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Executives

Bill Moore - President and Chief Executive Officer

Mark Ruelle - Executive Vice President and Chief Financial Officer

Tony Somma - Treasurer

Doug Sterbenz - Chief Operating Officer

Greg Greenwood - Vice President Generation Construction

Kelly Harrison - Vice President Transmission

Jim Ludwig - Executive Vice President

Analysts

Michael Lapides - Goldman Sachs

Edward Hayne - Catapult Capital

Chris Bassett - Decade Capital

Westar Energy Inc (WR) Q3 2009 Earnings Call October 30, 2009 12:00 PM ET

Operator

Good day ladies and gentlemen and welcome to the third quarter 2009 Westar Energy Incorporated earnings conference call. (Operator Instructions)

I would now like to turn the presentation over to your host for today’s conference, Mr. Tony Somma, Treasurer. Please proceed sir.

Tony Somma

I am Tony Somma, Treasurer of Westar Energy. Welcome to our third quarter 2009 earnings call. Some of our remarks will be forward-looking and as such I remind you of uncertainties inherent in our comments during this call or that may be contained in our materials that supplement the release.

Last night we filed third quarter 2009 Form 10-Q and posted the earnings release and supplemental materials on our website at www.westarenergy.com. The supplemental materials include information intended to assist investors in their analysis of our financial release. They can be found under investor presentations within the investor section of our website. The applicable Safe Harbor disclosures are presented at the end of the release.

As is our custom, joining me are Bill Moore President and CEO, Doug Sterbenz Chief Operating Officer, Mark Ruelle CFO, and a number of our senior management team. After for our prepared comments we would be pleased to take your questions.

I’ll start with the quarterly results, then Mark will address earnings guidance and update you on key projects. Bill will then provide regulatory and economic updates. We’ll keep our remarks brief as there isn’t much news since we updated guidance last month, also we expect to visit with many of you directly in a couple of days at the EEI financial conference and appreciate that your schedules today are very tight.

The story for the quarter is one of extraordinarily cool weather, lower energy marketing margins and lower industrial megawatt hour sales as a result of the soft economy all consistent with the message in our September 23, 8-K.

Earnings per share for the quarter were $0.73 compared with $0.80 per share last year. Retail revenues were down $5 million or about 1% due to the following. Reduced residential and commercial megawatt hour sales as a result of the extremely cool third quarter weather, continued lower industrial demand as a result of the soft economy and very low fuel costs reflecting the pass through of these lower expenses and the prices we charge.

Lower energy sales are partially offset by authorized price increases we implemented earlier this year. Total retail energy sales were 7% lower than last year, broken down as follows. Residential megawatt hour sales were down 8%, commercial sales were down 3% and industrial sales were down 12% reflecting the same conditions we’ve been experiencing most of the year.

As we indicated in our earlier release, we had the coolest summer in more than four decades, third quarter weather as measured by cooling degree days was off 14% from last year and 27% from the norm.

As a result, we estimate weather as responsible for all the decline in residential energy sales consistent with the fact that as recently as June, year-to-date residential sales were actually up 1% from last year, and by the end of September year-to-date sales had dropped to 3% below last year. Weather also affected commercial sales and to a much smaller extend industrial and even wholesale sales.

All told, we estimate that weather cost us a little north of $0.20 per share. Wholesale revenues were 39% lower than last year due to lower demand and significantly lower market prices. Recalling margins from wholesale sales were back to benefit our retail customers either through the fuel cost or at the time of rate case.

Gross margins from energy marketing were lower for reasons that are not familiar to you. As a reminder, we estimate this year, they’ll be in the neighborhood of only $7 million to $10 million. Recalling year-to-date results through September includes $9 million for settlement of market based wholesale transactions, that for accounting purposes were recorded to energy marketing in the first quarter.

Turning to operating expenses, fuel and purchase power expenses decreased by $79 million this quarter, due principally to significant lower demand and much lower fuel and purchase power prices. Nonetheless this decrease has very little impact on our bottom line as we adjust our prices to reflect actual fuel and purchase power expenses.

