Magnetation pellet plant under construction in Indiana. These two new facilities would result in approximately 20 megawatts of new load for Minnesota Power.

Our largest customer, United States Steel has previously announced plans to restart an idled pellet line at its Keewatin Taconite Plant. United States Steel has the necessary environmental permits and is working with the state to extend them. That said, United States Steel continues to analyze project economics and market conditions to select the right time for implementing this exciting 60 megawatt expansion project.

Relative to non-ferrous metal mining development, PolyMet’s long-awaited Supplemental Draft Environmental Impact Statement or SDEIS is expected to be released during the second quarter of this year. Assuming successful completion of SDEIS process, plans are currently developed for completion of final environmental permitting activities in late 2014.

Construction activities could commence thereafter. We recall Minnesota Power already have a 10-year contract with PolyMet and could begin to serve 45 megawatts or more loads as early as 2015.

A few weeks ago, Minnesota Power announced its strategic resource, EnergyForward is a balanced approach designed to ensure reliability, protect affordability and further improves strong environmental performance. EnergyForward is our strategic vision to develop and deliver cleaner carbon free resources, further reducing emissions and reliance on coal as well as the addition of natural gas generation to the mix around 2020.

As part of the plan, we are planning a $15 million conversion of a 110 megawatt Laskin Energy Center from coal to natural gas. Laskin then will be our first of all natural gas fuel peaking facility. We also will retire Taconite Harbor Unit 3 in 2015. EnergyForward initiatives are subject to regulatory approval. They will be included in a integrated resource plan filing with the Minnesota Public Utilities Commission on March 1st.

On the energy centric development front, I offer the following. With respect to renewable development and the production tax credit extension, we have included $226 million in ALLETE’s five-year plan. This accounts for at least 100 megawatts of additional wind generation in the 2016 to 2017 timeframe. However, given the production tax credit extension, Minnesota Power is currently evaluating an acceleration of their investments to perhaps begin in 2013.

Naturally, ALLETE Clean Energy is also assessing production tax credit related build opportunities, and we will provide you more detail about these energy centric investment prospects and timing as plan firm up.

With respect to transmission, we have included $38 million related to the Great Northern Transmission Line in our five-year plan. Great Northern is strategic for both Minnesota Power but also ALLETE longer-term. Minnesota Power needs to deliver 250 megawatts of hydro to its service territory by 2020.

Minnesota Power and the American Transmission Company or ATC are also currently evaluating the joint development of a 345 kilovolt line from the iron range to Duluth. Project costs and associated costs allocations are still to be determined, but we anticipate we will be able to provide additional clarity this year. Capital investments associated with ALLETE’s plans had been included in the updated five-year table in the 10-K we filed this morning.

In summary, ALLETE’s location at the intersection of energy-rich Canada and energy-rich North Dakota, as well as in the heart of mineral rich, Northern Minnesota positions it for multi-dimensional earnings growth. We look forward to updating further as we execute our plans.

Thanks for your interest and thanks for your investment with us. At this time, I will ask the operator to open up the lines for your questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question comes from Paul Ridzon of KeyBanc. Your line is open.

Paul Ridzon - KeyBanc

Good morning.

Alan Hodnik

Good morning, Paul.

Paul Ridzon - KeyBanc

Congratulations on a solid year.

Alan Hodnik

Thank you, sir.

Paul Ridzon - KeyBanc

Do you think your March 1st IRP will have clarity on Bison 4?

Alan Hodnik

Well, we’ve included -- obviously our renewable plans in a broader sense in the EnergyForward thesis will be included in the IRP submittal. Right now, we are out. Obviously, researching the turbine supply market as well as looking at the notion of a request for proposal or RFP that would go with it in terms of providing our regulators with sort of a cost if you will or cost analysis that we look more holistically at the build itself.

So we were putting those kinds of things in place, Paul, but the beauty of the Bison situation in North Dakota, of course as you know is it’s fully adaptable. We have land under lease, we have the transmission and we are very well-positioned to take advantage of this PTC extension.

Mark Schober

So, Paul, we are aggressively looking at the opportunities to accelerate Bison 4. We are excited about that but we need to work that through. We need to see the final IRS reg, exactly when we have to start that construction then we need to work with regulators, customers et cetera to do what’s right here. But we are certainly excited about the opportunity. March 1st could be a little soon, but we hope to have something around the end of the quarter, maybe even in the second quarter but we are moving as quickly as we can.

Paul Ridzon - KeyBanc

Any update on the Florida real estate market, any activity there?

