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Executives

Steve Busser - Treasure

Tom Shockley - Chief Executive Officer

Bill Gilmer - Director, Institute for the Regional Forecasting, University of Houston Bauer College

David Carpenter - Chief Financial Officer

Lisa Budtke - Assistant Treasurer

Richard Gonzalez - Supervisor, Investor Relations

Analysts

Neil Mehta - Goldman Sachs

Maury May - Wellington Shields

Anthony Crowdell - Jefferies

Mike Klein - Sidoti

El Paso Electric Co. (EE) Q4 2012 Results Earnings Call February 19, 2013 9:00 AM ET

Operator

Please standby, we are about to begin. Good day, everyone. And welcome to the El Paso Electric Company Fourth Quarter Earnings Conference Call. Today’s call is begin recorded.

At this time, I would like to turn the conference over to Mr. Steven Busser. Please go ahead.

Steve Busser

Thank you, Dina, and good morning to everyone. Welcome to the El Paso Electric Company fourth quarter 2012 earnings conference call and analyst day. My name is Steve Busser, and I’m the Treasure for El Paso Electric.

Before we get started, I’d like to go over some housekeeping items and then introduce our panel. Before I go over the Safe Harbor on the second slide, I’ll cover some housekeeping items.

We will file our 10-K with the SEC on or before February 28th. As per upcoming IR events, we planned to be at the Sidoti Conference here at the Grand Hyatt next month on March 18th and 19th, and we’re also be going on a sale side marketing tour with Ladenburg Thalmann on March 20th and 21st.

Moving to the Safe Harbor statement, in summary, our comments and answers to your questions may include forward-looking statements made pursuit to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995.

Such forward-looking statements involve known and unknown risks and other factors, which may cause the company’s actual results in future periods to differ materially from those expressed here.

Any such statement is qualified by reference to the risks and factors discussed in the company’s SEC Act filings. Our 10-K and other SEC filings contain our forward-looking statements and also lay out the risk factors that should be considered. These filings may be obtained upon request of the company on our website or from the SEC.

The company cautions that the risk factors discussed in these filings are not exclusive and we do not undertake to update any forward-looking statement that may be made from time to time, by and on behalf of the company. These statements, especially those made during the Q&A section of the call are subject to risks and uncertainties that are difficult to predict.

Moving to slide three, I’d like to introduce our executive management team and our guest speaker. Our first speaker today will be our CEO, Tom Shockley, who will cover the 2012 highlights, 2013 goals and an outlook for El Paso. Tom has been our permanent CEO since May of 2012 and served as a Member of our Board of Directors since 2010. Tom brings over 35 years of experience in utility industry to El Paso Electric and was formally Vice Chairman and Chief Operating Officer at American Electric Power Company.

Bill Gilmer is our guest speaker today. Bill is the Director of the Institute for the Regional Forecasting at University of Houston Bauer College. Before joining the Institute, Bill worked for the Federal Reserve Bank of Dallas for 23 years, retiring from the Bank as a Senior Economist and Vice President. Bill served the Federal Reserve Bank of Dallas as the Officer In-charge of the El Paso Branch from 2003 to 2012, where he oversaw the Bank’s operations in West Texas and New Mexico.

Bill holds an MA and PhD in Economics from the University of Texas at Austin. Bill’s work on the Texas Economy has been recognized by publications such as The Wall Street Journal, The Economist and Forbes.

Bill will provide an overview of the El Paso economy during the call then he will go in more in-depth presentation of the El Paso Economy after the Q&A session of our call today.

We also have with us today, our Chief Financial Officer, David Carpenter, who will review the 2012 earnings, our capital construction program and our 2013 guidance. David has served as our CFO since August of 2009 and has more than 35 years of experience in the electric utility industry.

Before I turn the call over to Tom, I also wanted to introduce Lisa Budtke here with us today, Lisa is our Assistant Treasurer; and Richard Gonzalez, who most of you met on the way in today.

Richard was recently promoted to the Supervisor of Investor Relations and he has been instrumental part of the Treasury team and the Investor Relations functions for the last several years. He is going to be the main point of contact from an Investor Relations perspective with the company going forward.

Now, I’d like to turn the call over to Tom.

Tom Shockley

Thank you, Steve. And let me, first of all, welcome all of you here and tell you how much we appreciate you being here and we’ll try to step through this information and give you a little bit of insight into what the highlights were in ‘12 and what we then going to be focusing on in ‘13 and then a little bit of look into what’s happening in El Paso.

In ‘12 we had a number of different financial activities that really strengthen the company early in the year the revolving credit facility was increased from $200 million to $300 million. We then took advantage of the low interest rate environment and refinanced almost $100 million of pollution control bonds and then late in the year we issued some senior debt at a very, very attractive 3.3%.

Other things that happened during the year that we are very pleased about and I don’t know all of you remember we were involved in a very contentious rate case with the city and subsequently the PUC, and we were able to settle that in April and I can tell you that the relationship with El Paso Electric and the city I think has improved substantially. So we are very, very pleased about that.

Also late in the year we had the opportunity to add two new local directors to our Board. Ed Escudero was one of the individuals added and Woody Hunt was the other one, both are very, very prominent businessman in El Paso and we could not be more pleased to having them join our Board.

Our five-year growth pattern has been pretty stellar, we’re proud of that. I think you’ve got a chart that will show that and it kind of points out the fact that we really survived through the major debt in the economy in a way that a lot of other areas in the United States were not able to.

As far as achievements that we were able to achieve in the operations area, I would like to tell you how proud we are, that with regard to interruptions which is something that the PUC of Texas tracks, this is our second year in a row that we were first in interruptions duration and first in interruption frequency, and so we are very, very pleased of that and Palo Verde an another stellar year for 2012 as well.

For next year we are going to be focusing on, I said next year, for this year, we will be finishing up our first aero-derivative 87 megawatt gas turbine peaker. It will be coming online in May of this year. It will give us a lot of flexibility of being able to follow load which is one of the real challenges that we have in El Paso because we’re getting a substantial amount of solar and these units that we are installing, finishing this year and then in the years to come will give us the flexibility of being able to track the load very quickly and efficiently.

We will also be getting the permits that we need for our new station that will be built in East El Paso. It’s the area that is very, very rapidly growing and we've got a plan -- a long range plan that will see four new peaker units on that particular side.

The other activities we’ll be involved in this year is the focus on a successful conclusion of the negotiations with our unions that will start later this year and be in place with the new contract in September.

And then finally, as we spend this new capital going into -- service for our customers will require increased rates from our customers and that will be something that we will start working on with regard to making sure there is no surprises, identifying when it will be happening and making everyone aware of what our expectations are and moving down that road in preparation.

The outlook for El Paso is really exciting. I think in your handout you will see a number of different projects in different places that will give you a little bit of insight as to why we feel like El Paso is a really great place to be and a great place to have the electric franchise. Things are happening on the base. Things are happening in our medical community, in our research community.

And there is just a whole lot of activity and stepping on through these, the one of the most exciting things that came to be in November of last year was the city voting on a quality of life bond that will provide over the next 10 years $474 million for improvements to the city such as swimming pools, parks, recreational areas and things that truly will enhance the quality of life.

And in addition to that, the City Council also approved the construction of a downtown Triple-A ball park that will completely revitalize the downtown area and we think just convert El Paso into one of the best places that you could be. We will have a Triple-A ball team coming in. A group of investors have arranged to bring the -- what was the Tucson Padres into El Paso and we’re excited about that.

So you're going to get a lot more information this morning about the economy and things happening but El Paso is a great place. And with that, I’d like to turn it over to Dr. Gilmer.

