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Progress Energy Inc. (NYSE:PGN)

Q1 2009 Earnings Call

May 5, 2009 10:00 am ET

Executives

Bill Johnson - Chairman and CEO

Mark Mulhern - CFO

Bob Drennan - VP, Investor Relations

Analysts

Jonathan Arnold - Merrill Lynch

Travis Miller - Morningstar

Operator

Good morning and welcome to Progress Energy's 2009 first quarter earnings conference call. This call is being recorded. All of your phone lines will be in a listen-only mode, until we begin the question-and-answer session.

For opening remarks and introductions, I will now turn the conference over to Bob Drennan of Progress Energy. Please go ahead.

Bob Drennan

Thank you, Jake. Good morning and welcome to everyone. Joining me this morning are, Bill Johnson, our Chairman and Chief Executive Officer, Mark Mulhern, Chief Financial Officer and other members of our management team. This call will be archived on our website for the next two weeks.

We're currently being webcast from Investor Relations page at Progress-Energy.com. We'll also be offering an audio replay of this call in the MP3 format which also will be available from our website. I would like to direct your attention to our website where we've included a set of slides which accompany our speaker's prepared remarks this morning. Those slides can be found at www.progress-energy.com/webcast.

Today, we'll be making forward-looking statements during this call, as well as, reviewing historical information. There are numerous factors that may cause future actual results to differ materially from those statements and we outlined these in our earnings release, Form 10-K, 10-Q and other SEC filings, as well as, our risk factor discussion will also found in our 10-K and 10-Q.

This morning, following opening comments from Bill and Mark, we'll then open the phone lines to address your questions. Now, I'll turn the call over to Bill Johnson.

Bill Johnson

Thanks Bob and good morning, everyone. Thanks for joining us on our first quarter call. We certainly appreciate your interest in Progress Energy. I know that this is a busy day and a busy time for you with numerous calls going on. So, we'll get right down to business here. If I can turn your attention to slide four, it gives you an overview of the topics I intend to cover.

I'll start with an overview of the results for the quarter and then talk about a few of our key issues, including our Levy nuclear project, our Florida rate proceedings and what's happening on the federal energy policy front. Then Mark, our CFO, will provide more detail on the numbers.

We're off to a strong start this year. I'm really pleased that despite the weak economy and the other challenges we face, we once again demonstrated both solid financial results and strong discipline in executing our plan. And frankly, that's what you should continue to expect from us. So, let's take a look at the first quarter results on slide five, you can see the highlights of our first quarter ongoing earnings.

We posted $0.66 a share, which is up $0.10 over the first quarter a year ago. Of course, we have continued to see retail weakness in Florida and also lower industrial demand which is more of an earnings driver in the Carolinas. We've had strong residential sales in the Carolinas and favorable contributions from our wholesale contracts.

In Florida, our average number of customers served in the first quarter decreased by 8,000 compared with the same period a year earlier. But, we do see some signs of improvement or at least of stabilization. We actually had a net increase of 1,600 customers in the first quarter, as compared with year-end 2008. So, that's an encouraging sign.

In the Carolinas, we had a net increase of 18,000 customers in the first quarter, compared with a year ago. So, given these results, and given the discipline we've shown in executing our plans and managing our business, we're affirming our 2009 ongoing earnings guidance range of $2.95 to $3.15 per share.

Our net income is actually expected to grow by almost 10% this year, but, some of this obviously, will be offset by the dilution from the January equity issues.

Now, to stay on track to achieve these results, we remain focused every day on capital and O&M discipline. We remain focused on the nuts and bolts of our business, including executing our plant outing schedule and the construction programs at both of our utilities. We think of execution as the art of getting things done and execution is critical in this business and especially in times like this.

We're also in a good situation in terms of liquidity and financing. We successfully raised about $1.9 billion in the capital markets earlier this year and that should be the end of any significant financing for 2009. In a moment, Mark will provide more details on our first quarter results.

