WGL Holdings Inc. F4Q09 (Qtr End 09/30/09) Earnings Call Transcript

Nov.13.09 | About: WGL Holdings, (WGL)

WGL Holdings Inc. (NYSE:WGL)

F4Q09 Earnings Call

November 13, 2009 10:00 am ET

Executives

Robert Dennis – Director of Investor Relations

Vincent L. Ammann – Vice President and Chief Financial Officer

Terry D. McCallister – Chairman and Chief Executive Officer

Adrian Chapman – President and Chief Operating Officer

Harry Warren – President of Washington Gas Energy Services

Analysts

Ryan Rosenthal - Sidoti & Co.

[Mike Hahn] – Bryn Mawr Capital

Igor Grinman - Zimmer Lucas Partners

[John Hansen – Persidis]

Ben Sung - Luminous Management

Jim Harmon - Barclays Capital

Operator

Good morning and welcome to the WGL Holdings Inc. fourth quarter fiscal year 2009 earnings conference call. (Operator Instructions)

I will now turn the conference over to Bob Dennis. Please go ahead.

Robert Dennis

Good morning everyone and thank you for joining our call. This morning’s comments will reference the slide presentation on our website that you can access by going to www.wglholdings.com., clicking on the Investor Relations tab and then choosing Events and Webcasts from the dropdown menu. The slide presentation highlights the results for our fourth quarter and full fiscal year 2009 and the drivers for those results.

A reconciliation of our operating earnings with results reported in accordance with Generally Accepted Accounting Principles is provided as an attachment to our press release and is available in the quarterly results section of the Investor Relations at www.wglholdings.com.

This morning Vince Ammann, Vice President and CFO, will provide a recap of the fourth quarter and fiscal 2009 annual results with a focus on the major items that led to those results. Following that, Chairman and CEO Terry McCallister will discuss key issues affecting fiscal year 2009 and our long term performance. Terry will also provide earnings guidance for fiscal year 2010. Also joining us on the call this morning and available to answer your questions are Adrian Chapman, President and Chief Operating Officer, and Harry Warren, President of Washington Gas Energy Services.

Finally, we encourage everyone to review our most recent Form 10-Q and 10-K filed with the Securities and Exchange Commission for a more complete discussion of the risks and uncertainties that can cause actual results to vary materially from the forward-looking statement that will be made this morning.

And with that, I would like to turn the call over to Vince Ammann.

Vincent L. Ammann

Thank you Bob and good morning to everyone. I am pleased to report that fiscal year 2009 was another very successful year for WGL Holdings. Non-GAAP operating earnings for the year were $127.7 million or $2.53 per share, an increase from $6.1 million or $0.09 per share over the annual results for the fiscal year 2008.

Fiscal year 2009 marks the second year in a row of record operating earnings for WGL Holdings. We continued to deliver on the initiatives put in place over the past few years, and Terry will discuss these accomplishments and plans for the future in a few minutes.

On a GAAP basis, Slide 3 shows our fiscal year earnings were $120.4 million or $2.39 per share this year, a $3.9 million or $0.06 improvement over last year. I also want to mention that unless otherwise noted, all dollar amounts referenced are after tax and per share amounts are on a fully diluted basis.

Typically we report a loss for the fourth quarter due to the diminished need in the summer months for gas by our utility customers. The nature of our utility operation, the largest contributor to consolidated results, is seasonal, with most of its income reported during the heating season in the first and second quarters of the fiscal year.

As reflected on Slide 8, we reported a fourth quarter GAAP net loss of $11.1 million or $0.22 per common share, essentially unchanged from the same period last year. On a non-GAAP basis we reported an operating loss for the fourth quarter of our fiscal year 2009 of $12.4 million or $0.25 per share, which was very similar to the operating loss for the fourth quarter of 2008. There were some noteworthy offsetting adjustments recorded in the fourth quarter of this year that are, in the aggregate, immaterial, but I will discuss them in my segment remarks.

I will now turn to the Utility segment to review the drivers for our fiscal year 2009 results and highlight those items that were specific to the fourth quarter. As shown on Slide 4, utility operations reported GAAP net income of $106 million or $2.10 per share for fiscal year 2009. Last year the Utility segment reported GAAP net income of $113.7 million or $2.28 per share. After recognizing non-GAAP adjustments for fiscal year 2009, the Utility segment had operating earnings of $102.7 million or $2.04 per share, compared to $111.2 million or $2.23 per share for the prior year.

As shown on Slide 5, fiscal year 2008 non-GAAP results were benefited by a few unusual items. Fiscal year 2008 included a $9.8 million benefit in our Virginia and D.C. jurisdictions related to unusual, non-weather related customer usage patterns. In 2008, the distribution of weather or degree day quality and other factors contributed to higher levels of consumption on a per customer basis. Also contributing to the year-to-year comparative decrease in non-GAAP earnings were two other items, an adjustment to lower our effective tax rate in the fourth quarter of fiscal year 2008 and the beneficial effect in early 2008 when new rates were implemented in Maryland, which included a true up of our revenue normalization adjustment or RNA.

You will recall the RNA allows us to add adjustments to our approved day’s rates to recover the anticipated net revenues from customers, regardless of usage changes from weather or other factors. Individual monthly revenues that we can collect from our customers under the RNA reflect the pattern of customer usage during the test year used to assess the new base rates. Because early fiscal year 2008 results reflected a combination of customer usage patterns from two different test years, the RNA factors used at that time contributed $2.6 million more to last year’s operating earnings when compared to fiscal year 2009.

