Thomas Smegal - VP, CFO and Treasurer
Peter Nelson - Chairman and CEO
Martin Kropelnicki - President and COO
Jonathan Reeder - Wells Fargo
California Water Service Group (CWT) Q4 2012 Earnings Call February 28, 2013 11:00 AM ET
Good morning, ladies and gentlemen. Welcome to the California Water Service Group Fourth Quarter and Year End 2012 Earnings Results Conference. Today's call is being recorded.
I would now like to turn the meeting over to Mr. Thomas F. Smegal, VP, Chief Financial Officer and Treasurer. Please go ahead, sir.
Thank you, Dianna. Welcome to the fourth quarter and year end 2012 earnings call for California Water Service Group. With me today is Peter Nelson, Chairman and CEO; and Martin Kropelnicki, President and Chief Operating Officer.
A replay of today's proceedings will be available beginning today February 28, 2013 through April 29, 2013 at area code (888) 203-1112, replay pass code 8496669. Before looking at this quarter’s results, we would like to take a few minutes to cover certain forward-looking statements.
During the course of the call, the company may make certain forward-looking statements. Because these statements deal with future events, they're subject to risk and uncertainties, and actually results could differ materially from the company's current expectations. Because of this, the company strongly advises all current stockholders as well as interested parties to carefully read and understand the company's disclosures on risks and uncertainties found in our form 10-K, 10-Q and other reports filed from time to time with the Securities and Exchange Commission.
Now, let's look at this quarter’s forward-looking statements. And as a reminder, we will be filing our 10-K later today and all the matters that are discussed today are described in detail therein. So I'm going to first go over our income statement, quarterly results. On revenue side, we recorded a $121.5 million for the quarter that’s up 18% or $18.5 million from 2011.
Our sales to new customers added $300,000 rate increases added $2.4 million, production offsets added $3.2 million, usage and other factors added $12.6 million, and remember that 2011 reflected a deferral of $12.9 million of WRAM revenue that accounts for the major difference here.
Our production costs for the fourth quarter were $44.6 million. That’s up 2.6% or $1.1 million and that’s primarily driven by purchased water up 4.8% or $1.7 million to $36.1 million, purchased power was down 5.9% or $0.4 million to $6.4 million.
On the A&G expenses they were $24.8 million for the quarter, up 7.6% or $1.7 million. That reflects higher labor and benefits expenses, healthcare retiree, healthcare workers’ compensation and pension expense. The pension expense is covered by a balancing account in California.
In Other Operations, they were up $17.9 million for the quarter, up a 162.5% or $11.1 million. And again here in the comparison 2011 reflected a deferral of cost associated with the deferred WRAM revenue. And the deferred cost and revenue were recognized throughout 2012, but primarily in the second quarter of 2012. That accounts for the major difference in this category.
On the maintenance side, our maintenance was $4.4 million for the quarter, a decrease of 20.9% or $1.2 million, and that’s reflecting decreased costs of main and service repairs. Our depreciation was $13.3 million for the quarter, an increase of 4.6% or $0.6 million.
Income taxes were $0.6 million for the quarter, a decrease of 11% or $0.1 million, and that reflects primarily the new corporate tax regulation on repairs and maintenance that was discussed first in the third quarter.
Our net other income was $1.1 million of the income net of expenses, and that had been a loss of $1.8 million in the fourth quarter of last year. The increase here is primarily due to an unrealized gain of benefit plan insurance investments.
Our net income for the quarter was $5.0 million, up 168% or $3.1 million from the fourth quarter 2011 value of $1.9 million and earnings per share were $0.12 on a fully diluted basis up a 167.4% from $0.04 in the fourth quarter of 2011.
For year end, our results, our net income was $48.8 million up 29.5% or $11.1 million from 2011. Our diluted earnings per share of $1.17 increase of 29.1% or $0.27 over the prior year.
As we first described in the third quarter, $0.15 of the earnings reflects a reduction in tax due to applying new repairs and maintenance tax regulations to plant from 2011 and prior years that was previously capitalized. Now, we estimate that the repairs deduction for the year 2012 added $0.04 to net income, and we do anticipate a continuing benefit from the tax law changes in this area. I will also add for the year, our sales where 92% of the CPUCs adopted sales compared to 86% in 2011.
Now, I’ll turn it over to Pete Nelson for a regulatory update.