Alan Hodnik

Yeah. We continue to look at our Florida real estate market. We are seeing more activity, more folks looking, more inquiries into the assets that we have for sale. We anticipate that we will hopefully be able to make some sales later this year, but nothing concrete yet at the end of year in the first quarter here.

Paul Ridzon - KeyBanc

Any sense of the magnitude of the sales as far as the percentage of acreage?

Mark Schober

No. They would be pretty small at this point in time.

Paul Ridzon - KeyBanc

And then just any discussions with customers. You sounded pretty confident but any signs that we could see some risk to hold full nominations for rest of the year?

Alan Hodnik

Well, I don’t anticipate any at this point in time. I mean, what we see in the auto sector certainly, remember again, all of these, Taconite, the greatest percentage of Taconite 95% or greater ends up in the Great Lakes region and so what we see in the auto sector right now was strong demand for autos.

We continue to see strong demand in fracking and steel pipe, the things that go with that. So at this point time -- although we don’t sit in their boardrooms and what not we do have a strong relationship with them and we are expecting strong production from our mineral customers this year.

Paul Ridzon - KeyBanc

Thank you very much.

Alan Hodnik

Thanks, Paul.

Operator

(Operator Instructions) Our next question comes from Brian Russo of Ladenburg Thalmann. Your line is open.

Brian Russo - Ladenburg Thalmann

Hi. Good morning.

Alan Hodnik

Good morning, Brian.

Brian Russo - Ladenburg Thalmann

Just curious, you quoted a $226 million cost for additional wind on a 100 megawatts. So it seems kind of high dollar per megawatt basis and it seems like it’s a lot higher than what it cost you to build Bison 1, 2 and 3. Maybe you can just elaborate on that a little bit.

Alan Hodnik

Yeah. Specific to the site with where we are looking at it, Brian, so there may be incremental transmissions, that’s in there to connect it to the grid and it would just be pricing. Our estimate of pricing for turbine and towers are of three years, so it’s just ordinary increases in costs. So those costs could certainly be different than if we accelerate that project into the 2013 timeframe.

Brian Russo - Ladenburg Thalmann

Okay. Got it. And then, will you guys evaluate to elect bonus depreciation on the construction of this wind farm if it’s accelerated into 2013?

Alan Hodnik

Sure. We would, absolutely.

Brian Russo - Ladenburg Thalmann

Do you know what kind of impact that could have in terms of deferred taxes?

Mark Schober

I don’t have the number right now, but we would certainly have that for you as we look to accelerating that project.

Brian Russo - Ladenburg Thalmann

So, remind me, did you take if any bonus depreciation on Bison 1, 2 or 3?

Alan Hodnik

Yeah. We did. I think it was at 50% at that point in time and then up to 100% in earlier years.

Brian Russo - Ladenburg Thalmann

Okay. And then, in the K, you guys disclosed I think for the first time some sensitivities around taconite production and a $1 million ton change equates to about negative -- equates to about $0.03 of EPS. Could you just kind of walk us through that calculation?

Mark Schober

Yeah. So when we look at -- Brian, this is a request we’ve had from investors. They’re trying to give a feel for what happens as our taconite load fluctuate. So we’ve looked at as really what our standard contracts are and looking historical as we’ve -- our taconite flexes up and down. So it’s not negative $0.03, it’s plus or minus $0.03.

And the biggest driver there and you’ll see that in our disclosure too is that we’re -- that’s assuming wholesale power market prices as they said at the end of the year. So we’ll continue to revise that number up or down as you see -- as we see material changes in wholesale markets going forward.

Brian Russo - Ladenburg Thalmann

Right. So it’s essentially the loss of the demand charge or megawatt hours related to the decrease of 1 million tons of production.

Mark Schober

Correct. When taking that power to market it at very soft wholesale market prices today.

Brian Russo - Ladenburg Thalmann

Okay. Are there potential additional offsets on cost cutting?

Mark Schober

Yeah. And that’s not included in the number. So it was a -- if we go back to what happened in 2008, 2009, a significant decrease that would be extended, we would manage the business different. We would look at cost takeouts and other opportunities though they are not included in the number. And ultimately if there is a long-term changes in production levels that would obviously entail some late activity at some point in the future.

Brian Russo - Ladenburg Thalmann

And also in the K, you mentioned, up 600 megawatts of industrial demand currently in the pipeline. At what point, will you need to build new generation to support the additional industrial demand?

Alan Hodnik

While Brian right now we’re in pretty good position. Recall again, we continue to build wind out of North Dakota. So if we build or accelerate Bison 4 tranche depending on the size of that because we’d have that in the mix.