But before that, I wanted to turn to the announcement we made last Friday, concerning our Levy nuclear project. As most of, you know, we've been proceeding in a very deliberate and disciplined way down a path to build two new reactors, about 2200-megawatts on a Greenfield site in Levy County, Florida. This remains the top priority for us.

If you turn to slide six, you'll see that description of two parts of an announcement we made last Friday. One, a construction schedule shift due to the licensing timeline and two, our annual nuclear cost recovery filing with the Florida Public Service Commission.

Now, this schedule shift of at least 20-months is a result of our analysis of the NRC's determination, that the excavation and foundation preparation will not be authorized before receiving the Combined Operating License.

We expect the NRC to issue this license in late 2011 or early 2012. Although, this means that the plant will be scheduled for completion later, shifting this portion of the work until we have the license in-hand has a silver line. It reduces the financial risk to our customers and shareholders in the near-term, and it allows for greater clarity on federal climate policy and greater stability in the financial markets.

This nuclear project remains our best baseload generation option in Florida. So, we're moving forward with it, but at a slower pace than envisioned, when we planned on commercial operation of the units in the 2016-2018 timeframe. As I said, we see a minimum 20-month adjustment in these dates.

We're in the very early stages of working with our vendors on this, so we'll have more clarity on the revised schedule later this year. As for any impact on the cost, we'll address that in the amendment to the engineering procurement and construction agreement, also later this year.

In our PCS filing last Friday, we included our nuclear cost recovery for estimates for 2010. We also included our proposal to spread certain costs over five years, which would lessen the annual cost impact on customers. Our proposal would decrease the 2010 nuclear cost for the customer to nearly half of the amount we're eligible to recover next year under the Florida statutes.

The nuclear cost recovery hearing will be in September. We expect the PSC decision by mid-October. Mark will give a little more information on the financial impact in this Levy schedule shift in a minute.

Now, some of you might be wondering about our investment thesis in light of this timing adjustment to our Levy project. Well, turn to slide seven, which most of you seen before. This is a reminder of the significant investment we're already making on our two utilities, apart from Levy nuclear construction. As you can see from the slide, the trend line here shows a healthy growth rate.

Slide eight as an example, shows four major plant projects that are indicative of these investments, we're making for the benefit of both customers and shareholders. The Bartow Plant being converted from oil to natural gas, which will be completed next month. The new Wayne County CT will also finish next month.

180-megawatt upgrade of our Crystal River nuclear plant to be completed in 2011, we're also replacing steam generators there this year. And the new Richmond County combined cycle, where we're breaking ground later this week. We're also making substantial investments in our transmission system of both the Carolinas and Florida.

On slide nine, you'll see a number of the major environmental compliance projects, which also represent significant capital investments. Last month, we completed the scrubber installations required to meet phase one of the North Carolina Clean Smokestacks Act. We're in the midst of the environmental retrofits at our Crystal River Fossil Units 4 and 5 in Florida.

So, it should be clear from the slides that there is a robust investment story in our two utilities. It's driven by the need to meet future growth, as well as to implement federal and state energy and environmental policies. As those policies evolve over the near-term, I believe they're going to present and perhaps mandate is a better word, additional investment opportunities for a company like ours.

Now, I'd like to turn to a quick update on our Florida rate proceedings. Slide ten, summarizes some of the facts about our March 20 filing for our base rate increase in 2010. It's a $499 million rate request with a 12.54% return on equity. PSC hearing begins in September on this request a decision is expected in November, in time to put the new rates in effect January 1 next year.

As, you know, we have several other moving parts in our process with the Public Service Commission in Florida. So, we put together the chart on slide 11 as a quick reference of key dates in four separate rate proceedings including the base rate case. You note from this slide that the Public Service Commission will reach a decision in three of the dockets within the next 45 days.