ONM was up $23 million at 21%. However, more than half of the increase is due to increased SPP transmission expense and strong amortization, both of which have largely been offset by either increased transmission revenues or base rate changes approved earlier this year.

Other items contributing to the increase were new wind in peaking generation not in service last year, additional emission controls equipment recently put in service, and other plan maintenance that are generating facilities.

Selling General & Administrative expenses decreased $9 million due principally to our regulatory order having allowed deferred accounting for pension expense, and a decline in other employee benefit expenses.

Higher depreciation expense reflects higher planned balances including our investments in new wind and natural gas generation, emission controls and transmission facilities to be placed in service since last year. Higher interest expense reflects additional debt issued to fund our capital projects offset somewhat by favorable interest rates on floating rate debt.

With all this as back drop, let me turn the call over to Mark

Mark Ruelle

Thanks Toni. We just updated our guidance a month ago, so I won’t comment further on it other than to affirm the 2009 range of $1.35 to $1.45 per share and to remind listeners that it excludes the $0.30 per share earnings we recorded in the first quarter from the realization of tax asset, but includes about $0.10 COLI income projected for the year but not yet received.

Now, turning to the business let me start with transmission. The north leg of our 100 mile 345 KV line from Wichita the line is coming along nicely, we expect to place the entire line in service by late summer of next year. Mother nature gave us another 345 KV project in August by blowing down 24 miles of line between Abilene and Celina. We expect the CapEx to restore this line to be about $20 million with the restoration to be completed by late next month.

We recover our transmission cost, both capital and ONM, through a forward-looking FERC formula rate. The new tariff for 2010 was just updated earlier this month and is scheduled to be effective for wholesale customers, January 1st. Along with the companion TDC retail portion, it is expected to produce an additional $17 million annually compared with 2009.

Progress on our Prairie Wind joint venture continues. This week the SPP identified the project as one of its priority projects meaning it will relieve congestion, improve access and improve transfers between regions. We expect the project to undergo further analysis and be presented to the SPP board at its January meeting. We remain hopeful that Prairie Wind will be approved early next year.

On a parallel path, the regional state committee of the SPP and the SPP board, accepted the cost allocation working group conceptual proposal for a regional cost recovery with final approval of the tariff language, possibly by spring.

Many of you may recall that we have an RFP on the street for additional renewable energy. When we began that process last spring, we were aiming at a voluntary target for renewable capability equal to 10% of our peek retail demand by the end of 2010.

In Kansas, we have a renewable generating capability standard and not a renewable megawatt hour or energy base standard which allows for what we think is a more thoughtful and measured approach to expanding renewables. Since then, Kansas passed a statute with the same target, but allowing us an additional year to achieve it.

To meet the target, it looks as though we need another 150 to 200 megawatt or so by the end of 2011. We are presently in negotiations with our short listed providers and hope to firm up some of those plans by year end, with no plans for more fossil generating capacity for the foreseeable future, but we still have significant projects to further reduce the emissions on our coal plants. Our next big emission control project is at Lawrence Energy Center. This is a facility with a long history of environmental leadership.

In 1968 we retrofitted one of the Lawrence units with the first SO2 scrubber in the nation, in 1971 we put Lawrence unit five in service as the first unit to have SO2 scrubber installed as original equipment. In 1987, we retro fitted unit five with the first LO-NOx Burners in the world. We have completed much of the engineering and advanced procurements for the project and we will begin construction in earnest next spring, early next year rather.

This project includes adding a fabric filtration system or bag house to units four and five and rebuilding the existing scrubbers on both of those units. We will also be upgrading the burner systems on units three, four, and five to further reduce NOx emissions. These improvements follow within the scope of environmental cost recovery rider that allows us to adjust our prices annually to reflect investments in emission controls.

With that let me turn things over to Bill for a brief update on regulatory events and what’s happening in our region.

Bill Moore

Thanks Mark and thank you all for joining us today. Regulatory events are progressing, on September 30 the KCC staff and other parties issued testimony and positions on our abbreviated rate case. The staff had the opportunity to true up some of our earlier estimates with actual amounts and as a result, we don’t have significant differences of opinion from what staff reflected in its testimony, which supports a base rate adjustment of slightly over $17 million. We expect an order by late January with an effective date for new rate a couple weeks after.