We’ve talked and looking at the type of load, for example, Essar Steel, if they did get to advancing those slab steel production, that type of load is just a little bit different than taconite load but if some of that load materialize, we would obviously be looking at gas combustion turbine to build. That’s why I signaled again adding gas kind of later in the decade, certainly not earlier than 2017, probably more on the 2020 timeframe.

Brian Russo - Ladenburg Thalmann

So even if Essar builds a steel mill in ‘15, ‘16, you can satisfy that demand with your existing portfolio?

Alan Hodnik

No. I didn’t say that. If they were to build that plant, we will somehow have that up and running in 2015. We would definitely look at adding a gas combustion turbine at that point in time.

Brian Russo - Ladenburg Thalmann

Okay. I guess, they have to give you some sort of lead time because if it will take two years to build a gas plant?

Alan Hodnik

That’s right. We work very closely with our customers. Our key account management team is embedded right in everyone of our large industrial operations and while we don’t know every waking move they make, we have a great relationship with them. And we would have enough advanced signaling from them on their plans to help us make our plans.

Brian Russo - Ladenburg Thalmann

Okay. And one more question on BNI Coal, I know it supplies coal to two co-ops, I believe. Are there any issues with those co-ops or those plants that add any risk of retirement?

Alan Hodnik

No. Not at this point in time. The two units there are largely owned by, one unit, Young 1 by Minnkota Power, so that co-op and then Square Butte co-op essentially is a cooperative of Young 2 between Minnesota Power and Minnkota Power, we shared that unit. We, of course, swapped part of unit two over time for the transmission line out of North Dakota as you know.

Right now, those plants and facilities are meeting all federal air requirements. They’ve been making significant investments both in Young 1 and Young 2 right along. Naturally, they continue to look at forward-regulations and all the rest with the same sort of eye every other coal-fired operator does but for right now, they fully meet all of our requirements and we expect them to continue to operate.

Brian Russo - Ladenburg Thalmann

So they meet the MATS requirement?

Alan Hodnik

Lignite is under a different regime, of course, speciation of coal for MATS. They are looking at their plants for MATS scrubbing, further MATS scrubbing of Young 1 and 2. And under any circumstance, BNI Coal in its cost contract with Minnkota or with Square Butte has sort of a cost plus feature to that and so all those costs are accounted for within the BNI contacts.

Brian Russo - Ladenburg Thalmann

Okay. Thank you very much.

Mark Schober

Thanks Brian.

Operator

Next question comes from Chris Ellinghaus of Williams Capital. Your line is open.

Chris Ellinghaus - Williams Capital

Hey guys. How are you?

Mark Schober

Hi, Chris.

Alan Hodnik

Good morning, Chris.

Chris Ellinghaus - Williams Capital

Will the ATC transmission project make into IRP at all?

Alan Hodnik

You’re talking about the joint development prospects between Iron Range and Duluth?

Chris Ellinghaus - Williams Capital

Right.

Alan Hodnik

While we talk about the Great Northern in a large context, Chris, from a permitting perspective in a sense that our plans right now are to permit the Great Northern from the Canadian border all the way to Duluth but specifically what the integrated resource plan would speak to is the Minnesota Power portion, essentially the 250 megawatt PPA and the delivery of that in the transmission associated with that, kind of, wrapped up in the Great Northern. But we won’t speak specifically to any investment with the ATC in the integrated resource plan.

Chris Ellinghaus - Williams Capital

Okay. But you did say, we’ll know some more about that later this year?

Alan Hodnik

It’s possible we’ll know more about the Great Northern in a macro sense. It’s possible that we will know more about our relationship if you will in contractual terms and delivery of the 250 megawatts and the transmission associated with that. The ATC portion continues to be under development. And so I think of all those as related to the sense they are in the Great Northern Transmission Corridor. I would say the one that we are working most closely on at the moment right now is Minnesota Power portion as we get ready for the integrated resource plan entirely.

Chris Ellinghaus - Williams Capital

Okay. And the ATC component, you’ll just participate in your normal ownership rate?

Mark Schober

That’s for -- it gets a little bit -- well we haven’t come to conclusions on how that will be financed and structured, Chris. I could see a variety of options there. ATC would build and we just take our 8% or we could be a partner with ATC on that portion in addition to our 8% ownership.

So that’s kind of stuff that’s on wheels right now as we continue to look at those opportunities to build that line in north from there but south of Iron Range into Duluth and into Wisconsin.

Chris Ellinghaus - Williams Capital

Okay. Got what I wanted to hear. I don’t know, Al, did you give us a number on what Essar’s additional project might mean in terms of load. I don’t think I got that?

Alan Hodnik

While we have said that a slab steel or direct reduced iron or some combination of both might be, sort of, an additional 300 megawatts of loads. So that’s kind of the number that Essar provided to us. It might be plus or minus from there.