Bill Gilmer

Thank you, Tom. I’ll give you a quick overview of some of the economic things that are happening in El Paso. This is the payroll jobs, seasonally adjusted data from the Federal Reserve Bank of Dallas and this employment data also includes many of the revisions that Dallas Bank benchmarks continuously.

And so you’ll see many of the revisions that we will see later this month in metropolitan data are already included here, which you see is the continuation of the recovery in El Paso through 2012 and a slowdown in the second half of 2012, the tapering off of growth. The 2013 forecast for El Paso is sort of a mirror image of this with expected relatively slow growth in the first half and then a pickup in the second half of the year.

The local slowdown in 2012 really just bothers what we saw in the national economy where we had a good reading on GDP. It just turned out that in the third quarter of the year that reading on GDP, much of it was inventory accumulation and it forced a significant cutback in production in the last quarter -- last quarter of the year.

The other part of the slowdown also very visible in GDP statistics and which almost certainly was built in El Paso is the threatened sequester of $109 billion in federal spending, half of which would come in military budgets. And the military has clearly been planning for the worst slowing spending in advance of any actual event, should that occur.

I’ll come back to the sequester in a minute. But let’s just -- let's put it aside for just a moment and talk about the planned expansion of Fort Bliss and how Fort Bliss is expected to continue to provide some significant stimulus, continued stimulus to the local economy. This is the last year of the planned buildout of Fort bliss.

This will be the fourth year in a row that we’re spending $500 million in continued construction on the base. The arrival of troops and their families continues in 2013. We’re still expecting about 8,800 new residents, spouses and children included.

This expansion brings considerably different kind of stimulus than the construction program. This brings continued spending on autos, retail, housing to the city. And the entire 50,000 increase in population on the base, just that increase on population on the dates through the entire construction program. It represents about 6% increase in population in El Paso.

We already mentioned the William Beaumont Medical Center, the construction contract for that was late -- awarded in late January, the Triple-A baseball stadium and the other kinds of construction stimulus that is now planned for the coming future. If you look at the outlook for the U.S. economy, broadly from something like the blue-chip survey or survey professional economist, again it's just weak, first half, relatively weak, first-half scenario primarily due to physical drag from $200 billion in taxes.

All expectations are that that’s overcome as we move through the year by strength in the underlying national economy and the risk to the national economy comes that we perhaps underestimated the drag from the $200 billion in taxes already in place that we impose significant new drag through the sequester process or that we simply underestimated the drag that could arise.

As I said, by the second half, we expect to see a pickup and to move into some growth rates near 3% by early 2014. El Paso again should follow this trend but it has some additional advantages that extend beyond just the military, the military expansion.

A key part of U.S. growth this year is expected to be in the housing market. We’re expected to finally see housing begin to add a small amount to U.S. GDP. The housing recovery in El Paso is considerably more advanced than what we have seen in the U.S. We have seen a short upturn in housing prices in El Paso and in home sales.

I think they are relatively poor community. El Paso will benefit significantly from the new definition of a qualifying mortgage from a consumer protection agency, which is really going to give bankers a map going forward on how they can lend to a relatively high-risk community like you might find in El Paso.

Mexico continued to be on a very strong growth path. Growth expected to be 3% to 4%. And I think the risks to the global economy received will move past the recession in Europe and as we begin to see emerging economies, particularly China began to accelerate over the course of 2013 from their slowdown last year. This benefits the peso and with the peso strengthens that help helps retail trade in El Paso.

And Mexico has maintained a privileged place in the rationalization of manufacturing in North America after NAFTA. Despite the slowdown in manufacturing in the last quarter of last year, we have seen continued growth in Maquila employment -- Maquiladora employment and see that what its estimates from the Federal Reserve Bank of Dallas are that it continues to grow at about 5% rate and trade through the movement of goods through the port of entry in El Paso continued to grow at about 6% rate through November of this year.

So cross-border trade [plus] for El Paso, favorable job growth in El Paso should easily match the 1.4% growth last year. Tom Fullerton at UTEP, University of Texas El Paso is forecasting a 1.9% increase for the year, Roberto Coronado at the Federal Reserve Bank of Dallas is forecasting about 1.5% to 2% gain in employment for El Paso.

The risk of sequester, risk from the fiscal negotiations, the risk are really not particularly well understood. We do have a memo from the Secretary of the Army that was stated in early this year. This memo basically outlined actions that should be taken immediately from hiring, freeze, to cuts and spending. Construction was really not specifically mentioned and neither was the planned relocation of military personnel. The two factors that would most impact the current program at El Paso.

You see here outlined the civilian hiring freeze, the termination of temporary employes, curtailment of non-combat training, cutting of maintenance, studies, R&D, overseas moves for civilian employees and in order to act immediately to avoid of not having acted before the sequester might be put in place.

It’s interesting that the army did allow, in late January the contract to be let for the new Medical Center, the William Beaumont Medical Center in late January by the corps of engineers, so construction projects are currently continuing to move forward, at least with this time. Thank you very much.

David Carpenter

Good morning. Thank you, Bill. Now, we are going to move on and just talk about our fourth quarter earnings results. For the comparison of 2012 versus 2011, fourth quarter year-to-date earnings result is summarized on this slide.

As you can see, fourth quarter 2012 basic earnings per share was $0.12 per share which is a slight decrease from the $0.14 per share that was earned in the fourth quarter of 2011. For the year-to-date period, earnings were $2.27 per basic share. This compares to the year-to-date earnings in 2011 of $2.49 per basic share. We will provide additional detail on the next two slides on the factors that are affecting earnings.

On slide 24, for the fourth quarter of 2012, we reported net income of $4.8 million or $0.12 per basic share compared to the fourth quarter 2011 net income of $5.5 million, or $0.14 per basic share. Positive earnings drivers include increased earnings of $0.04 per basic share for the allowance for funds used during construction or AFUDC.

The construction of Rio Grande Unit 9 and the Montana Power Station, which is in Rio Grande Unit 9 is scheduled to come online in May of this year are the primary factors which have increased the capitalization of AFUDC.

Decreased non Palo Verde of operations and maintenance expense, largely due to the resolution of a Public Service Company of New Mexico, transmission rate case resulted in a decline in transmission expense for purchase transmission with no comparable activity in the fourth quarter of 2011, and was primarily responsible for a $0.04 decrease and increase in earnings per share in the fourth quarter of 2012.

On the negative side, we saw a $0.06 decline in basic earnings per share due to a decrease in retail non-fuel base revenues, due to the reduction in our rate from the Texas Rate Settlement and milder winter weather. We also had a negative impact of $0.05 per share for other, which are several minor items, none of which are significant.

On slide 25, for the 12 months ended December 31, 2012, we posted net income of $90.8 million or $2.27 per basic share compared to net income of $103.5 million, or $2.49 per basic share for the 12 months ended December 31, 2011. Earnings for the 12 months ended December 31, 2012, were positively affected by decreased depreciation and amortization expense, increasing earnings per share by approximately $0.05 in 2012, which reflects the approval of the license extension for Palo Verde in 2011 and the reduction of transmission and distribution in gas-fired generation depreciation expenses in 2012, as a result of the Texas Rate Case Settlement.

Higher allowance for funds used during construction, due to the higher construction work in progress balances also contributed $0.04 to the increase in earnings per share. The largest positive driver to earnings per share for the 12 months ended December 31, 2012 compared to the same period in 2011, was an $0.08 pick up due to the share repurchases that occurred in 2011.

Once again, much like the quarterly earnings drivers, reductions in retail non-fuel base revenues accounted for a $0.16 per share decrease in earnings per share, due to the Texas Rate Case Settlement and milder weather than 2011. Earnings were also negatively impacted by a $0.11 per basic share due to increased non-Palo Verde operation and maintenance expense.