Partially offsetting the effect of these comparative year-to-year decreases were higher net revenues in 2009 from the addition of approximately 10,200 average active customer meters, which added $3.1 million to operating earnings. We continue to see signs that new home construction in our service territory has reached its bottom and is starting a slow recovery.

Accounting activities for one of our rate mechanisms also affected comparative results. Included in our Virginia performance based rate design is a provision for an earnings sharing mechanism or ESM. When regulated results exceed an earnings threshold, the liability to customers is accrued. The ESM threshold was exceeded in fiscal year 2008, resulting in a reduction in 2008 earnings. In the fourth quarter of fiscal year 2009, a $3.5 million after tax improvement was recorded for the effect of reversing previously accrued ESM obligation due to a correction of the calculation of the sharing estimate. The year end calculation indicates Virginia allocated earnings did not exceed the ESM threshold.

After taking into consideration items that are offset in net revenues, operating earnings for fiscal year 2009 benefited from lower operations and maintenance expense of approximately $3 million after tax. This reduction included an improvement from lower pension and retiree medical expense. The 2009 expense for these programs was based on assumptions set for asset values and discount rates at the end of fiscal year 2008. As these actuarial assumptions are reset at the end of fiscal year 2009, to incorporate lower asset values and an increase in the discount rate, we now expect that the pension and retiree medical expense in fiscal year 2010 will be higher to reflect these new actuarial assumptions.

Fiscal year 2009 operations and maintenance expense was also lower due to a decrease in cost for weather protection products. As mentioned previously, we protect ourselves from the effect of weather volatility during the heating season in our District of Columbia service area with weather protection products based on normal heating degree days. In Maryland we are protected from weather variations through the revenue normalization mechanism and in Virginia we have a provision for a weather normalization adjustment. Partially offsetting these lower operations and maintenance expenses for fiscal year 2009, when compared to 2008, was the scheduled increase of $3.1 million after tax and recurring service costs associated with our business process outsourcing.

Uncollectible expense was $1.1 million after tax, higher in fiscal year 2009 than in 2008. Higher expense caused by the lingering effects of the economy, and a reserve edition for a customer release program implemented in Maryland for all energy utilities at the direction of the Maryland Public Service Commission, was partially offset by the impact that lower gas prices had on our collection results.

As natural gas prices generally declined, it also reduced the level of storage gas carrying cost recovery for the fourth quarter by $2.9 million and was a contributing factor for lower asset management net revenues in the last quarter of 2009 of $2.3 million after tax.

Now I will review the annual results for our Retail Energy-Marketing segment, again highlighting fourth quarter items. Slide 6 shows GAAP fiscal year 2009 net income for the Retail Energy segment of $15 million or $0.30 per share, an increase of $10.2 million or $0.20 per share over the year earlier. Slide 7 shows fiscal year 2009 non-GAAP operating earnings of $25.5 million or $0.51 per share, more than double 2008 results of $12.4 million or $0.25 per share. Improvement in non-GAAP operating earnings was driven by sharply higher unit margins on natural gas sales and by higher electric sales volumes, partially offset by higher expenses associated with increased marketing initiatives and by a small decrease in natural gas volumes.

An important driver of the higher non-GAAP unit margins on natural gas was the lower cost of natural gas purchased for storage injection in the spring and summer of 2009, which served to reduce the weighted average cost of overall natural gas purchases. This lower average cost had the effect of expanding reported margins during the injection season. The result in higher reported margins in fiscal 2009 will be offset by correspondingly lower margins to be reported in fiscal year 2010 when the storage gas is withdrawn.

Recall that in fiscal year 2008, higher gas costs during the storage injection period had the opposite effect, which was reduce reported margins in fiscal year 2008. This pressure on 2008 margins was offset by higher reported margins in fiscal 2009, when those volumes were withdrawn. Taken together, the storage injections in fiscal 2008 and fiscal 2009 combined to push reported gas margins in fiscal 2009 well above long term expected averages.

A change in the mix of customers also enhanced unit margins for natural gas, with a greater number of residential and small to mid-size customers in fiscal year 2009, and fewer lower margin large volume customers. Year-over-year the number of residential and commercial natural gas customer accounts increased by 18,200 or 14%, 2,700 of which were added in the fourth quarter.

In addition we continue to add residential accounts that choose our Blanket Bill Program, which provides level monthly bills, resulting in higher reported summer margins. During fiscal 2009, the volume of gas sold reflected the loss of some large government accounts that had been served in the prior year, partially offset by the sale to new customers and additional customer usage from colder weather. The net result was a small year-to-year decline in total natural gas therm sales of approximately 760,000 decatherms or about 1%.

Fiscal year 2009 electric sales volumes rose 46% over fiscal year 2008, reflecting a growth in electric accounts of more than 80% or 51,200 customers over last year. Our marketing initiatives have been very successful due to exceptionally favorable pricing opportunities relative to the electric utility service for residential and small commercial customers and favorable competitive conditions in the large commercial markets. The combination of these electric marketing efforts with the natural gas customer growth noted earlier resulted in $3.7 million after tax of higher customer acquisition and marketing costs than the prior year.