As a result of the past year’s financial events, many of you know that rising pension cost are an important issue for rate making. We have been working with the regulators and others on a fair and transparent way to address these rising cost. Last month we received authorizations permitting deferred accounting and the creation of a regulatory asset. To the extend that we fund pension expense in excess of what’s being reflected in base rates. We didn’t get everything we had hoped for here. But it was a still a constructive results.

Finally, many of you would recall that we have an open docket for the KCC to consider it consolidating our separate North and South rate areas. While the rate structures and rate levels are virtually identical they remain two separate rate areas. Last Monday the KCC issued an order approving consolidation of our rates. We will be working over the next several months on the mechanics, but we don’t expect this to change our overall rate levels or revenues.

Now let me share with you a few thoughts on the economy. I know many of you probably have people saw the Wall Street Journal article about the aviation business in Wichita a couple of weeks ago. Of course none of that is news to us at West Star. Needless to say airplane sales are moving slowly and that has affected Wichita.

Unemployment there while still favorable to the nation by more than a point is among the highest in our service territory at 8.6%. We don’t expect a quick turn around for that industry or industrial sales in general. Nevertheless unemployment for the state is improving. In September, Kansas unemployment improved 6.9% compared to the national average which rose to 9.8%. So it’s not all bad new however, as we have a number of large customer that have continued to fair very well throughout the downturns, mostly in refining and animal science.

Our two refineries have completed significant expansion projects and are expected to continue to operate above expectations. The major oil pipeline project that is traversing our service territory is progressing on schedule. We expected to add about a 100 megawatts of demand which will phase in between 2010 and 2012.

As we continued to work actively with local and state economic development groups on potential new customers we have seen a significant increase and in inquiries especially in the wind business. Of course we have already experienced success here, with Siemens announcing the site for its new plant in May and breaking ground in September.

We have been clear that a key principle of our strategy is to remain flexible so we can quickly adapt to changing business circumstances. In response to soft sales we continue to mange our cost while still preserving our ability to provide safe reliable service.

We cut back where appropriate on ONM, CapEx and other outlays. For instance, compared to the last year our outside contract forces have been reduces by more than half, and of course you saw the layoffs we have announced last months in energy marketing and supporting areas in response to that business.

Our $500 million CapEx plan for ’09 is on track with the earlier guidance. We call this represents a reduction of almost $436 million compared to ’08. We are in the midst of budgeting and planning for 2010, and as a result of the flexibility we embedded in our strategy we’ll continue to make the adjustments up or down to live within our means and take advantage of opportunities to grow our business and maintain a strong balance sheet.

You may have seen that our Smart Star Lawrence, smart grid project was selected by the US Department of Energy for possible funding under the smart grid investment grant program. The smart star projects estimated cost is about $40 million with a maximum match of half that amount.

We will now move to the next page in the selection process with the DoE, which is comprised of a more thorough review by the DoE of our project. When the review is complete a process that could take up to 90 days we will be informed of the final amount of the award under the program. We are pleased that we passed the initial screen and look forward to a very constructive effort with the DoE in the next few months.

Our plants wires and customer operations are all running well. In the first nine moths our coal plants have continued to operate at levels consistent with top quartile performance. On the subject of plant performance you may have seen the recent announcement that Emporia Energy Center was selected by the editors of Power Engineering magazine as a finalist for the magazine’s project of the year for the Best Gas Fired project.

Our newest gas fired peaking station has been a great addition to our generating fleet and an essential component of our comprehensive energy plan. It didn’t hurt that the plant came in under budget ahead of schedule and with almost a 10% more capacity than planned. We are proud of the plant’s performance and appreciate when our people and business partners are recognized for their good work.

We are now ready for questions from the financial community, members of the media; we invite you to contact Carla Olson at 888-613-0003 if you have questions. Operator would you please open the lines for questions?

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Michael Lapides - Goldman Sachs.