The interim rate relief associated with our 2008 ROE is expected by May 19th. Also by May 19th, the limited rate relief associated with the Bartow Plant Repowering and by June 15th, our petition related to several accounting orders. Then, as I said, the PSC will decide this fall, on our base rates that go into effect January 1st.

To conclude with slide 12, I want to comment on National Energy Policy debate. As, you know, there is a lot of attention on the Waxman-Markey bill in the house. This is a very comprehensive package. It's about a 650 page bill that includes everything from carbon cap and trade to a renewable electricity standard to an efficiency standard.

We're actively engaged in these policy discussions and I'm personally very involved in it. And one key point we're making with legislators is that our overriding goal here should be to achieve the greatest reduction in carbon emissions at the least cost and the least economic impact. Now this seems a common sense approach and I'm pleased that there's growing recognition of the need to address climate change in a cost-effective way.

Reducing CO2 is clearly the right thing to do. But doing it in the right way is also important. And a pivotal issue in doing it the right way is how the carbon emission allowances are treated, the auction versus allocation debate. And again, this comes down to the impact on the customer.

Our industry is united in advocating a significant percentage of the allowances to be allocated in the early years, in order to allow for a smoother transition and a lesser impact on customers. No one knows yet, if Congress can or will pass a comprehensive package by the end of this year. But, we agree with the need for climate change legislation.

I want to assure you that we're busy planning and preparing for a carbon constrained future. In fact, my last slide, number 13, is a quick reminder of our balanced solution strategy, which we've been pursuing for a couple of years now.

It has three elements, aggressive energy efficiency, innovative alternative and renewable energy and state-of-the-art plants and this is proving to be an effective platform for preparing our company and our customers for a world of new energy realities.

We're making very good progress in each of these areas, from rolling out new energy efficiency programs to signing long-term renewable energy agreements. This balanced flexible approach will serve us and our customers well as we go forward.

Well, thanks for your attention and now, I'll turn it over to Mark Mulhern.

Mark Mulhern

Thank you, Bill. I will cover the topics on slide 15. As Bill showed you, we had a good quarter and we're able to overcome some of the challenges and customer growth and usage.

I'll point you to slide 16, which shows you the EPS by entity. We had a $0.10 increase year-over-year, but the first quarter of 2008 had below normal weather. Florida benefited from wholesale and AFUDC equity earnings on capital investments.

Carolina also had positive wholesale and AFUDC equity, but some of that was offset by timing of O&M and higher nuclear outage costs versus last year. In addition, we had a $14 million income tax benefit from changes in our nuclear decommissioning trust fund that lowered the effective tax rates, when you compare first quarter 2009 to first quarter 2008.

On slide 17, we've laid out the major variances for the quarter including the $0.07 pickup from our return to normal weather. We were able to offset the impact of share dilution and higher interest expense with increased wholesale and transmission margins and AFUDC equity.

On the next two slides, 18 and 19, we tried to provide more insight into the gross margin at PEC and PES. Specifically, when you look at page S2 of our earnings release and try to make sense of the percentage changes, you will see significant impact in revenues resulting from higher fuel rates in all three jurisdictions. As you know, fuels are passthrough with no margin to the company. But fuel revenues increased in Florida and both Carolinas, thereby driving the percentage increases in the revenue columns up substantially.

On slide 18, at PEC, our kilowatt hour sales numbers are down 1.1% versus last year. But, electric revenues were up 10.4%, illustrating the point about the impact of the fuel increases. The components of the $9 million increase in gross margins are shown on the right-hand side of slide 18 for Progress Energy, Carolinas.

Turning to slide 19, the Progress Energy Florida, you see the weakness in growth and usage of $11 million actually gets masked if you're just looking at the revenue variance with the wholesale strength, turnaround in weather and increased clause returns drove the $32 million increase in gross margin at PEF.