Thank you, Tom. Good morning everybody. I have got three quick subjects this morning. One is I’ll talk about rates, give you rates update, and I’ll cover our major general rate case in California. And then I’ll talk about two Hawaii rate cases that we expect to come to conclusion this year. Secondly, I’ll talk about two new people have taken over key positions since our last call. One is we have a new California Public Utilities Commission Commissioner, and second at Cal Water we’ll have a new Rates Officer starting on Monday.
So, first general rate case update. Our current general rate case in California, recall our 2012 general rate case is about to end our very hectic period starting tomorrow and I think its be helpful for me to walk through the next steps in this rate case so you can see what’s going to happen between now and the end of the year.
Tomorrow, Friday is the day we receive what we call the staff report. This is what the Commission's Department of Ratepayer Advocates thinks we should be receiving in rate relief as supposed to our filing, which is originally asking for $93 million in 2014 and then $17 million in each year 2015 and 2016. So, we’ll get the staff report on Friday and they will tell us on a capital project by project and expense category by category what they think we should receive in a way of rate relief. Then that kicks off a 60 day period for us to file rebuttal testimony, that’s March and April, and then after that we have 30 days in settlement discussions, which takes us from May 1st to June 1st.
The items that are not settled in that one month will go to evidentiary hearings the first two weeks of June, two weeks for that. This is what it looks like a trial with witnesses and briefs and examination, cross-examination and all that. And then when that’s concluded the administrative law judge takes all that material and composes his proposed decision. Once he issues that, there is a 30 day comment period. And then once that’s finished, if all stays on schedule, the Commission should have something on their agenda for a decision on this case before the year end.
So, I guess, in summary, we are starting our final lap of this rate case; it’s gone on since July of 2012. If anything would delay this decision and those things happen, our usual practice is to ask for interim rates and memorandum account to keep track of the revenue we would have received going back to January 1st and then ultimately recover that revenue in rates from customers.
At this point I am sympathetic to the people on the call because it’s going to be difficult to financially forecast our 2014 results. Tough year to model for you folks but we won't be able to help you much there because there is so much uncertainty in the next few months on this rate case.
Next I’ll talk about Hawaii. We have two rate cases there that are active. One is our Pukalani rate case, Wastewater case, it’s a relatively small case. We have settled that case and we were waiting for this decision to approve a phase in of the rates there $200,000 pardon be in each of the first three years starting this year 2013.
The other rate case is our Waikoloa case which is a total of $6.3 million we’re requesting. We filed that in August of last year; it’s now in process and we expected decision this year.
Going back to the two people I want to talk about, one is new Commissioner at the Commission. Governor Brown appointed Carla Peterman in late December to the Commission for a six year term; she replace this Commissioner Simon. She comes to us from the Commissioner role at the California Energy Commission. We have met with her she has shown some interest in Water, but I would really expect her given her background to be more focused on the electricity in California.
The other person I would like to talk about is Paul Townsley who is our new Vice President Regulatory Matters and Corporate Relations replacing Thomas Smegal in that role.
Paul is no stranger to the Water business especially in the Western states. He started his career at Citizens Utilities, and when American Water Works acquired Citizens a few years ago he was running Citizens Water and Wastewater business nationwide. Then at American he worked through several positions and ended up learning their regulated and non-regulated businesses in the Western region which is the Western states including Hawaii. And when EPCOR recently purchased American’s New Mexico and Arizona subsidiaries Paul was the Divisional Vice President for Operations and Engineering for EPCOR’s New Mexico and Arizona operations.
I would say everyone any investor in Water business knows and respects Paul highly. For those of you who have not met Paul you will and I know you’ll enjoy getting to know him and work with him. We just feel fortunate to bring Paul on board; the timing is good for us obviously and he will run our rate making communications and government community relations functions here at Cal Water. Reports to work on Monday. Looking forward to that.
So with that, I’ll go back to Tom to talk about changes in the balance sheet.
Thanks, Pete. I will just make a couple of notes about the balance sheet. Our net utility plan is $1.457 billion for 2012, that’s up 5.5% from the year 2011 value. Our capital expense in 2012 was in $127.7 million versus $118.5 million for 2011. We ended the year with $38.7 million in cash and we do our borrowings on our lines of credit, revolving line of credit facilities of $89.5 million at the end of the year.