Chris Ellinghaus - Williams Capital

Okay. And given the size of that, would you really be thinking about just the combustion turbine as oppose to a combined cycle at that point?

Alan Hodnik

Well, we would look at and are looking at a variety of technologies associated with that. It would depend on the load again and the size and how quickly it developed. Obviously a combined cycle will be more efficient than a combusting turbine. It would be our preference given that we run a highly efficient generation fleet as it is. And so we would look that way but again it all depends on how the load materializes besides certainly if we build the CT, Chris we would make sure it was adaptable to become a CC later on.

Chris Ellinghaus - Williams Capital

Right. So it’s possible also that whatever they do could be done in phases as well?

Alan Hodnik

That’s right.

Chris Ellinghaus - Williams Capital

Okay., As far as the fuel switching and the Taconite Harbor 3 retirement, I assume that will be in the IRP as well.

Alan Hodnik

Yeah. Both the Laskin decision to convert the gas or interest that we have to convert the gas and also the retirement of Taconite Harbor 3 is in our energy forward plant will be cemented in the integrated resource plan March 1st.

Chris Ellinghaus - Williams Capital

Okay. One more thing please, PolyMet in terms of the speed in which they can get to their rather sizable load. Can you just give us little color in terms of getting from the final environmental retrofit or environmental permitting phase to actual production. Can you just give us a little color about what they are actually doing there?

Alan Hodnik

While we call again, one of the greatest strengths of the PolyMet project beyond the ore body is the fact that they acquired the former LTV mining taconite processing facilities. So PolyMet already has in place all of the coarse crushing, fine crushing and concentrating assets that you would expect and would see at normal taconite processing facility that kind of facilities that Essar is already building or building today.

So all of that is in place at PolyMet and gives them a huge strategic advantage in terms of startup versus perhaps another operation that will have to build everything from ground up. So the portion that they would have to build is the autoclave or the portion that would ultimately separate the various precious metals, copper, nickel and the other P-metals.

And so the constructions of some thing like that in 12 to 18 months. So that piece has to be built but respect to the larger concentrating crushing and grinding assets, they’re already in place.

Chris Ellinghaus - Williams Capital

Okay. Great. Thanks a lot guys.

Alan Hodnik

Thank you.

Operator

Our next question comes from Michael Bates of D.A. Davidson. Your line is open.

Michael Bates - D.A. Davidson

Good morning. Most of my questions have been asked and answered but I did want to follow up on a couple of items. In the K, you mentioned that you are expecting an increase in pension expense for 2013. Can you give us a little bit more color as to the magnitude of the increase you are expecting at this point?

Mark Schober

I really can’t give you a number, Michael. What we’re looking at there, very similar to what happened here in 2012. It’s just that discount rates continue to remain at very, very low levels, that’s going to drive an increase in our expense. And I think the number for this year was $3 million to $4 million.

Michael Bates - D.A. Davidson

With those assumptions finalized, when you issued 2013 guidance last December?

Mark Schober

Yeah. They are very close. We’ve captured those in our guidance, yeah.

Michael Bates - D.A. Davidson

Okay. And earlier in the call, you did mention that capacity payments for Square Butte PPA increased and were not included in your fuel clause. Can you give us an idea as to whether there’s going to be movement in the capacity payments going into 2013?

Mark Schober

Couple of things going on, on 2013, so as you look at those capacity payments, Al, kind of, already touched on what’s going on at Square Butte as they modernized those units and put on additional scrubbers and capital equipment, that’s why you’ve seen our capacity payments go up.

So we’ve captured a lot of those already. But as you look into 2013, 2014, 2015, some of that power will be Minnkota or Square Butte will be keeping that power. So our capacity payments will be coming down because of that. And we’ve also captured that in our guidance that you have. So we expect overall some decreases in our portion of Square Butte cost.

Michael Bates - D.A. Davidson

And you gave us an idea as the magnitude of the decrease?

Mark Schober

No. I don’t have that number offhand but again it’s captured in our guidance for the year.

Michael Bates - D.A. Davidson

Thank you.

Operator

I’m showing no further questions in the queue at this time. I’ll hand the call back to Mr. Alan Hodnik for closing remarks.

Alan Hodnik

Well, thank you everyone for joining us again today. Mark and I look forward to seeing you or many of you where possible at our upcoming breakfast in New York. I want to thank you again for your questions and your interests and certainly thank you for your investment in ALLETE. Have a good day.

Operator

Thank you. Ladies and gentlemen, this concludes the conference for today. You may all disconnect and have a wonderful day.

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