Increased operation and maintenance expense was primarily due to increased employee pensions and benefits expense, reflecting lower discount rates used to determine post retirement benefit costs. Also during 2012, we have seen a reduction in deregulated Palo Verde Unit 3 revenues we collect from New Mexico customers, which reduced our earnings per share -- basic share by $0.08. This is primarily the result of lower gas prices, which have resulted in lower proxy prices for power provided by Unit 3.

Decreased transmission revenues contributed to a $0.04 reduction in earnings per share in 2012 as compared to 2011. The reduction is attributable to a settlement agreement with Tucson Electric Power Company that resulted in one-time income of $3.9 million pretax in the third quarter of 2011.

On slide 26, we show changes in revenues and sales. Overall, retail non-fuel base revenues decreased $3.7 million pretax, a 3.1% in the fourth quarter of 2012 compared to the same period in 2011. This was due to a reduction in non-fuel -- this was due to a reduction in non-fuel base revenues to our Texas customers, which became effective May 1, 2012.

Commercial and industrial customers were primarily impacted by the change in revenues and as you can see, non-fuel base revenues were for small commercial and industrial customers, and large commercial and industrial customers decreased by 5.3% and 9.4% in the fourth quarter of 2012, compared to the fourth quarter of 2011.

Kilowatt hour sales to residential customers also decreased, excuse me, also decreased by 3.6% in the fourth quarter -- 2.8%, excuse me, for revenues and due to a 3.6% reduction in revenues in kilowatt hour sales reflecting milder winter weather in the fourth quarter of 2012.

For the year-to-date period, 2012 retail non-fuel base revenues decreased by $9.7 million pre-tax, a 1.7% compared to the same period in 2011. The decrease in revenue was also due to the reduction in non-fuel base rates to our Texas customers, which primarily impacted the commercial and industrial customers.

Non-fuel base revenues from sales to small commercial and industrial customers, and large commercial and industrial customers decreased 4.1% and 7.1%, respectively. In addition, large commercial and industrial revenues decreased as a result of several customers moving to lower interruptible rates during 2012.

Kilowatt hour sales to residential customers increased 0.6% in the 2012 period, compared to the 2011 period, due to a 1.4% increase in the average number of customers served. During the 12 months ended December 31, 2012, cooling degree days decreased 8.3% when compared to the same period in 2011, but were 9.2% above the 10-year average.

Heating degree days decreased 16.4% during the 12 months ended December 31, 2012 when compared to the same period in 2011 and were 9.8% below the 10-year average. Kilowatt hour sales to public authorities still increased 2.4% and non-fuel base revenues increased 1.9%.

On slide 27, we show the impacts of the rate base -- rate decrease in whether on non-fuel base revenues for the fourth quarter and year-to-date periods in 2012, compared to the same periods in 2011.

As you can see the Texas rate case settlement had a $3.3 million negative impact in the fourth quarter and $11.7 million negative impact on the year-to-date period. We will see an additional $3.3 million negative impact in 2013.

As previously discussed, weather had a significant impact on 2012 compared to 2011 with a $2.7 million impact in the fourth quarter and a $9.7 million negative impact year-to-date.

The impact of weather compared to the 10-year average was still a positive $2.2 million. Excluding the rate decrease and whether, we saw an increase in revenues of 1.8% in the fourth quarter and 2.1% in the year-to-date, reflecting the continued growth in our service territory.

On slide 28, in 2012 our primary capital requirements were for construction and purchase of electric utility plant, nuclear fuel purchases and the payment of common stock dividends.

As you can see, we spent approximately $202 million on new electric plant. In addition, we paid approximately $39 million in dividends to shareholders. In December 2012, we issued $150 million of 10-year unsecured senior notes at a coupon rate of 3.3%.

The proceeds of which were used to repay our outstanding balance of revolving credit facility and to fund capital construction program in 2013. As a result, we had a cash balance of $111.1 million at December 31, 2012.

We also had liquidity of approximately $388 million including cash and the revolving credit facility at December 31, 2012. In summary, we believe that we are well-positioned to finance our construction program into ‘13 -- 2013 and later years.

Now turning to our capital construction program on slide 30, this chart shows our expected capital expenditures for construction over the next five years. We plan to spend $264 million on cash construction expenditures in 2013 and anticipate increasing that amount to $326 million in 2014. Our cash construction expenditures will be in the $200 million range for the last three years of the five-year period.

Our five-year estimated capital expenditures totaled $1.2 billion, which includes the addition of the New Montana Power plant, our capital expenditures ensure that our generation -- that we have the generation capacity to meet our customers growing demand for electricity and includes expanding and updating our transmission and distribution infrastructure.

The increase in expenditures in 2012 and 2013 reflect a new expected in-service date for the Montana -- first Montana unit in the fourth quarter of 2014. Our generation expansion plan is shown on the next slide.

On this slide, we show our expected generation additions and total capacity compared to our fourth -- peak demand for each year during the 2013 to 2017 period. Our current generating capacity is approximately 1,765 megawatts and is projected to grow steadily through 2017.

Our current cash construction program called for the completion of construction associated for Rio -- with Rio Grande Unit 9 and the commencement of operation in May of this year.

The construction program also provides for the addition of four new derivative -- aero-derivative peaking units of 88 megawatts each over a four-year period spanning 2014 to 2017.

During this period one unit per year will be placed into service at the New Montana Power station on El Paso Eastside. The first unit is expected to be completed in the fourth quarter of 2014.

It is also important to note that some of our current units will be retired during this period. Our current plan is to retire Rio Grande Unit 6 in 2014 and to retire our sell -- our stake in the Four Corners generating Unit’s 4 and 5 in 2016.

On slide 32, we show generation capital expenditures are anticipated to total approximately $572 million through the next five years. The bulk of these capital expenditures, approximately $325 million will be invested in new generating plant.

Approximately $166 million will be for capital improvements and replacements at Palo Verde and other generation totals $81 million. Compared to our 2012 capital expenditure plan, we have moved up the peaking units and pushed back the addition of a base load combined cycle units to better match our load profile.

On slide 33, transmission and distribution capital expenditures are expected to be approximately $488 million through 2017. Approximately $176 million has been earmarked for transmission projects, the majority of which are related to reliability and system expansion activities. $312 million is projected to be spent through 2017 on distribution projects, which are primarily for expanding the distribution system to serve customer growth.

Turning to slide 34, general plant is expected to increase by $140 million over the next five years, including capital expenditures to construct two new distribution centers that will consolidate facilities to make our operations more efficient. The first distribution center will be built on 50 acres next to the new Montana plant site and will be operating with a base of about 235 employees.

On this slide, we detail projected rate base at the time, new generation plant additions for each year from 2013 to 2017. The beginning rate base balances shown here include the deregulated portion of Palo Verde Unit 3.

As you can see, plant additions are estimated to be approximately $279 million per year through 2017. The total rate base will be decreased by the accrual and recovery of depreciation and increases in accumulated deferred income taxes. We expect that total rate base to grow to nearly $2.4 billion at the time the last Montana Power station unit is placed in service.

This slide anticipates the best timeline projection for following our next rate case with Public Utility Commission of Texas. Due to the delay in the completion date for the first unit of the Montana Power station, we think that we can delay filing a rate case until 2015 although a final decision has not been made.

The primary reason for delaying a rate case filing until 2015 is to reflect the first unit of the Montana Power station and common cost which will be higher upfront into rate base along with the increased operating costs for our new greenfield plant site.