On slide 20, just a minute on customer growth and usage. In Florida, even the quarter-over-quarter comparison shows a decrease of 8,000 customers, still noted the net increase of 1,600 customers from Q4 2008. This indicates, we maybe seeing a bottom, but our plan continues to assume an approximate 1.5% decline in retail sales versus 2008. Also, you'll note the lower usage accounts in Florida, seems to have flattened out in the first quarter.

In the Carolinas, where we had forecasted a slight increase in retail sales over 2008, we remain cautious. We continue to add new customers, approximately 18,000 on a year-over-year basis in Q1 2009 that you can see the trendline of new customers declining. However, our regions of the Carolinas have held up well, especially in light of the unemployment rates in the state.

In general, economic recovery in our jurisdiction is dependent upon the general economy being supportive again of population migration which historically has fueled growth in all three states. As the national economy recovers, we believe our service territories will participate in that recovery.

In the appendix on slide 34, we've included some additional economic data that we're monitoring very closely and incorporating in our planning assumptions. One more point on customer growth and usage. I should mention that industrial kilowatt hour sales in the Carolinas were down 12.7% from last year, a continued trend of weakness.

Our industrial revenues were only down 2.7% and this reflects the components of our industrial rates which include demand charges. Specifically in terms of components, the chemicals SIC code which now comprises 30% of our industrial sales was only down 1% compared to the first quarter of 2008. But overall, we expect industrial sales will continue to be weak throughout 2009.

Turning to cost management on slide 21, this is our own end summary adjusted for the passthrough clauses which shows a 1.8% increase 2009 versus 2008. And as Bill said, we are aggressively managing the business and holding down costs across the company. We did have some spending in nuclear in the first quarter that drove O&M higher, but we expect those costs to even out over the remainder of the year.

On slide 22, Bill said we have affirmed our 2009 full-year guidance of $2.95 to $3.15 and we're on track to achieve that range. The midpoint would represent a 10% increase in net income over 2008, the dilution from our share issuance results in an EPS share increase of approximately 2.3%.

Items to watch are summarized on slide 22. With the most significant being the Florida 2009 rate filings and the accounting orders we have requested.

Just a minute on slide 23 on the Levy filings. We've given you our latest estimates of capital expenditures for Levy compared to what was in the 10-K for 2009 and 2010. Obviously, you see lower numbers there. As Bill noted, we have asked our construction consortium to recast the schedule and projected cash flows to reflect the minimum of a 20-month schedule shift. That information will take some time to develop and we will update you as appropriate.

On slide 24, we highlighted certain key items of our nuclear cost recovery proposal. In addition, in the appendix on slide 33, we have summarized the specific financial details of the filing to make it easier for you to follow exactly what we're requesting.

Under the nuclear legislation, we are entitled to recover approximately $436 million of preconstruction and licensing expenses related to the Levy project in 2010. Our proposal to lessen the burden to customers includes a proposed five-year deferral of certain of these costs.

If our proposal is accepted, we would collect approximately $226 million in Levy costs in 2010, including cash AFUDC. So, when you include our collections to-date, we estimate there will be approximately $240 million of deferred costs that would be recovered ratably over the period 2011 through 2014. We have proposed collecting AFUDC on those deferred balances.

So, overall, we believe we have put forth a proposal that recognizes the rate impact to customers in this challenging economic time. We also see positives from a more deliberate Levy schedule and the favorable impact it has on our CapEx requirements and associated debt and equity needs over the next few years.

Last topic, I'll cover is financing and liquidity and two slides on slide 25 and 26 gives a pretty good snapshot of our financing activities and our liquidity. The financings we were able to execute have improved our financial profile since year-end 2008. We have solid liquidity and limited near-term debt maturities, and continued strong access to the capital markets.

So, before I turn it back to Bill for Q&A, let me just reinforce, that we have provided transparency in our February analyst meeting, through the waterfall chart that showed you how we got from $2.98 our 2008 actual EPS to the midpoint of our 2009 range.