We want to highlight three important factor for us that the net WRAM balance, this is the decoupling mechanism in California. At the end of 2012 the WRAM receivable was $46.1 million, that’s down from $49.6 million at the end of 2011, a decrease of $3.5 million or 7%. The decrease is driven in part by higher water sales in 2012 and but really because of higher collections due to the adoption by the CPUC of a new decision in April of 2012 which allowed accelerated collections of those of those WRAM balances. So, we’re really starting to see the effect of the Commission's decision on that WRAM balance driving it down again 7% in 2012 so, we’re looking forward to, to continuing to resolve that issue.
And now, I’ll turn it over to Marty for some comments about 2013.
Thanks Tom. I want to take a couple of moments just to recap 2012 and talk about 2013. As Pete mentioned, there is a lot of moving parts. As many of you may recall 2012 started off a little rough for the company, in particular, we had a delayed cost to capital decision as well as the delayed WRAM decision, and what the delays in our WRAM decision essentially it was constricting our cash flow.
So, early on in the year by the end stacked about 45 days after our earnings call those two issues were resolved and, as Tom mentioned, it’s nice to see that WRAM receivable dropping. As a result, our FFO ratio to debt has gone up but as backup above 17% which is good; that’s given us more money that we can invest in capital.
In addition to getting those two regulatory issues resolved. As Pete mentioned, that is the second time in the company’s history we filed an all California rate case. It’s the largest rate case we’ve ever field for the California Corporation and we are in the process of working that rate case to a conclusion.
In addition, the company made several progress in several fronts during the year. Company-funded CapEx, as Tom mentioned, were $127.7 million, approximately a $119 million was company investment, that’s investment that will ultimately end up in rate-based and will grow future earnings. Our targets for 2013 is between a $120 million and $130 million of company-funded CapEx.
In addition, as many of you may be aware in California we get step increases are inflationary offsets. However, those step increases our subject to at earnings test. In 2012, we’ve done the best; we’ve done on our earnings test with 19 of our districts passing the earnings test. And as a result, the company is receiving $9.6 million in new rates effective January 1, 2013. That was the focal point for the company to get more of our districts pass in the earnings test and we feel really good about the progress we made over the last 12 months.
In addition, during 2012, in January 2012 the company increased its annual dividend to stockholders 2.4%, which is followed up by a 2% dividend increase that was announced last month on January 30th.
The dividend increase that was announced on January 30, 2013 represents the 46th consecutive annual dividend increase that we’ve been able to give our stockholders.
So, overall 2012 which started off little rough, ended up with some good operational and financial results.
Having said that, 2013 the company will face a number of challenges, and the operational headwinds will be the strongest, given the fact it’s the third year the right case cycle in California, which is by far our biggest utility that we operate. And frankly, the inflationary step increases aren't enough to keep up with the actual inflationary increases we're seeing on several lines.
In particular, health and welfare cost are growing at a much faster rate than we are working relief for. Labor cost are up, although the company has an excellent working relationship with our unions, and the union and management work together to minimize labor increases in 2013, labor cost are still up.
And we have increases in taxes associated with the phase that have certain deductions. As Tom mentioned, we had the maintenance repairs deduction, which on one hand is great; it gave us more income, it's given us more cash flow, but on the other side it phases out other deduction. So you’ll see taxes move up and you’ll see the corporate tax rate move around a little bit.
These things coupled with the cost of capital adjustment mechanism, for 2013, the company will lose $3.9 million or $0.06 a share associated with the cost of capital adjustment mechanism that took place on January 1, 2013.
So for 2013 what’s our plan? As I said, there are a lot of moving parts, its important to read the K to understand all the moving parts. But our plan is way quite simple; one, continue to tightly manage the operating budget. During 2012, we implemented new tools and techniques to better manage our budget. As we said in the press release cost associated with interest expense, outside services maintenance were tightly managed and we’re able to offset some of the headwinds that we face.
We want to keenly focus on completing the rate case on time that requests for $92 million of new revenue and $480 million new capital against the largest rate case in the company’s history, trying to drive that to a logical conclusion. And three, stay focused on finding operational efficiencies and advice letter projects that can help enhance revenue. Of course, these three things are in addition to doing what we do best which is serving our customers. By staying focused on these three items the company will take every step to help minimize the headwinds and position ourselves for 2014 when the new rates will hopefully take effect on January 1.
With that, Tom, I will turn it back to you.