Now, moving to earnings guidance for 2013. On slide 38, we are initiating our 2013 earnings guidance at $2.20 per share to $2.60 per share. This diagram shows actual 2012 earnings per share of $2.27 compared to the midpoint of our projected 2013 earnings guidance of $2.40.

As you can see, 2013 projected earnings are expected to be negatively impacted by increased depreciation and amortization related to increased levels of depreciable plant in 2013, which will reduce earnings by approximately $0.07 per share. Higher interest expense primarily related to the $150 million of senior notes issued in December are expected to reduce earnings by approximately $0.05 per share -- $0.06 per share in 2013.

However, this will be offset by the accrual of higher -- high amounts of allowance for funds used during construction, reflecting our higher construction work in progress balances of approximately $0.10 per share. Lower non-fuel base revenues related to the Texas right case settlement are expected to lower earnings by $0.06 per share and we expect -- we expect operation and maintenance expenses in 2013 to only increase by about 0.5% which would lower earnings per share by about $0.02 per share.

On other items that are expected to increase our 2013 earnings per share include increased deregulated Palo Verde Unit 3 revenues and other off-system sales revenues due primarily to higher expected natural gas prices and also increased revenues to reflect the continuing growth in our service territory will result in an increase in earnings per share estimated at $0.18 per share, resulting in a midpoint of earnings guidance of $2.40 per share.

The primary factors that will affect the range of $2.20 per share to $2.40 per share include the variability in revenues associated with weather impacts in our service territory. It also includes potential variances in operations and maintenance expenses, both for Palo Verde and our other operations. And then it also includes -- the other primary factor is variations in the amount of revenues that we’re receiving from our deregulated portion of Palo Verde Unit 3 in New Mexico, which is primarily influenced by natural gas prices.

With that, I'm going to turn the call back over to Steve Busser to take questions and answers.

Steve Busser

Thank you, David. So at this point, we’ll take questions-and-answers and just to give a little -- make sure that we have some order to the process, what we’ll do is we’ll go ahead and take the questions for the folks that are in the room first and then we’ll move to the folks who are on the call who may have questions. Once we get down with the Q&A session, we’re going to turn it back over to Dr. Gilmore for more in-depth presentation on the El Paso economy and the drivers there.

So without further ado, if there are any questions in the room, just go ahead and raise your hand, I would just ask that you state your name before you state your question and Lisa will bring you a microphone.

Question-and-Answer Sessions

Neil Mehta - Goldman Sachs

Neil Mehta at Goldman Sachs. Quick question here on AFUDC. It looks like from the waterfall that AFUDC provides the $0.10 pick up in 2013. How do you think that AFUDC in 2014 and 2015 CapEx picks up in 2014. So should we think AFUDC’s year-over-year contribution will increase as well?

David Carpenter

Yeah. Neil, this is David Carpenter. The allowance for funds used during construction is going to vary as you state -- as we spend additional money on capital expenditures. So in 2014, excuse me -- in 2013, we will close the Rio Grande plant, which will bring our CWIP balance down but that's more than offset by the Montana Power station expenditures which then result in a net increase in 2013.

Then in 2014, the first unit of the Montana plant is not expected to complete -- be completed until late in the year. And so I would expect AFUDC to increase in 2014. And then once the Montana plant is completed in late 2014 and then the second unit May 2015, we would expect to see a drop-off in 2015.

Neil Mehta - Goldman Sachs

Got it. And some cash flow questions here, can you talk through your dividend growth strategy? You got a below-average dividend payout, but you also have a heavy CapEx program and less headroom from an equity-to-cap perspective.

David Carpenter

I think, what we’ve stated is that we've been targeting a 45% payout ratio. And I think that that, we will continue to see that for the next several years. I think, as you look at our construction program here through 2015, we have a fairly heavy construction program. And so, I would expect that our dividend policy would be fairly consistent through that period and then once you get through that heavy construction period, will probably be the time we’ll take a second look at the policy.

Neil Mehta - Goldman Sachs

Yeah. Could you remind us, what the AFUDC rate is?

David Carpenter

Yeah. AFUDC rate is approximately 8.5%, that’s debt and equity.

Neil Mehta - Goldman Sachs

And above this, the net plan is hitting the income statement in ’13 and beyond. What leverage do you guys have in terms of managing your O&M to help preserve your earn returns until the next rate case?

David Carpenter

Well, we try to operate it efficiently as we can all the time. I think that the one expense that hit us harder in 2012 was our pensions and benefits expense, and we are continually monitoring our assumptions for recording pensions and retiree benefits. We also are looking at our compensation programs including our benefits and are trying to set programs up that are both efficient from a cost standpoint, and also provide benefits to retain and attract employees. So we will continue to do that and we will continue to try to manage our operations as efficiently as possible to manage our expenses. At this time, we don't expect any layoffs or anything more drastic as far as operation and maintenance expense.

Maury May - Wellington Shields

Good morning. Maury May, Wellington Shields. Question on the rate case, as you are going to file in Texas in 2015 based upon a historic 2014 test year, but what about New Mexico because they’ve got that forecast test year?

David Carpenter

We are in a little different position in New Mexico. We haven't had as much load growth in New Mexico, most of it has been in Texas in the last year or two. And so we potentially would put off filing a rate case in New Mexico until after 2015. We’ll just kind of continue to monitor how the load growth between Texas and New Mexico occurs, but right now most of the load growth is in Texas and so that’s where the rates are under recovery.

Maury May - Wellington Shields

So, most of the investment in Rio Grande 9 and Montana 1 are going to go into the Texas rate base?

David Carpenter

Most of them will go in Texas rate base.

Maury May - Wellington Shields

So it’s not a 75-25 split.

David Carpenter

Not at this time.

Maury May - Wellington Shields

Okay. And my second question has to do with capital expenditures. Can you just give us some detail here? Rio Grande 9, can you review the price tag on that one and also on Montana Unit 1, the price tag for that unit plus the common facilities you go to build to get that one up to work?

David Carpenter

Steve is looking up at the Montana plant. Rio Grande 9 is going to come in, is running a little bit over budget. It’s going to come in about $91 million, is the expectation. On the Montana units -

Steve Busser

More the cost of Montana units are -- it’s a bit difficult to parse them out individually. But the first unit that will come online in Montana will be about, in the $71 million range. But then in addition to that, there will be a north of $50 million worth of additional common costs that are in place that will come into rate base at the time we put that first unit into service. And then beyond that, each unit will be in the $65 million to $70 million in terms of cash expenditures. The numbers that I just gave you were cash expenditures, excluding AFUDC.

Anthony Crowdell - Jefferies

Hey. Good morning. Anthony Crowdell, Jefferies. I just want to follow-up on Neil’s question. It seem that I guess AFUDC in ‘14 will increase relative to ’13, or is that more than enough to offset I guess, ink higher depreciation from the plans going on and potentially higher O&M and I believe Rio goes in ‘13 and I guess Montana towards the end of the year? So mainly it’s, I guess depreciation with the units.

David Carpenter

Right. I don't know when it’s going to completely offset the Rio 9 plant. We also have sales growth during that period that will help pay for Rio 9. But once Rio 9 is completed, not only when you could, you see accruing to AFUDC but you will also begin accruing depreciation. And so at this time, we expect that we’ll see a little bit of a decline in our earnings, at least, maybe not earnings but in our returns in 2014 compared to 2013.

Anthony Crowdell - Jefferies

And just, what is your assumption for the Palo Verde 3, the unregulated portion in 2013 guidance?

David Carpenter

Say that again.

Anthony Crowdell - Jefferies

What’s your assumption for the Palo Verde 3 unregulated, what’s your assumption for the contribution in 2013 guidance?