For the fourth quarter of fiscal 2009, the Retail Energy-Marketing segment reported operating earnings of $6.7 million or $0.13 per share compared to an operating loss of $574,000 in the last quarter of fiscal year 2008. For the fourth quarter of fiscal year 2009 on a pretax basis, electric margins of $7.4 million far outpaced electric margins of $367,000 reported in the fiscal year 2008 fourth quarter. This dramatic improvement was due to increased sales volume together with higher electric unit margins on strong customer growth. Sales volumes rose to 2.1 million megawatt hours, more than double the level of the last three months of fiscal year 2008, reflecting the strong growth of new residential and commercial electric customers.

Natural gas sales margins for the fiscal year 2009 fourth quarter increased $7.8 million pretax over the last quarter of fiscal year 2008, reflecting higher unit margins that more than offset a decrease of 1 million decatherms, primarily reflecting fewer large commercial accounts in the current period.

Our Design-Build Energy Systems segment provides energy efficient and sustainable solutions to government and commercial clients. This segment reported net income of $3.2 million or $0.06 per share for fiscal year 2009, an increase of $1.4 million over net income of $1.8 million or $0.04 per share reported for the fiscal year 2008. The increase primarily reflects improved margins and growth in the number and size of Design-Build Energy projects.

Looking back on the whole year, we are pleased with our fiscal year 2009 results as shown on Slide 3, and remain focused on delivering solid shareholder returns while maintaining our financial strength. Among our key objectives for fiscal year 2010 is to continue managing controllable costs and identifying opportunities to improve revenues.

That concludes my remarks and I will now turn the call over to Terry.

Terry D. McCallister

Thank you Vince, and good morning everyone. As Vince mentioned, we are pleased with our record fiscal year 2009 results, but we also realize that the economy remains tenuous and many challenges remain. We’ve planned for these challenges, and I am fortunate to start my tenure as Chairman and CEO with such a strong management team, dedicated employees and proven and successful businesses and strategic plans in place.

Among my primary goals will be to continue to deliver strong results that reward investors, customers and employees, while maintaining the company’s financial strength and flexibility that allows us to take advantage of new opportunities as they are identified. Our straightforward approach provides for continued improvement of the utility business, and sustainable growth for our unregulated businesses, while maintaining transparency for our various stakeholders will remain a priority.

Our objective for the utility is to reduce earnings volatility and provide rates and visibility for our utility customers while achieving timely, reasonable returns on our investment and to continue to provide safe and reliable service. We also strive to hold costs at a reasonable level and to identify and implement process improvements that support and improve on the high service levels already achieved.

Consistent with these objectives, recently in Virginia we filed an application for decoupled rates. As many of you know, we currently have a weather normalization adjustment in Virginia that eliminates earnings volatility from weather variation. Having decoupled rates in Virginia will complement current weather normalization provision and provide more stability, customer bill and earnings with the elimination of variations caused by usage and conservation. We expect a Commission decision by mid-fiscal year 2010.

As Vince mentioned in his discussion, in Maryland we have decoupled rates through a revenue normalization adjustment or RNA. In the District of Columbia we are protected from weather variations by the use of weather protection product and have the opportunity to file for decoupled rates if we see an advantage for our customers and shareholders.

Recently we received some favorable news on our Maryland jurisdiction. In a proposed order, a hearing examiner for the Maryland Public Service Commission accepted our recommendation for the calculation of margin sharing for on-system and off-system asset management activity using a blended rate methodology and also supported several open issues consistent with the company’s other recommendations. Calculations are complex, but in summary this treatment provides an appropriate incentive for Washington Gas to increase margins from asset optimization in the future and appropriately share the benefits with the customers. If not appealed by other parties, the proposed order will become final in early December, 2009.

We recently filed with the D.C. Public Service Commission a settlement agreement between the company and the D.C. Office of People’s Counsel on our request for recovery of hexane commodity costs and the related expenditures. You may recall we use hexane to treat regasified L&G to reintroduce heavy hydrocarbons that were stripped out in the liquefaction process. The settlement agreement provides for the recovery of current and future hexane commodity costs. The settlement agreement also included a seven year replacement program for $28 million that provides for timely recovery of the expenditure through its surcharge mechanism. The expenditures represent replacement costs related to mechanically coupled fuel pipe where regasified L&G has been contributing to the premature aging of the rubber seals for certain older [vendages] and mechanical couplings, causing the seals to dry out and potentially leak.

As Vince mentioned, the economy for the greater metropolitan D.C. area has held up better than most other parts of the country due to the large federal government presence. The number of new active meters grew about 10,200 for fiscal year 2009, and the local experts on the economy report that the new housing market in our service area has stabilized and is now starting to make a slow recovery. We expect to move forward toward our historical growth rates for active new meters in the next few years as the economy continues its recovery.

To meet the changing business needs of the company, we’re also moving forward with plans to replace our primary operations that are in Springfield, Virginia. The current facility is over 40 years old and occupies more than 40 acres of property. The new facility will reduce the company’s footprint to 19 acres and at the same time provide an energy efficient, state-of-the-art LEEDS certified green campus for its operations to meet future business needs. Upon completion of the design in the spring of 2010, the company will solicit bids from general contractors to oversee the construction and then make a final decision on the redevelopment. The initial estimated cost for this facility is approximately $78 million with construction beginning in late 2010 and completion in 2012.

Our unregulated businesses continue to be a growth area for us. A key aspect of our strategic division includes effective controls and sound business practices to support sustainable earnings growth. These businesses continue to benefit from our strong regional presence and excellent demographics. In addition to growing earnings, these businesses maintain a conservative risk profile as consistent with the expectation of our shareholders.

Included in the growth strategy for the non-regulated businesses is identifying opportunities in sustainable energy alternatives and more efficient energy solutions. Our strong balance sheet and associated excellent credit ratings provide for the financing flexibility to pursue these initiatives.