And you can see here the progress in the first quarter, we made in the key areas of wholesale growth, O&M cost control, and execution of our capital investment programs. It's early in the year and we have our most important quarters in front of us. But so far, we are optimistic and on track to deliver on our earnings guidance.

Thank you for your interest in our company and now, I'll turn it back over to Bill.

Bill Johnson

Thanks Mark. Before we take your questions, I just want to sum up by saying that we feel good about how we're managing and operating the business in this uncertain economy and policy environment. I'm particularly pleased with how well our employers are rising to the challenge.

Although Mark and I are here delivering the news today, we clearly understand that our employers are the ones who are making the moves and I want to recognize that fact. We're taking the right steps to prepare for the future both for the rest of this year and for the years beyond.

At this time, we'll be happy to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Our first question will come from Jonathan Arnold with Merrill Lynch.

Jonathan Arnold - Merrill Lynch

Quick question now. Can you just give us a sense of how you would rate the prospects of potentially settling the Florida case? And what timeline that might be most likely to happen on? What point is we should be looking at as you move along the schedule here?

Bill Johnson

It's a good question. This will be our, I believe third rate proceeding since the merger in 2000. The first two we settled. I believe we settled both of them the day before the hearing was supposed to start, maybe even on the courthouse steps the night before the hearing. So, I think you have the TECO decision out there, which at least gives you some boundaries.

And once you have all of the filings in and do a little discovery, your chances are better at settling, once everybody knows where all the facts are. But, I wouldn't predict that. Actually I wouldn't predict it at all because it's an unknown. But if it is going to happen, I think it's much closer to the hearing date.

Jonathan Arnold - Merrill Lynch

Okay. Thank you, Bill. And if I may just ask one other. The items you mentioned in the quarterly variance for tax, I think it was benefits related to the nuclear decommissioning trust funds. I missed how much that was, when you went through it. Can you just talk a little bit about what drove that or?

Mark Mulhern

Yes, I can, Jonathan. It's Mark.

Jonathan Arnold - Merrill Lynch

Wouldn't there be an expense on the other side?

Mark Mulhern

Well, this has to do with a transfer of funds between qualified and non-qualified accounts and the tax impacts that are related to that. And there is about $14 million of positive contribution from that in this quarter. So, that's the essence of the tax item.

Jonathan Arnold - Merrill Lynch

Anything further, sir?

Mark Mulhern

Apparently not.

Jonathan Arnold - Merrill Lynch

No.

Mark Mulhern

Well, sorry, Jonathan.

Jonathan Arnold - Merrill Lynch

Is that something that would repeat or does it reverse or is there?

Mark Mulhern

No. It's kind of a one-time thing, Jonathan.

Operator

Now, we'll move to the next question from [Vidula Murty with CDP US].

Unidentified Analyst

Obviously, you highlighted the rate case and the base rate increase. What type of incremental fuel offset is also going to be kind of in play here in terms of what the customers are actually going to end up experiencing across the total bill?

Mark Mulhern

We reduced fuel in I guess April by about $200 million in Florida. Our next filing date is several months away yet. You have a combination of fuel prices generally trending down, but also having hedged in prior years. So, actual fuel doesn't move as quickly as the spot or the markets. I think it's too soon to say, Vidula, what the fuel offset will be.

Unidentified Analyst

But essentially, we have already versus the 499 request you've already been able to reduce that by effectively 200 to the fuel to-date?

Mark Mulhern

That's a great way to look at it. Of course, they're in separate proceedings. One is a base rate and one is a fuel rate. But, yes, we have taken $200 million out and fuel prices continually trend at a lower level.

Unidentified Analyst

Also in terms of the 20-months delay in the, what you're permitted to do, what you have to wait on until you get the COL. Is this unique to you? Or is this going to be something that every single applicant will likely deal with?