Tom Shockley

Anthony, we are looking at, probably about a 15% to 20% increase in terms of Palo Verde 3 contribution to pretax earnings in 2013 compared to 2012. In 2012, we had pretax earnings on Palo Verde of $9.8 million. That would be the base for the 15% to 20% increase that I just mentioned.

I think the big driving factor there is just the gas price assumption. In 2012, we saw actual gas prices in the $2.75 range and our projected earnings that David went through in terms of earnings guidance for 2013 assumes a $3.50 gas price, just to put that in perspective for you.

Mike Klein - Sidoti

Mike Klein, Sidoti. In the $0.18 benefit in your earnings bridge, can you just talk about the assumptions that go into the underlying growth and maybe load growth or population growth or anything else like that?

David Carpenter

Yeah. Basically the revenue growth is about a 2.2% increase in revenue excluding the effects of weather and the rate decrease. So maybe a little slightly less than we projected, predicted in the past but still a fairly positive. And we continue to be in the 2% to 3% range overall.

Mike Klein - Sidoti

Okay. And with the CapEx outlook, can just touch upon going back to the markets in terms of raising additional equity?

David Carpenter

Equity? Right now, our goal is to avoid going into markets stake or issue equity. It is possible that we could have to issue equity in the future. But what we are seeking to do is to manage the needed equity for our capital construction program through kind of earnings and the management of our dividend and if we go to the equity market, I think it would be a fairly small issue.

Steve Busser

Any other questions from anybody in the room?

Anthony Crowdell - Jefferies

Anthony Crowdell, Jefferies. Just on the AFUDC rate of 8.5%, you get that on the total CWIP balance or par cut, the CWIP balance there too?

David Carpenter

Right. There’s standards for what projects you can accrue it on. You can accrue it on projects that are under 30 days and so, I think kind of our rule of thumb is excluding the generation plant, we probably accrue AFUDC on about 85% of our plant and then we accrue on about 100%, well, we don’t see, we accrue it on 100% of the generation plant additions.

Tom Shockley

That’s correct.

Anthony Crowdell - Jefferies

Hey. One more question here at least. It’s more you may again willing to chose, just one more question on the rate base, as it grows over the next five years. This allocation of 75%, 25% between Texas and Mexico that we’ve, I have traditionally used? How does that shift by the end of the five-year CapEx program, does it shift to like 80-20 or 82-18 or how does that -- how do I allocate rate base between you two states going forward, next five?

Tom Shockley

You have a little bit -- different situation, now more venue had in the past and that we’ve added about 50 megawatts of solar capacity in New Mexico. Now that solar capacity, the capacity attribution that it actually provide at the time of peak demand is about 65% to 70% of the total 47 megawatts, and so that gets allocated to New Mexico first, and at the end the remaining portion is split between Texas and New Mexico, and then I think if you look at the remaining portion that its probably in the 21% to 2% range for New Mexico and 78% or percent or so for Texas, that sound like…

David Carpenter

Yeah. Small sliver for FERC but not much.

Anthony Crowdell - Jefferies

Then what was your investment in solar?

Tom Shockley

It’s all purchased, so it…

Anthony Crowdell - Jefferies

Okay.

Tom Shockley

It’s all purchased solar, so it’s being recovered through our fuel factor in New Mexico.

Anthony Crowdell - Jefferies

Okay. So what you are saying is on the rate base, we are looking more than 78-22 split, 24…

Tom Shockley

That’s correct.

Anthony Crowdell - Jefferies

Okay.

Steve Busser

Any more questions in the room? So, Dina, at this point if there are any questions for folks on the telephone, we’ll go ahead and take those as well.

Operator

Thank you. (Operator Instructions) And sir, it appears we have no questions on the phone at this time.

Presentation

Steve Busser

Okay, Dina. Thank you. The next portion of our presentation today is going to be given by Dr. Bill Gilmer. And as I introduced him earlier but got to give a little bit of a disclaimer before the lawyers get after me, so I’ll go ahead and do that now, and then let Dr. Gilmer go ahead and give his presentation.

So the presentation that he’ll give was prepared by Dr. Gilmer. And Dr. Gilmer is not an employee or agent of El Paso Electric Company and he is not authorized to speak on behalf of the company. The views expressed are solely his own and do not necessarily represent or reflect a views and opinions of El Paso Electric Company.

El Paso Electric Company has not and is not in a position to confirm the data and research methodologies presented by Dr. Gilmer and disclaims any responsibility for the accuracy and completeness thereof.

So, with that, illustrious introduction, Dr. Gilmer, I’ll let you take the mic.

Bill Gilmer

Okay. Thanks, Steve. That’s all right. Federal Reserve Bank used to make me do exactly the same thing. I just had to say all those words myself before I got up. We’re going to talk about El Paso growth and this is a perspective piece. I’m going to try to be sort of the big picture person on the El Paso economy today.

I’m going to talk about El Paso’s long-term growth, give you some perspective on how it has grown over past years and why that growth took place. There was good news and there was bad news in that long -- that long perspective.

I’ll talk about El Paso's performance during great recession, I'm sure most of you already know that story about Fort Bliss and the other kinds of stimulus that came to the city, just a critical moment in time.

Talk a little bit about the cyclical outlook for 2013 we've already done some of that. And finally, I think it's important, we are in the last year to build-out Fort Bliss to talk about what carries El Paso forward, once this construction of and the relocation of those groups is in place. What is that drives the El Paso economy and so we can talk about -- talk about growth in El Paso.

El Paso I think is somehow disrespected sometimes not because it doesn’t grow well, it in fact compared to other metro areas in the United States, it just had a fairly strong growth record about being next door to some even more strongly growing economies, especially in the Texas triangle some suffers by comparison.

This shows you the from 1970 to 2000, 30-year period shows you annualized growth rates for U.S. metros, for El Paso and for the State of Texas as a whole, and for personal income, employment and population, and sure enough there is El Paso sort of sandwich right between U.S., other U.S. metros in the U.S. and the faster growing Texas economy.

Over the last decade to a certain extent that has turn around certainly for personal income growth you’ll see very strong personal income growth even compared to Texas employment growth still lags the State of Texas a little bit and population as well. But notice that both Texas and El Paso have really separated themselves from the other metro growth in the United States and there has been much stronger growth in Texas and El Paso than in the U.S. metro areas.

This chart is a very interesting one and I'll spend some time on at the end of the presentation. This is per capita income in El Paso relative to the typical metro area in the United States.

Like all the border communities, it is a relatively poor community, not nearly is poor as South Texas. But you begin in 1970 with the per capita income and El Paso about 70% of which you see in the United States and then you see a long 30-year period of decline there up to year 2000 for El Paso falls behind, long story about loss of a low-wage apparel in El Paso and then you can see a dramatic turnaround starting in year 2000.

And I think most of it as you look at that return making up for three decades of losses over the last decade. The first thing you think of is Fort Bliss, new Medical Center’s, those kinds of gains, and right at the end there is no question that spurt over the 2007 period, 2010 period that you see here is good part attributable to that.

But the timing is the little different, you see the turnaround in growth after 2001 and you also see that similar kind of very strong growth in personal income, not just in El Paso but in the other Texas border city in Laredo, Brownsville and McAllen as well, all outstripping Texas as a whole and the other metro areas. I’ll return to this at the end and really talk about the role of cross-border trade, how that’s evolve and it’s important for the State of Texas going forward.

Certainly, we know that El Paso faired much better over this particular recession. But El Paso’s history is as a cyclical city. It has had strong ties over the decades to manufacturing. Those ties to manufacturing continue today although they’re quite different today from what they were 10 years and 20 years ago. And again those ties, I want to talk about. But El Paso, the crossroads it is from east to west, the southern pass through the Rockies on Interstate 10 and the old Camino Real basically runs north-south for Mexico City up through El Paso into Mexico.