Recently we announced our second solar energy project that consists of more than 1,000 solar panels for over 20,000 square feet to be installed on four Catholic University buildings in Washington, D.C. This installation will create the largest solar energy system in the Washington, D.C. metropolitan area. The 20 year agreement calls for the University to purchase the electricity generated by the solar energy system from our retail energy marketing business at guaranteed prices. This agreement represents a win-win for the University and our Retail-Energy Marketing business. It provides predictable energy costs for the University from a renewable energy source. This project represents a relatively small investment of $1.8 million and though not a material contributor to any individual year’s net income, it will provide valuable tax credits and experience for the Retail-Energy Marketing segment in the solar energy market.

Our Retail-Energy Marketing business is also finalizing plans to expand its footprint into the Pennsylvania market. As Pennsylvania moves to market based rates, the Retail-Energy Marketing business will be gearing up its customer acquisition and marketing program to attract new residential and commercial customers in this area. We will incur some upfront costs for these activities that will be more than offset through higher margins after fiscal year 2010. We will continue to identify and evaluate other opportunities in the solar energy market and other alternative energy sources, as well as evaluate additional unregulated initiatives such as expanding our asset management optimization activities that support our strategic emphasis to reward customers, investors and employees.

We maintain a disciplined approach to growth and cost control, as proven to be a successful formula. We will build on this platform and regularly recast our planning assumptions against the current economic environment and market conditions, and adjust as necessary to maintain the proper focus.

I would now like to shift gears a little and move to fiscal year 2010 earnings guidance. We expect to earn GAAP consolidated net income in a range of $2.21 to $2.33 per share. We are also providing non-GAAP consolidated operating earnings guidance as reflected on Slide 17 in a range of $2.16 to $2.28 per share. The projected full fiscal year 2010 operating earnings from our utility segment are expected to be in a range of $1.75 to $1.81 per share. And forecasted full fiscal year 2010 operating earnings from our unregulated business segment in a range of $0.41 to $0.47 per share.

Turning to the Utility segment, Slide 19 reflects the drivers of the variance of the mid-point between fiscal year 2010 forecast and actual fiscal year 2009 non-GAAP operating earnings. While our Utility outlook remains strong, certain conditions that generated significant contributions to fiscal year 2009 results are unlikely to repeat in fiscal year 2010. Higher pension and retiree medical costs are the primary drivers that are expected to hold earnings below fiscal year 2009’s level.

Also reducing year-over-year forecasts in operating earnings is the lower expected recovery of storage gas carrying charges that are driven by the level of natural gas prices. In fiscal year 2009, higher natural gas prices earlier in the year contributed $0.06 per share more to the recovery of storage gas carrying charges on an annual basis to operating earnings than is expected in 2010. In addition, we expect fewer opportunities for interruptible and miscellaneous revenues to contribute to operating earnings in fiscal year 2010.

On the positive side, we expect a $0.05 per share benefit from the addition of 10,200 new business meters, reflecting the early signs of the new housing recovery I mentioned earlier.

Our Retail Energy-Marketing segment is expected to contribute a mid-point of $0.45 per share to the forecasted fiscal year 2010 consolidated results. The expansion into Pennsylvania will result in additional customer acquisition marketing costs with the benefit of increased margins starting to be realized in fiscal year 2011.

Natural gas and electric unit margins are expected to revert to long term targeted ranges in fiscal year 2010 and will continue to benefit from the substantial growth in electric sales volumes associated with the large increase in the customer base accomplished during 2009.

Fiscal year 2010 is expected to be slightly lower than fiscal year 2009, but still proved to be a good year for our Design Build-Energy Systems business. Our current backlog of committed projects remains strong at $45 million. In addition, Design Build-Energy Systems has agreements in various stages of development for several larger projects that include opportunities created by the federal government’s economic stimulus package. Design Build-Energy Systems will be expanding its capabilities to support these increased opportunities. We will continue to leverage our strong reputation for both traditional and alternative energy efficiency solutions that have become increasingly attractive in today’s volatile energy cost and environmental concern.

As we move through the year, our management team and I will be working to identify additional opportunities to improve upon the fiscal year 2010 forecast. Vince, Adrian, Harry and I look forward to updating you on our progress throughout the year.

And that concludes my comments and we’ll be happy to answer your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Ryan Rosenthal - Sidoti & Co.

Ryan Rosenthal - Sidoti & Co.

Referencing Slide 19, I was hoping you could provide some additional color on your projected year-over-year decline for next year and specifically regarding higher pension expense and retiree medical expense and how we can think about them reoccurring in the future after 2010.

Vincent L. Ammann

First of all I just have to correct a misstatement I made. Earlier in my remarks I talked about the impact of an increase in the discount rate in 2010. I meant to say a decrease in the discount rate. So first of all I just want to make sure that I got that point clear.

And Ryan to talk about how to think about the impact on a going forward basis, you know we had a, as many companies had, a substantial decrease in the asset value of our invested assets in the pension plan. And you know that has a detrimental effect until the values of those assets can recover. The good news is we have not had such a decrease that we’re going to be required to make any pension contributions in 2010. So although it’s been a decline in the value, it hasn’t declined so great that we’ll have to make contributions to the plan. So we’ll continue our streak for one more year at least of not having to make any contributions to our pension plan.