Mark Mulhern

Well we cannot speak for other applicants, but the LWA process is very site specific. And so it has to do with the geology and the seismic nature of the site and also we're dealing with a Greenfield site. Everybody else who is in this situation has a brownfield site, where there is a lot more known by the NRC.

So, this is site by site and I think the fact that we're on a new site maybe makes us a little different than others. But we're not at privy to what the NRC tells other applicants about their LWAs.

Unidentified Analyst

Okay. Lastly, given the timeline shift out. Can you talk at all about what you may have thought previously about, I know you took care of equity for a period of time here. But with an incremental 20-months being pushed out. Can you talk a little bit about what you're like preliminary adjustments you see to be out your financings?

Mark Mulhern

Yes, Vidula, well, you know, we did some equity this year and we've told people that in the plans for at least for 2010, we have about a $300 million assumption related to the drip plans effectively and investor plus plans. We'll obviously monitor that as we go forward. Having a little bit less pressure on the short-term capital expenditures, probably gives us a little flexibility. But at this point, I wouldn't change that assumption.

Operator

(Operator Instructions). Now moving to Travis Miller with Morningstar.

Travis Miller - Morningstar

I'm wondering if you could talk a little bit more about this NRC decision or perceived decision, right. This wasn't an actual decision that you got. This was your projection that they would decide against the authorization. Is that correct?

Bill Johnson

I think a fair way to say this, this is our analysis of the outcome they were likely to come to, based on discussions we had with them.

Travis Miller - Morningstar

Okay.

Bill Johnson

There's not exactly an NRC decision document out there that says this. But, I think it was a very accurate interpretation of what we were being told. So, part of the art of dealing with regulators is, understanding what they're saying to you.

Travis Miller - Morningstar

Sure, sure. What were some of the issues involved? Why would they have come to that decision?

Mark Mulhern

Yeah, I mean, it basically had to do with excavation and grading on this site. It has to do with the geology, how much grouting you have to do to prevent groundwater from seeping into your excavation. So geology and seismology I suppose are the main two. And again, think about the fact that the other places where people are thinking about building, they have sites that the NRC has been looking at for 30 years or so.

Travis Miller - Morningstar

Sure.

Mark Mulhern

Couple of other things, the NRC has a big workload. They have a lot of applications in there, there are lot of things they're doing. So, we're not at all critical of what they told us. We understand it. This is just the way the process works.

Travis Miller - Morningstar

Do you foresee having to do any additional work to the site to resolve some of those geological issues or ground water issues?

Mark Mulhern

No, this does not presage any increase in scope. This is simply a timing issue.

Travis Miller - Morningstar

Okay. So, they wanted more time to analyze that area then?

Mark Mulhern

Our interpretation of what they said, just to get this clear, is that they wanted to wait until we had the full license process before we did significant excavation and grouting on the site.

Operator

We'll now take a question from [Daniel Site with Durback Research Group]. Go ahead.

Unidentified Analyst

Did you do a sensitivity analysis as to the ROE potentially allowed a niche 1% of how we will be equivalent to income since the rate increase?

Bill Johnson

Well, the question is what is a point on ROE mean in revenue?

Unidentified Analyst

Yes.

Bill Johnson

I'm looking around the table here. Daniel, we might have to talk to you about that. I don't know have that answer right here, but.

Unidentified Analyst

Okay, okay. Sorry, about that. Thank you.

Bill Johnson

If you call Bob, he'll get you that.

Operator

Now I'll turn the call back over to Bill Johnson. Please go ahead.

Bill Johnson

Thank you, again for joining our call. I know you have a busy day today. I hope you saw from our presentation today that we have a sound, flexible strategy for new energy future and we have focused and discipline in executing the daily fundamentals in our 2009 business plan. I hope you're gaining confidence in our execution track record and we appreciate your interest in Progress Energy.

Thank you and have a great day.

Operator

And with that, that will conclude today's conference. Thank you for your participation.

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