And El Paso’s history is one of being able to import a recession from either direction and sometimes to import those recessions from Mexico and the U.S. at the same time. This particular recession mildness in El Paso relative to the crisis that gripped the rest of the country can be illustrated in a number of ways. Payroll employment is one way to talk about it. You can see we’re still well over 5 million jobs short of the prior peak in 2007 in terms of national employment. El Paso return to that prior peak really in 2010 and has continued to add jobs now about 2.5% above that prior peak.

Broader measures of the El Paso’s economic performance, you can look at some business cycle indexes that are computed by the Federal Reserve Bank of Dallas. These are not just the payroll numbers that I showed you, it also includes measures of wages and real wages and real retail sales and a measure of unemployment as well. And it -- but it tells you a very similar story.

This broader measure tells us one of a peak relatively mild recession, a quick return to the prior peak and that El Paso has moved forward into a new expansion base. We’re going to look at that same business cycle index, which are computed for the major metro areas in Texas as well as all of the border communities.

And you can see -- compare it even to the state of Texas the recession in terms of the extent of the downturn was relatively mild about 5% for Texas, about half that for El Paso and compares that to Laredo and McAllen, which are cities that are strongly exposed to cross-border trade. For example, you can see the extent of the downturn in South Texas as opposed to what happened in El Paso. El Paso’s unemployment rate, yet another way to compare El Paso to the U.S. performance.

The borders that is in Texas, all of them typically have an unemployment rate that runs about 2 percentage points higher than what you see in the U.S. This has to do with the quality of labor, surplus labor from legal and illegal immigration, some of the many low-wage industries that locate in the regions and then there is very high levels of turnover, both in businesses and in workers.

El Paso recently had an unemployment rate that is the height of the crisis that was lower than that of the U.S. It's returned to a rate that is about 1% higher now, about half of the historic average, which would be about 2% higher.

CWIP set El Paso apart during the great recession, a new medical school and teaching hospital that came, brought many new professionals into the area. State spending on highways had been planned really much of in a support of Fort Bliss. University infrastructure spending was quite significant just at the right moment in time.

Then came federal stimulus and monetary policy from the national downturn itself but it was especially the expansion of Fort Bliss that really mattered for El Paso. They brought $5 billion in total expenditures for construction over the 2006-2013 period. Population growth that was associated with Bliss will be when completed this year 50,000 or about 6% gain in population.

This just shows you the pattern of spending over time and this shows you the annual rate of expenditures. So as you look at 2013 this year, it is the last year of the buildout but it is continued spending. It’s really at the same rate that we have seen over the last -- the previous three years. And this shows you the history of the relocation of soldier spouses and children into the area, the peak in 2011 at 16,000 last year, just short of 8,000 this year, just short of 9000 in new population coming into the city.

And we’ve already mentioned in the new William Beaumont Medical Center, the community college campus that’s being built at school of nursing and the new Triple-A baseball Stadium. In Fort bliss and this other spending really build the gap just and build some important gaps in income and in the housing sector.

If we look at the performance of the U.S. economy, it has provided very little support to other regional economies, particularly in Texas. GDPs are best and broadest measure of national growth and since the upturn, the recovery began in the U.S. economy in the summer of 2009. It has only grown at about 2.2% annual rate.

And if we ask what's missing in the recovery, if we took the last three recoveries in the U.S. economy and we asked how best the economy and it’s component, consumption investment, government, net exports had grown over the ‘13 quarters after the recovery began, the U.S. economy in past recoveries grew about 3.9%, this time only 2.2%.

And what's missing is the consumer and overleveraged consumer trying to work their way out of debt. Certainly, the housing market is left. It has been left as the significant non-contributor to growth as up until this recent quarter and the government to the extent, they’ve been hurt both by the consumer pulling back by loss of sales taxes and loss of their property tax base have been a significant contributor.

In El Paso, if you look at consumer spending, you can see that there was a significant hit and these are very different measures of consumer spending that you can see a significant hit and a very similar downturn in El Paso, which you all see -- also see a complete recovery than the consumers have over the last year or so return to previous levels of spending.

We know that across the state of Texas because of the lending laws, the debt-to-income ratio in Texas and across Texas generally did not grow nearly as much as it did in the rest of the country because of restrictions on mortgage lending that were not in place in the rest of the country.

And if you look at the housing market, El Paso has not really been waiting like the rest of the country for prices, housing prices to stop falling. Home prices in El Paso remained relatively stable throughout the crisis. And you can see at the end, prices have begun to rise significantly in El Paso over the last 12 to 18 months.

This is a bit of a crunch on the supply side, certainly existing home sales have turned up and turned up fairly sharply in El Paso. Although we’ve not really seen the increase in supply in terms of permits that we might like to see. And again this is a phenomenon we see really across the state of Texas where prices are turning up, problems in putting lots on the ground, bankers and regulators still struggling with exactly how they’re going to do lot development and bankers to certain extent turning to some non-traditional sources to private finance for this lot development.

By the end of this year, I think we will see this turn up in new home construction in El Paso. The price signals are in place and we should see the turn-up across the rest of the state, Texas as well. Multifamily, El Paso has the lowest -- as we look at apartment vacancies, El Paso still has the lowest apartment vacancy across the state in Texas -- State of Texas. Certainly, multi-family has benefited from tight credit that has kept many potential homeowners in apartments and then, El Paso has benefited additionally from the expansion at Fort Bliss.

The vacancy rate is low. Rents in El Paso have increased the most of any of the metro areas across the State of Texas. They are up about 26% in El Paso since 2006. And as you look at permits and permitting for multi-family in El Paso, it leads the state once again and it promises another year of good multi-family construction in El Paso basically to support the local economy.

Now, as Fort Bliss ends and we go back to talking about the El Paso economy from a non-governmental perspective and the focus returns to the private sector. I think it’s manufacturing that again leads the El Paso, leads the El Paso economy forward. If you look at the history of El Paso's employment and you charted it out and you laid it on top of the U.S. industrial production index, at least up to the point of this crisis you would have very little -- you would be hard-pressed to tell the difference until you get to 2007.

Thirty -- forty years ago in El Paso, when El Paso’s per capita income was at that peak and about to begin that long decline. El Paso was a major center for apparel. It was a major center for cut and sew operations, primarily for men’s slacks, Farah, Billy the Kid, Levi Strauss all had enormous operations that they ran. The plants begin to decline in the 1970s. It was a heavily tariff protected industry and as that tariff protection began to erode, the per capita income figure that you saw in El Paso begin to erode as well.

The end of that industry, the culmination comes first with the Caribbean trade initiative, which allowed much of that apparel to move to the Caribbean and then with NAFTA. El Paso really look forward to NAFTA, had lobbied strongly for it and I think were surprised to find themselves because of that low-wage cut and sew operations to find themselves ground zero for NAFTA compensation and for NAFTA retraining funds as a result.

So really, as you look at that long period up to 1994, when NAFTA begins and then their several years of adjustment after that, and that really explains that long period of decline in per capita income as well. And really sets El Paso up for the turn as that manufacturing employment begins to build.

Now, El Paso has very strong leading links into the Juarez Maquila industry, and what we have seen over the years is a tremendous change in the way you think about manufacturing in El Paso. Manufacturing will return to El Paso to have a powerful influence on the business cycle, but not because the manufacturing is located in El Paso, it will.