The discount rate still has a pretty dramatic effect on our pension and our other post-retirement benefits, the retiree medical benefit actuarial cost. Last year we were using a 7.5% discount rate. This year the expense is calculated on a 6.5% discount rate. So that level of discount rate, coupled with the lower asset values, has you know thrown off this higher expense that we sort of saw coming throughout the year. We highlighted it in our March analyst conference as an area of challenge that we were looking at, even at that point in time. So I think the answer to your question, Ryan, is if asset values don’t rebound and discount rates stay the same, then we won’t see lower pension or [costs] in the future, but we’ll probably see the sustained level at the current level. If there is higher discount rates and/or a rebound in the asset values, then I think we could look to that rate to decrease.

As we look at it from a regulatory perspective, in the District of Columbia we have a tracker for both of those costs, so the effect on earnings is not felt until we go in for a rate increase and then it would be matched with revenues. So we have a tracker in the District of Columbia so that accounts for about 20% of the cost. So the remaining costs are allocated between Maryland and Virginia, and we would have opportunities when we would go in for rate increases to also include those higher levels of costs and allowable costs in those jurisdictions. The earliest opportunity to do that would probably be in Maryland. We have agreements in the state of Virginia relative to our rate plan to not seek rate increases until 2011, so that’s how that plays out in the short term, Ryan.

Ryan Rosenthal - Sidoti & Co.

In terms of Maryland itself, are you considering then filing for a rate case there concerning the higher expense you’re incurring?

Terry D. McCallister

Ryan, I guess you know I’ll say we’re evaluating. As you know we cannot go in for rate cases in neither the District or Virginia until 2011 and so those aren’t an option, and so we are looking at Maryland to see if it makes sense this year, perhaps we will. But we’ll have to take everything into account including the pensions and no pensions and we’ll just have to decide whether that makes sense.

We are earning you know on a consolidated basis about 10% so we’ll have to think carefully about whether that makes sense for us or not.

Vincent L. Ammann

If I could add, Terry, on the regulatory basis you know all of our service territories tend to use a traditional test year which is a historic test year, so at least in the short term coming off of you know the favorable results that we experienced in 2009 we don’t have a basis in the upcoming months to take any action in any of our jurisdiction. Beyond that, as we get into 2010 and we start evaluating how our results actually are reflected, then we can look at whether it makes sense to use part of 2010 or all of 2010 results as a potential test year in our Maryland jurisdiction. That’s just to provide a little color on the timing.

Ryan Rosenthal - Sidoti & Co.

And then in terms of the breakdown for the higher year-over-year expense in terms of pension versus the retirement expense, and if retirement is reoccurring or not.

Vincent L. Ammann

Group versus retiree medical?

Ryan Rosenthal - Sidoti & Co.

Right.

Vincent L. Ammann

The majority of the increase was coming from the pension cost. Of the increase on the retiree medical, that’s about $3.5 million on a pretax basis of the increase in cost. On the pension increase we had I think about $6.5 million of increase in pension cost for expense that’s going to be reflected in the guidance. So that’s kind of how it breaks down between those two components.

Ryan Rosenthal - Sidoti & Co.

And then in terms of your assumption for the interruptible margin for next year are you projecting off kind of a flat economy and that’s what’s driving the decline? I’m just trying to get a feeling for that.

Vincent L. Ammann

It’s a combination of a couple of things. You know decreased opportunities to get to the effects of the lower economy but also coming in 2009, we did have colder than normal weather, some of those interruptible customers are in fact affected by higher usage associated with colder weather. So 2010 the lower interruptible margins reflects the lower throughput associated with normal weather expectation.

Also the miscellaneous revenues include late charges which as we see the GAAP cost component of our bills decreasing, we expect any customer who would normally incur late charges for paying one or two months late, that revenue will decrease because the amount of the balance that they owe us would be less. And we do have some customers for whatever reason pay routinely just a few, either a month or a few days late and incur some late charges. And we just envision or we’ve been conservative here and assume that those will probably decline in 2010.

Ryan Rosenthal - Sidoti & Co.

One question if you will on the non-regulated Retail Energy-Services business, concerning your planned spend this year for marketing expense and just overall non-commodity related expense for the business, would you consider this another unusual year given your opportunity to grow customers? And kind of what your outlook for the margin this year as well, if its unusually low should we look for it to kind of return to more normalized levels in 2011.

Harry Warren

On acquisition cost, our overall acquisition and marketing budgets for FY ’10 are very similar to our actual expenses for FY ’09. In our sort of traditional service territory we still see a lot of good opportunities to grow our customer base in Maryland, D.C., Delaware and Virginia because we’re still in a very good posture relative to standard offer service rates of utilities, etc.

And then we’ve added a little more to that to make some of our initial entry into Pennsylvania which we’ll start probably kind of midway through this fiscal year. So overall, then, our marketing budgets are again pretty high for this year, FY ’10 coming up. They might decrease in the future if you know prices swing around and we find ourselves somewhat less competitive with utility rates for awhile.

As far as the second part of your question on margins, I think if you look at Slide 18 in our package where we talk about some of the operating guidance assumptions for next year, you’ll see that our unit margins on natural gas and electricity are expected to revert back toward the longer term targets that we talked about in the past. So for gas we typically talk about $0.55 decatherm margins. We’re actually projecting right now that we should do at least that well if conditions are normal throughout the year. And on the electric side we’ve talked about $5 and you can see that as the customer base has been growing dramatically and we’re getting a mix that includes some larger customers again, we see that reverting back to the $5 range that we’ve talked about.