Michael Lapides - Goldman Sachs

I really have two questions; they are a little different from each other. One, can you just rehash the various rate increases in buy type that are going in place in 2009 and which ones, if any, still have not received approvals yet?

Mark Ruelle

Sure, I will have Tony correct me on the amounts. Michael, this is Mark. We have the transmission rate, which goes into effect for a wholesale customers the first of the year, okay. And then a couple of months later the retail companion or TDC will accompany that and the larger portion of the revenue requirement actually kicks in more in March. The smaller portion is attributable only to wholesale customers is effective the first of the year. On the wholesale piece we think that's about $8 million, Tony, annualized?

Tony Somma

For 2009?

Mark Ruelle

For 2010.

Tony Somma

Michael were you asking for ’09 or ’10?

Michael Lapides - Goldman Sachs

Yes, let’s just do ’09 for now and then go from there.

Mark Ruelle

That was $4 million for ’09, first of January. Then the state piece was a couple of months later at about $32 million. Again these are annualized numbers.

Tony Somma

Yes, annualized numbers.

Mark Ruelle

The environmental cost recovery rider kicked in June 1st at about $32 million annualized, and then in February we increased base rates by about a $130 million. Those were the 2009 that are in place and obviously they have been approved.

Michael Lapides - Goldman Sachs

Okay. Anything left outstanding for 2009 and then going to ’10?

Mark Ruelle

Nothing left for ’09. In 2010 we have the accelerated or the abbreviated rate case that we expect to happen first part of the year, late January early February, and the staff’s recommendation on that is about $17 million annually, and as Bill indicated we don’t take many issues with staff’s recommendations as they had more current numbers to review than we did when we filed.

Then FERC transmission piece, about $8 million, the state transmission piece couple of months later about $9 million, and then the environmental cost recovery rider, which we estimate at about $13 million in June 1. Obviously, none of those letters have been approved but they are not particularly controversial in our opinion.

Michael Lapides - Goldman Sachs

Okay. Just rehashing the 2010, I want to make sure I have got the timing, the abbreviated case likely going into effect in February?

Mark Ruelle

Yes.

Michael Lapides - Goldman Sachs

Thus federal transmission $8 million January 1. The state transmission going into effect a few months later, so March-April timeframe?

Mark Ruelle

Yes probably March.

Michael Lapides - Goldman Sachs

Okay. And the amount on the state level?

Mark Ruelle

I think it’s about $9 million.

Michael Lapides - Goldman Sachs

Okay. Similar to the Fed. And the ECR coming in place in the summer as they did this year?

Mark Ruelle

Right.

Operator

(Operator Instructions) Your next question comes from Edward Hayne - Catapult.

Edward Hayne - Catapult Capital

Just had a quick question on the V-Plan or Prairie Wind. Could you give us a little color on, I guess the staff had not put it in as a priority, and it seems like the SPP decided to change their mind on putting it in another priority list, is there any color behind what happened there?

Kelly Harrison

This is Kelly Harrison Ted. The staff actually did have the Prairie Wind ITC projects in the original priority project list, in fact they were just the top two. What happened was last week at a couple of meetings at the SPP, there was a decision for some reason and we are not clear why they pulled those two projects out and replaced them with a project in Oklahoma. So, in response to that there was quite a bit of discussion at the SPP board meeting this last Tuesday and we were able to put those two projects back in.

Edward Hayne - Catapult Capital

Okay, and then in regards to the timing of how things will go from now that it’s still in the priority list, I guess you would have to file with FERC and then there is potentially a chance for the SPP to approve the project in its January meeting is that the right timeframe?

Kelly Harrison

The process from here on at is the staff has been directed to go back and continue to study this list of six projects, which includes ours, and come back and talk to the board in their January 26th meeting, which they may or may not take any action on these projects.

It could be as late as the next April board meeting but we would not file anything at FERC to build these projects. We wait for the SPP to approve these projects. On a parallel path the SPP is moving forward with developing language for a regional cost allocation tariff, which we need to be in parallel with these projects.

Edward Hayne - Catapult Capital

Okay. I guess from a CapEx perspective market I think there is only a slight amount of CapEx for the Prairie wind in 2012. Is there any chance that those dollars could get pulled up if things kind of move forward actually in this manner?