The manufacturing in the Middle West will affect the Maquila delta across the North of Mexico in El Paso as a strategic portal, manages the trade between the U.S. and Mexico as there's only so many entry points -- major entry points for this to happen. So it's not a direct influence of U.S. manufacturing. It’s a direct influence of the U.S. on Mexico and then back into El Paso and as we’ll see primarily, on-service jobs.

How does it work and how well does it work, this influence of Maquila’s on the El Paso area? Roberto Coronado and I did a study of border cities, not just El Paso but all of the border cities from Tijuana down to Brownsville. And we basically asked, where are these borders cities, what if there's a 10% increase in Maquila production in the neighboring border cities and then we looked at pairs. We looked at El Paso Juarez. We look at McAllen-Reynosa, Laredo and Nuevo-Laredo Laredo. And so what if there is a 10% increase on the Mexico side, what happens in terms of -- in production, what happens to employment on the U.S. side?

And here is the answer for El Paso. We have answers for all the border cities. But the answer turns out that, for every 10% increase in production invoice you get about a 2.8% increase in total employment in El Paso. And if you went back over the last 20 years and ask and put the econometric results, literally, then this would account for about 25% of the job growth in El Paso over the last the last 20 years. And interestingly, the most recent results resulted in the decline in manufacturing in El Paso, not in services but the declines specifically in the manufacturing sector after 2001.

Historically, El Paso after losing the low-wage manufacturing base had developed a number of supplier industries in Southern New Mexico and in El Paso. Things like plastic injection molding, metal stamping and parts that were delivered to the Maquila in Juarez. With 2001 and September 11, 2001, security standards on the border rose dramatically, making it really difficult for suppliers in the United States to deliver for just-in-time inventory purposes in the Mexico. And much of that manufacturing was pushed in the Mexico as suppliers located in Mexico. So manufacturing, yeah, it takes another hit in El Paso even after you get to 2001.

And the growth we see today is primarily in managing the cross-border trade and transportation services, trucking and railroads and retail employment. As Mexican employees get better income and whereas they come and shop in El Paso. Financing cross-border trade, insurance, real estate, warehousing and indeed El Paso provides lots of these real estate services on the Mexican side as well in terms of warehousing and plant location. 1.8% in service employment.

And I’ll talk about the service employment in more depth in a few minutes. But that service employment is increasingly in what you might call high-wage, higher-order services. Really, the first development of these kinds of services we've seen in Texas border community.

So our results indicate a very strong link into Northern Mexico. We continue to be related to manufacturing, although El Paso now has a relatively small manufacturing base and it is good news because the service jobs that are growing tend to be higher wage and better performing jobs. We seem to have finally reached the end of moving manufacturing out of El Paso over the course of this recession. We’ve seen it stabilized at about a 5% or 6% of the El Paso total labor force. But the long transition period finally seems to come to an end.

And we have seen, cyclically, one of the strongest performing sectors in this recovery was manufacturing, up until this last quarter in the U.S. economy in this U.S. data and this U.S. data shows a real stalling of manufacturing over the second half of last year with the inventory collection that I mentioned.

As I said earlier, we have not seen this, in El Paso, our estimates from the Federal Reserve Bank of Dallas put together or the Maquila employment in Juarez that is still growing at about 5%. And the goods moving through the port of entry at El Paso are still growing at about 6% on 12 months rate as of last November.

Vehicle sales have become incredibly important to Mexico and to the Maquila industry. For many, many years, Mexico has been the major supplier of auto parts to the United States and it has stood up very well against Chinese inroads into that industry over the last couple of years. Mexico has passed Canada to become the number two assembler of autos in the United States. And again, all of this passes through the strategic ports located in Brownsville, McAllen, Laredo and El Paso.

So the recovery in the auto industry continuing is very important to Mexico and to the auto industry. In Mexico, recovery is still going strong. 3% to 4% rates of growth that came back very rapidly from the downturn. This was not their financial crisis and we have seen Mexico really tap into some strength from the emerging economies around the world. But the main driver of the Mexican economy is manufacturing goods for the United States. 80% of their exports come to the United States. 80% of those exports were manufactured goods, and the engine of growth for Mexico is basically the Maquila industry and the associated domestic industry that goes with it.

Their internal sector is performing strongly. It has posted strong gains and employment. Credit is flowing freely into the private sector and foreign direct investment is strong, portfolio investment perhaps stronger than the Mexican Central Bank would like to see it. And the recovery going forward is expected to be strong. It’s important to note that like many other emerging economies that have set up this enormous, they have put together enormous foreign reserves of $160 billion in foreign exchange reserves. These are basically, meant to ward off the kind of crisis that have haunted many of these emerging economies in the past. And over the course of the crisis, they set up another $70 billion in contingent credit with the IMF, again, to ward off these kinds of financial crisis.

So the outlook for Mexico continues from virtually all sources. To be strong, it's important for El Paso to see that Juarez is quite the size of El Paso to see this kind of strength in Mexico and confidence in the Mexican shoppers and their ability to tap into domestic credit sources.

El Paso’s future, I think lies with cross-border trade. I showed you this chart, earlier on how El Paso quickly has made up for three decades of lost ground. And certainly as I will show you, the Medical Center, especially it’s the Fort Bliss expansion made tremendous difference in that 2007, 2010 period during the downturn. And all of those contributed, but it's also important to realize that as we look at the timing of -- as you look at the timing, it’s a process that began well before Fort Bliss. And as I showed you, it shared up and down the U.S.-Mexico border. It is not simply an increase in per capita income that is specific to El Paso.

Roberto Coronado and I again look at this fairly carefully and we did a piece for the Federal Reserve Bank of Dallas and I encourage you to read it. And I'm not going to read to you today. We’ll just go through the results very quickly and what I think are the really important results.

We sort of looked under the hood of these border economies and ask what is it that makes them work, what is it that drives them? And we looked at Fort bliss, which was very important for El Paso. We looked at healthcare and again, it's an important driver of income in these communities. But we warned you upfront, we could tell you very little about the El Paso Medical Center.

The decline of manufacturing is important in all of these communities, up and down the border as they saw the work shift since 2000, especially after 9/11 shift into Mexico and we looked at cross-border trade, we look at transportation, we looked at six key service sectors that turned out be quite important in explaining this growth in income. And we looked at civilian federal government line because of the growth and border protection, the border patrol and customs over the last decade.

The Fort Bliss event, if you look specifically at 2007 to 2010, was quite -- was quite extraordinary. In the U.S., as this crisis hit in 2007, construction in the United States subtracted about on average, 9 percentage points from U.S. earnings over that time period. It was a dramatic turn down.

In El Paso, construction actually added about 0.2% to personal income over that time period. So there was a 9% turnaround that can largely be attributed to Fort Bliss and related construction over that timeframe. In military earnings, the build up for two wars added about 0.2 percentage points in the U.S. It added 9.1 percentage points in El Paso during that time period.

So basically you have this, 20 percentage point turnaround due to Fort Bliss when compared to two key -- to just two key sectors. Healthcare -- healthcare is, we could say very little about healthcare. First, the medical school is buried in these poor communities by Medicare and especially Medicaid expenditures, government expenditures.

El Paso’s expenditures have grown much more slowly than the other border cities in South Texas, and that itself is the point of considerable controversy both in the popular literature and in the academic literature as to whether or not the South Texas Medical Community has been systematically milking the Medicaid expenditures in South Texas. And while, El Paso hasn't done the same thing or whether we just haven't, El Paso’s culture is different.

So what we could say about healthcare was relatively -- was relatively limited especially as you go forward. In other words, we bring these expenditures under control in South Texas and then what happens of course as we talk about the ObamaCare going forward. Most important result, I think we got, had to do with manufacturing.