So I think those are, when you’re doing your sort of long term forecasting I still think those are good numbers to keep in mind.

Ryan Rosenthal - Sidoti & Co.

In terms of customer growth next year, relative to this year, can we expect a similar increase or you know certainly an increase more favorable than your past years?

Vincent L. Ammann

Yes, I think our budgets and our plans are for another pretty favorable year in terms of customer growth here in FY ’10. And FY ’09 that growth tended to start kind of midway through the year. The real change in the market dynamics kind of happened more in the spring. So this year we’re expecting I think a kind of a steadier pace, but again our marketing budgets are indicating that we’re going to be moving sort of forward at a pretty consistent level this year.

And then again we’ll have to see what Pennsylvania brings us on top of that. You know the good news about Pennsylvania is you know we view that as kind of an effort to diversify and expand our potential business base, and we can do that with a fairly modest investment and modest risk. You know the PPL territory and the [PICO] territory, which are the ones that are moving to market based pricing in the next year or so, that’s an electric market that’s as large as the one we currently serve in Maryland, D.C. and Delaware. So we’ll go after the same sort of broad mix of customers there, with the same sub-part of our mix of sales channels that we’re used to using.

And then operationally, you know we’ve got experience with PJM Electric Supply market, so that’s the same up in Pennsylvania. The transactional environment in terms of dealing with utilities there is very similar. So you know we will be expecting some additional customer growth up there. It’ll be a competitive market. You know we’ll see how we do.

Operator

Your next question comes from [Mike Hahn] – Bryn Mawr Capital.

[Mike Hahn] – Bryn Mawr Capital

On the rest of the guidance for 2010, just some of the other puts and takes, but customer growth makes sense and the storage carrying charge. Could you maybe provide a little bit more color on the other pieces, the interruptible, miscellaneous revenues, could you explain exactly what that is and then the asset management retained at margins? And then the depreciation and amortization, why is that changing? Just a little more color there would be helpful. Thanks.

Vincent L. Ammann

Sure. First of all, the $0.04 decline we’re showing in the schedule on Page 19 of the presentation for interruptible and miscellaneous revenues, I spoke a little bit about that already. But you can think about that as being about $0.02 associated with interruptible margins and about $0.02 associated with the miscellaneous revenues that include our late payment charges and other revenue related or other revenue factors that are affected by the price of natural gas such as our general administrative costs, our GAAP provision, which provides some additional revenue for higher uncollectible expenses when gas prices increase. When the gas prices decrease, that obviously lowers it and it comes down as well.

So that’s some of the factors affecting the miscellaneous revenues and the interruptible revenues. On the interruptible revenues its simply a matter of we have certain targets, we have certain bands upon which we have some either exposure or opportunity, however you want to look at it in certain of our jurisdictions. Right now we’re just forecasting that we’ll have some decline from the 2009 levels which were very favorable to probably more normal levels on that in 2010. Somewhat affected by the economy, so I think the throughput there is a little lower because of where the economy has lost some of those customers.

On the asset management and retained margins, another impact of lower gas prices tends to be lower locational spreads and lower opportunities to make incremental margins on using the capacity, moving gas from one side of our system to the other or to off system customers. Those margins tend to get tighter as gas prices decline. That’s just a general statement. There’s obviously days of the week and days of the month when there are constraints on the distribution and the transmission systems, where having the ability to use our under utilized assets to move gas on those days are very lucrative. So we’ve just put together a forecast here for 2010 that assumes that there’s a general decline in the opportunities to make additional net revenues from asset management associated with lower levels of gas prices.

[Mike Hahn] – Bryn Mawr Capital

Okay. So on that.

Vincent L. Ammann

I’m sorry, also I forgot about the depreciation. That level of expense increases primarily just associated with our capital additions and our capital programs. So it’s not an abnormal increase. It’s just that we spend money every year and add to our utility plant and service. We have higher depreciation associated with that.

[Mike Hahn] – Bryn Mawr Capital

On the asset management, so basically you’re saying that because gas prices are lower you’re getting a lower payment, you’re not talking about summer, winter gas spreads. You’re just talking about what you get to move gas around your system for customers. Is that correct?

Vincent L. Ammann

Well we make money off of both of those opportunities. As we have certain opportunities on the margin to make some profits off of the summer, winter spread, we actually happen to have a couple of storage facilities that are no longer needed for our firm customers that we use the program to specifically optimize the summer, winter spread opportunities. So we do have some of that in the mix as well. But you know just as the economy declines, as more gas is available in the system throughout the entire United States or at least the eastern seaboard, the opportunities to make incrementally larger margins is generally declined as there’s a higher availability of lower price.

So just in order of magnitude, we probably are looking at close to $10 million of retained margins in fiscal year 2010 from asset management opportunities, which is down from approximately $11.5 million in retained margins in fiscal year 2009.

[Mike Hahn] – Bryn Mawr Capital

So the summer, winter part of it, it’s not a big piece of what you’re doing. I think it falls under the utility unlike some other people in your industry. But it seems like the bigger piece is just movement and storage, not arbitrage.

Terry D. McCallister

I have to confess I haven’t looked at that split. We look at [headlines] at a far more granular level and I haven’t looked at a general split. Last time I did look at it, it was about 50-50. We still do create some of our revenue opportunities from storage optimization. I will say we have certain assets that I refer to, storage assets that are no longer needed for the utility that we optimize. We also have some opportunities under our asset optimization program to optimize the filling of the storage for the utility under our asset optimization program. That was also reviewed in this initiative that the Maryland Commission looked at and they thought that program was very successful. So that provides additional summer, winter spread opportunities as we look at opportunities to optimize the utilities activities in filling its storage during the summer.