Mark Ruelle

That would be conjecture at this point, sure there is a chance but I think they are slicing it too thin. We don’t know yet.

Operator

Your next question comes from Chris Bassett - Decade Capital.

Chris Bassett - Decade Capital

I was just trying to better understand the latest guidance here. Does that mean you guys are expecting the ten tons of coal to come here in the fourth quarter?

Mark Ruelle

Well, that what we do on that Chris and, this is clearly [Inaudible] science. We simply budget the actuarially determined amount, and we don’t go in and try to par set out during the year. Obviously if we has $0.10 actuarially determined and it’s already November, it doesn’t happen randomly.

But the answer is it’s a small population of people, I think there are 70 some people, and you just don’t know when it’s going to happen, so we don’t try to budget around that other than to say here is the annual amount and then make it very clear to investors what that amount is and what it relates to.

So, I guess the short answer is there are still $10 million that we budgeted and we still have $10 million in our guidance and you will have to judge for yourself, whether you are comfortable with that when there is only a sixth of the year remaining and we haven’t received it yet.

Operator

Your next question comes from Michael Lapides - Goldman Sachs.

Michael Lapides - Goldman Sachs

One question, I mean Prairie run looks like it’s got a good chance of being a goer at least folks at the SPP are saying that that has got a lot of promise as well as several others, and that’s a great thing for Westar.

Just curious, when you think about the balance of financing new transmission, at a time when you are trying to stay out of rate cases because of kind of where are your equity prices, and no one might wants to issue equity below book. How do you juggle that?

How do you juggle the decision to go forward with what could be a major venture CapEx program at a time when you are trying to stay out a rate cases at the state level, and therefore over time even with your riders you have got the potential to under earn?

Mark Ruelle

Well, this is Mark again Michael. First of all with regard to transmission in our TDC rider unlike many states we do not have to file a traditional rate case at the state level to reflect those things. By statute in Kansas and with the regulatory mechanisms we have in place, as our transmission costs go up, those are adjusted based on the wholesale transmission tracker as well as the retail rider that we already talked about, so they don’t require the filing of the state case per se to make that work.

We are obviously, and I think those follows, know we are very sensitive to the price at which we issue our shares, and that’s why earlier this year and last year, we substantially cut our growth program back, because issuing shares below book value to fund growth is, it’s a fools game, it basically is diluted even though it gets bigger you don’t get more profitable. So, we are very sensitive to that.

Right now our shares are trading above regulatory book value. So, not by much but they are trading above regulatory book value. And at the point where we decide to invest to grow our business transmission is among the more attractive types of investments because there is less regulatory lag and there is a slightly better allowed return allowed on those investments.

For example in our own transmission business it’s actually a forward looking rate. So very little if any regulatory lags, true ups when our forecast are different than the estimates and a slightly higher allowed returns. So those are more attractive than say, doing other investments that have longer lags and lower allowed returns.

Tony Somma

And I might add Michael, this is Tony. The Prairie one itself for finance half of the project was dead at the project level, and then the partners would contribute the other, the balance in the form of equity.

Michael Lapides - Goldman Sachs

Could you contribute, could you issue debt at the holding company or create effectively a holding company, an issue at it is equity downstream and, I mean I know that's implying back leverage, is that something that's even in small levels potentially doable for you?

Tony Somma

Well, just remember we have a flat structure, but certainly whatever equity Westar contributes to Prairie Wind is financed in effect at the blend of how Westar finances.

Operator

There are no further questions at this time. I would now like to turn the presentation back over to Mr. Bill Moore.

Bill Moore

Well, thank you all for joining us today, and we look forward to visiting with many of you here over the next couple of days at EEI. For those of you who just can’t wait, then you will have a question to Bruce Burns, please contact him at 785-575-8227. Thank you and have a good day.

Operator

Thank you for you participation in today’s conference call. This concludes the presentation, you may now disconnect. Good day.

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Source: Westar Energy Inc. Q3 2009 Earnings Call Transcript
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