Thanks, Marty. I did want to mention one more thing about the Cost of Capital Adjustment Mechanism and that is to remember that it’s a two-way mechanism. So, each year in October we evaluate whether the Moody’s AA Utility Bond Index has moved past the collar which is a 100 basis point collar from the October 2012 value. And if it has we will make another adjustment either up or down depending on what’s happened in the ROE. And so, it’s important to know that’s a two-way mechanism and it goes on into the future.
I think that wraps up our presentation for today. Dianna, I think we are ready to take questions.
Thank you. (Operator Instructions). And we will take our first question, we’ll hear from Jonathan Reeder from Wells Fargo.
Jonathan Reeder - Wells Fargo
Good morning gentlemen. I got one question, I apologize if I missed it in the prepared remarks, but what was the overall year-to-date insurance gain, I think it was $0.05 through Q3?
Yeah, Jonathan, just a second while we look that up. So, the (first) markets gain for 2012 was $2.5 million, so $1.9 million loss in 2011.
And Jonathan, this is Marty. One thing to point out on that the company does have a pretty sizable asset there is between $22 million and $25 million. During 2012 one of the steps we took was to trying to derisk that portfolio and bringing the data associated with those assets way down. So, overall through the year we are happy with the lower volatility of the portfolio and the way it performed for the year.
Jonathan Reeder - Wells Fargo
Okay. But so this year it was actually about a $2 million loss though it was what you are saying.
No, $2 million gain in 2012.
$2.5 million gain in 2012 versus $1.9 million loss in 2011.
Jonathan Reeder - Wells Fargo
And so I guess that and the catch-up of the repairs tax deduction at $0.15, so it’s kind of be the only two non-recurring items that you would single out, is that accurate?
Well, going back to the retirement assets we don’t budget from an operating perspective any gain or loss associated with those assets, but the fact is they do follow the market and again we do have between $22 million and $25 million in those assets. So, in a normal market it’s probably fair to expect you’ll have some rate of return on those assets. That’s why trying to derisk the portfolio and minimize the volatility from our earnings standpoint was really important.
And Jonathan, just on the other issue of course is the WRAM deferral that we had in 2011 that we rebooked revenue in 2012. So that’s not going to recur that netback into the income statement.
That was about $0.04.
That was about $0.04.
Jonathan Reeder - Wells Fargo
Okay. That was a $0.04 benefit.
Jonathan Reeder - Wells Fargo
Okay. And then just the other point of clarification Marty you mentioned $3.9 million or $0.06 impact from the cost of capital. Is that net income or is that revenue?
That would be the EPS effect.
Jonathan Reeder - Wells Fargo
So, yeah so that, the $0.06 is the actual tax that we’d anticipate on a per share. So, earnings per share will go down $0.06 per share just by the Cost of Capital Adjustment Mechanism. And I just want to emphasize Tom’s point we’ve actually gotten a couple of calls from people who are - who have studied the mechanism now would have come back well this - it’s kind of bummer it’s gone down over two years, but it also is kind of a hedge against inflation because it’s a two-way collar. So, it’s a two-way balancing accounts but the interest rate start to raise drastically we are not waiting, we have a 12-month window that were exposed for our last and then we have the opportunity to reapply to bring that rate back up.
Jonathan Reeder - Wells Fargo
Right. We are still pretty early I know in that process for the current year but and I even looked at it personally, but do you know where it stands I mean are we tracking down a little bit, but I mean obviously well within 100 basis point then?
Yeah, I haven’t looked at the utility index; I’ve been following the 10-year bond and the 10-year bond is hovering up around 2% right now, so it’s moved up. I want to say its about 30 basis points to 35 basis points from its low of about 1.6, 1.7. So, clearly the 10 years moved up a little bit and most utilities when they issue a bond price off the 10 year treasury with a spread, credit spread on top of it. So, I think we’re going to see and try to move up the other way. The one on CNBC once that said don’t bet against the fed or don’t fight the fed, and I think this mechanism kind of follows that methodology. Two years ago we thought, interest rates could never go lower but they did. I just don’t see them going any lower now.
(Operator Instructions). And I show that we have no further questions. I would like to turn the call back over to Mr. Smegal for any closing remarks.
Thank you, Diana. Thank you all for your continued interest in California Water Service Group. 2012 was a good year for the company and we look forward to talking with you again as we move through 2013. Thanks very much.
This does conclude today’s conference. We thank you for your participation. You may now disconnect.
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