[Mike Hahn] – Bryn Mawr Capital

And last question on the summer, winter part of it, it seems like the spreads have gotten better there, but admittedly gas prices have been low. But just the last couple of months it seems like the spreads have been better so is it just timing of when you lock things in, that sort of thing?

Vincent L. Ammann

Some of the spreads I think have increased in recent months, but some of the capacity for example the two facilities that I referred to, we would have hedged a lot of that summer, winter spread in prior periods, even maybe as long as a year or two ago. [Inaudible] realize are based on what we thought were attractive spreads at that point.

[Mike Hahn] – Bryn Mawr Capital

So as time goes on, though, and the spreads remain where they are, that should come back the other way eventually.

Operator

Your next question comes from Igor Grinman - Zimmer Lucas Partners.

Igor Grinman - Zimmer Lucas Partners

Sorry, I jumped on a bit late. I didn’t fully hear your answer on respect to Maryland and pension expense recovery. Have you guys filed there, given the significant pension increase or? I thought you said you’re still evaluating the need to file there? And also can you please break out the increase in the expense between Virginia and Maryland jurisdiction?

Terry D. McCallister

What we said is we’ll evaluate whether we go in for rate relief in Maryland or not. You know we can’t go in for another year until 2011 in D.C. and Virginia, so we’re evaluating whether the whole ordeal makes sense, I guess is the way to put it for Maryland, not just pensions. And Vince also added and I’ll just reiterate you know we need to have a test year in which to file upon and so that test year, if we’re going to capture at least part of the pension expenses, would probably need to fall into most of 2010. So we’ll need to actually, unfortunately you have to incur the expenses in order to go in and file for them. So at a minimum we’d be looking at late this year, at a minimum.

Igor Grinman - Zimmer Lucas Partners

And just the breakout between the increased pension expense between Virginia and Maryland?

Vincent L. Ammann

We don’t traditionally provide the breakdown of our expenses by jurisdiction. We generally tell folks to think in sort of broad terms of D.C. being 20%, Maryland being 40% and Virginia being 40%. That’s a pretty broad characterization but if that helps you, that’s probably the best we’ve done as far as providing specific jurisdictional breakdown of expenses.

Operator

Your next question comes from [John Hansen – Persidis].

[John Hansen – Persidis]

I just want to follow up to make sure I understand. So on the utility costs here your outlook for 2010, a number of those cost items are items that will hit us 2010 but it sounds like we’ve got some rate deals that in 2011 were pretty well boxed out so we’re actually looking for recovery on some of those items will actually be in 2012 fiscal?

Vincent L. Ammann

John, you’re breaking up a little bit and it was a little hard for us to hear it. I think what you were asking was given the timing are we looking for recovery of these costs in 2012?

[John Hansen – Persidis]

Yes. It sounds like we’ve got some things to keep us from filing for that so fiscal 2011, by the time we get there we’re not going to be able to recover those too much. So it’s probably more like ’12 before we get some of those costs factored into rates?

Adrian Chapman

That’s probably correct. If we’re looking at 2010 being a test period for a rate case, that rate case would then be prosecuted in the late 2010, early 2011, maybe even go into late 2011 for rates to be effective in 2012. That goes for Maryland and that actually syncs up with the rate freezes in the other two jurisdictions. They provide for rate increases as early as the late 2011 period and so that would also require a 2010 test period for both the District and Virginia. So in fact, all three jurisdictions could be, depending on how 2010 evolves, have 2010 as a test period, have the cases transpire over the course of 2011 and have rates in effect in 2012.

[John Hansen – Persidis]

Let me just jump also to the retail just to make sure I understand that. I know we’ve done pretty well here in 2009 as we had a declining price environment. Where we have things now, and I see you have your outlook for the gas retail business is a bit of a decline for 2010. Can you reiterate again why the margins would be up in the electric even though traditionally when we look at you know declining price environments are pretty good, but when they’re flat or whatever we don’t seem to be able to capture those extra margins. What’s going on in 2010 that will help us get to those improved margins in [inaudible]?

Harry Warren

We’re having trouble I think with the latter part of your question, so I’ll give what I think is the general answer you were looking for and then come back at me if I missed a piece of it.

Okay, so I think your basic question was you know how are our results that we’re projecting for 2010 vis a vie 2009, there’s a small decline from our non-GAAP operating income this year going forward to next year. And the big driver of that fall off is remember back to Vince’s comments during his presentation that we’re seeing some unusually large gas margins here in fiscal 2009 that we’re pumping up our results a little bit. And that’s really why, if you look back at our fiscal year 2008 our gas margins were depressed a little bit, we’ve seen a big benefit here in ’09. And then we’re expecting to see those gas margins revert back to a more normal range in 2010. So that’s why you’re seeing a little bit of the inertion in the overall net income.

And then again we’ve mentioned in one of the prior questions that in addition to maintaining a pretty strong level of customer acquisition expense in our traditional footprint this year, we’re also putting in some additional investment to get us going in the Pennsylvania market. So that’s also a little bit of a drag on our 2010 forecast as we make that market entry.

So I think those are the major factors why you’re seeing a little bit of fall off. And then you know we’re seeing the benefit over a period of time of the increases in our electric customer base.

Did I hit everything for you there?