First, as I said that decline of manufacturing over the entire -- over the entire 2001, 2010 period that we look at was subtracting about 10 percentage points from earnings over this entire period. That decline has seems to have come to an end, so that 10 percentage point decline that you saw between 2001, subtraction took place from 2001 to 2010 has basically come through an end and manufacturing has stabilized at low level for the El Paso economy.

The most important trends that we found were that there are some very key service sectors that were driving growth. It was not so much transportation over this particular period although transportation has been important according at least to the different study with the econometric results.

We did find some gains although it was not really large and important from the expansion of border patrol and customs which border patrol basically doubled in size over that decade. But the biggest contributions came from six service sectors, from information, real estate, finance, professional services, management of companies and administrative services. The sectors are small and they’re growing rapidly. And it really marks the first time that these highly desirable service sectors, the higher-order services have really evolved on in these border communities.

So increasingly, it looks like after the extensive adjustments to NAFTA and post-9/11 that the El Paso economy in terms of cross-border trade has finally reached the point where it can fulfill some of the long-run promise of NAFTA. I mean, the idea of NAFTA was that these communities were not going to be lost at the edge of the country any longer. That they would be right in the center and sitting at strategic portals between the U.S. and Mexico in terms of a large North American continent.

And it looks like El Paso actually may have finally arrived at the point where some of that promise can be fulfilled. It’s been long and difficult path in terms of the adjustments first from NAFTA itself been from 9/11, but the emergence of this cross-border trade up and down the border and the kinds of income gain that seems to be driving seems to be very promising development for the community and for the other border communities as well as we move forward. We have time for questions.

Steve Busser

Yeah.

Bill Gilmer

Yeah. I would be happy to respond to you.

Question-and-Answer Session

Maury May - Wellington Shields

Hi. It’s Maury May, Wellington Shields again. Okay. So Dr. Gilmer, you are tying the El Paso economy to the Mexican economy and you are saying that the Mexican economy is a 3% plus grower?

Bill Gilmer

Right.

Maury May - Wellington Shields

So to tie it really to El Paso, you've got to go through the maquiladora manufacturing in the Juarez area?

Bill Gilmer

Right.

Maury May - Wellington Shields

So what is the Juarez maquiladora growth rate?

Bill Gilmer

We don’t have the result -- I mean, backup to -- the Chinese joined the World Trade Organization. And we’re looking at employment. Then the birth of maquila was as a jobs program. And there has always been a focus -- a tendency to focus on the maquila as it ends employment.

And what happened when China joined WTO is that Mexico lost all of its low-wage apparel jobs, textile, leather, toys, all of those were taken by China. The maquila has restructured into much higher productivity industries. It is now automobiles as I mentioned really a key component of it. Aerospace, medical instruments and it's now much more difficult to talk about jobs and the growth of jobs.

Unfortunately, the Mexican government has only measured jobs and we don't have a measure of output. We know productivity has grown very rapidly just because of the shift in the composition of this industry and what matters for El Paso is the growth of the production over there because El Paso manages the trade and moves the boxes back and forth. How many trucks, how many boxes, it's not how many employees are in Juarez.

Now, employment is growing faster. It’s been growing at about 5% in Juarez over the last year. If we assume very high production and productivity in manufacturing then you know output is growing 8%, 9%, 10% in terms of production. But we don't really get those numbers from the -- from the Mexican government that changed the definition of the Maquila, a few years ago and the whole statistical system changed and that was lost along the way for the metro areas in particular.

Maury May - Wellington Shields

Now the political and other social issues related to Juarez, Juarez was on the front lines of the drug war?

Bill Gilmer

It is.

Maury May - Wellington Shields

Give us an update on that?

Bill Gilmer

First, let me say maybe the most important point to make is that the drug war goes completely -- has gone completely around the maquilas. These are large industrial plants. They have always been targets for random violence in the sense that payroll robberies were fairly common before the drug violence took the headlines.

Most of the problems in Juarez have been street issues in terms of me, for example, when I lived in El Paso last year, for me to go over there, it was question of express kidnapping, carjacking, muggings on the street and an inability of the police to respond to that kind of thing or an unwillingness with them to respond. There was really no one to appeal to.

So the drug violence has been less of an issue, it's more of the street thuggery that really grow everyone out of Juarez area in terms of visiting. That’s actually had a short-term positive influence on the El Paso economy. It’s not necessarily been good for the local consumer.

If you lived in El Paso for decades, the nightlife within El Paso, if you wanted cheap upholstery for your car or you needed the car repair. You need dents knocked out of your old car, you took it over to Juarez. Though there was a huge retail trade. We know about the Mexican shopper in El Paso, it was the American shop. All of that work has moved back into El Paso because no one has been willing to go over there.

But the big effect -- the big plants have been, the violence has really gone around them and it hasn't affected the maquila industry. Just over the last year or so, you start to hear some stories about -- concerned about locating in Juarez but I think with the violence now receding and that's really has more to do with one side winning that particular war than anything else as that violence recedes, you’ve seen even the talk of unwillingness to locate in Juarez fallback to a considerable extent.

Maury May - Wellington Shields

Thank you.

Unidentified Analyst

Over the past several years, we’ve seen fairly robust load growth in El Paso service territory. Primarily, I would say a function of the Fort Bliss built out. With Fort Bliss in it's kind of final year of its plan, what's -- could you talk about the sustainability of 2% to 2.5% load growth over the next, say, three to five years?

Bill Gilmer

I can’t really talk about load growth because I'm not that familiar with El Paso Electric load forecasting side of it. I think maybe the message I was trying to deliver today is that I think we’ve really come to the Fort Bliss period, an extraordinary period of expansion. There is no way to take that away but at the same time that period really disguised what was the culmination of things that were happening, not good things for the El Paso economy in terms of what was happening to that manufacturing sector in that restructuring, while it disguise some bad things the recession came through and really forced us, it really was the last flush out of the old manufacturing in El Paso.

And so now we have those sustained losses for example of 10% per year in manufacturing from the loss of manufacturing through that period, while that’s no longer than in it happened in El Paso that now turns to a positive for the city.

And certainly the reef is like, what I call the privilege place that Mexico has now in this restructuring in North America, the huge -- the big, big programs that the automakers are moving into Mexico now all of those really speak well for growth in El Paso in the future.

Now whether it will match the Fort Bliss years, I can't really say, but you have to understand that it disguised that, those growth rates, those overall growth rates disguised some bad things that were happening under the surface. What happened was really good for El Paso but we moved through that time period and I think the border cities are now in a very good position for sustained growth going forward. Thank you.

Unidentified Analyst

Is there a possibility of Fort Bliss going another set of soldiers at the base, we’ve been talking about this for years, maybe that there is one more leg of the Fort Bliss story that hasn’t been discussed?

Bill Gilmer

Well, there are -- there is always rumors, right, there is good rumors, we talked about the bad rumors today and there are good rumors right before I left El Paso, I was on the Board of the Chamber of Commerce there and there was considerable discussion of the Air Force being interested in Fort Bliss for example.

The Air Force interest in, what used to be the old big Air Force base there, big Air Force base was a sack base, has very long runways, plus the opportunity to train with those soldiers in terms of tactical air cover and that's sort of thing is very tempting as well.

But I couldn't give you any more substance than the rumor I heard at the Chamber of Commerce which I would not get any money on. So but those rumors are always or have been out there, and they’ve been out there for quite some time. Any other question? Great. Well, thank you guys very much. My pleasure.

Steve Busser

Dina, so at this point, I think our call has concluded. We’d like to thank everybody for joining us both on the call and here in person in New York. Thank you all and have a great day.

Operator

Again, that concludes today’s presentation. We thank you for your participation.

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