[John Hansen – Persidis]

Yes. I was trying to understand the positives in the electric in terms of what we see and do we have things locked in? Do we have contracts locked in?

Harry Warren

So you’re looking at the positive in the electric margins in terms of I guess I’m thinking Slide 20 where we say we’ve got another $0.11 in electric gross margins. Right.

That’s like a volume driver. You know you might note that if you look at, because a lot of the load that we brought on here in FY ’09 in the electric business you know was piling up more towards the second half of the year, really again if you look at this summer of FY ’09 over the summer of FY ’08 I think that in Vince’s comments he indicated that that about doubled. So that’s giving you a feeling of how much our electric customer base has grown.

And if you look over on Slide 18 of our presentation, you’ll see that we’re anticipating over 9 million megawatt hours of electric sales volume for next year for FY ’10. And that’s up over the 5.5 million for this year. So really kind of a longwinded explanation, you’re really seeing volume growth in the electric margins.

[John Hansen – Persidis]

And we feel that we’re going to be able to maintain margins with that even though we have maybe a little bit of a headwind on the price of power compared to what we had last year? We don’t have a tailwind at least.

Harry Warren

Well I think a couple of factors there. You know actually as we’re sitting here today, we’re not seeing much headwind on future power prices relative to the standard offer service rates for these mass market customers. You know we saw prices run up and run down quite a bit from the middle of August to sitting here today. But we’re still in a very favorable position with respect to the residential and small commercial standard offer service rates. And in fact, as we’re entering Pennsylvania, PPL which is the utility territory that’s opening up to market rates in January, it’s pretty clear that we’re going to be in a favorable pricing position with respect to those standard offer rates out of the box.

So all of that is still we’re doing pretty well on margins there. We’re not seeing too much compression there yet. What we are seeing I think when you look at our unit margins for FY ’09 and then you look at the fact that we’re expecting those to revert more toward that long term $5 megawatt hour average, you’re seeing the impact on our volumes and sales and margins of actually getting some large government type accounts this year, which are high volume, lower margin. They’re bringing the average down a little bit. But of course at the margin we feel that they’re good accounts.

Vincent L. Ammann

Harry, you might also just mention that a lot of that increase in 2010 is based on [inaudible] added in 2009. So I’d say you’ve got whatever added pressures on price we experience here or we would experience wouldn’t have that much of a dramatic effect on what we might realize off of the existing book of customers.

Harry Warren

Did you get Vince’s input on that there?

[John Hansen – Persidis]

Yes.

Harry Warren

And I think kind of along that vein we do have a pretty good book of business on the electric side. A lot of customers because they saw the steep price declines this year locked up not only for one year contracts but a lot of two and even three year contracts. So we kind of have an unusually big forward book of business locked in. And as Vince points out, that is providing some good ballast there to our margin forecast. That’s not all just subject to renewal.

[John Hansen – Persidis]

With that extension are we having to put some more capital into that business or are we comfortable with that?

Vincent L. Ammann

On the capital, we’re talking about not capital expenditures, you’re talking about the financing activity?

[John Hansen – Persidis]

Exactly. Yes.

Vincent L. Ammann

Well, Harry you might want to mention that as we go into the, I’ll just say it, as we’re going into Pennsylvania you know we will be again continue to do business in the PJM power pool. So we’re probably doing business with some of the same suppliers who we currently are doing business with to serve the Maryland jurisdiction, Delaware jurisdiction. So we’re probably not in a situation where we have a significant amount of incremental capital to add additional loads that we’ll be buying from those customers.

Now the issue that always comes up is well, how much capital do you need if prices should move against you and are you going to have significant collateral calls? You know we are buying this power at much lower prices than some of our peer companies did in the last couple of years. So the capital stress that a lot of our competitors in this business felt in the prior years, we probably have some pretty good position relative to those positions going forward. So even if prices should go down, they’re not likely to go down that significantly that we’d have significant collateral costs.

So the business seems to be pretty well you know we’ve got great collection activity from the customers we have had, so we haven’t had any kind of strain on the cash flow coming in from existing business.

Operator

Your next question comes from Ben Sung - Luminous Management.

Ben Sung - Luminous Management

Earlier in the call you mentioned that your actual earned ROE was somewhere around 10%. Was that an estimate for 2010 or for 2009?

Terry D. McCallister

2010. And I think I just said over 10% on a consolidated basis.

Ben Sung - Luminous Management

On a consolidated basis. So that’s not at the utility?

Terry D. McCallister

No.

Ben Sung - Luminous Management

Any idea approximately what your ROE was in 2009 and roughly where you end up based on your guidance for 2010?

Vincent L. Ammann

On a consolidated basis we were over 11, like 11.2, 11.3. I think it was 11.2 on a consolidated basis and non-GAAP results that we had for FY ’09. And so that’s on the consolidated basis. On the utility basis where we ended up for 2009 was close to 11%, like 10.7%. And so that’s how we finished. And that’s consolidated [for] all three jurisdictions.

As Terry commented, we’re looking at the forward ROE’s on the utility, not a consolidated, would be north of 10% still for 2010. And for the utility group, we’re looking at it to be somewhere between 9 and 9.5% on ROE’s for 2010.

Operator

Your last question comes from Jim Harmon - Barclays Capital.

Jim Harmon - Barclays Capital

At Energy Marketing, can you give us an absolute dollar amount that you spent on customer acquisitions and what you expect to spend in 2010?

Vincent L. Ammann

I think roughly if we look at our total promotional and customer acquisition expenses, that’s everything from direct mail we’re sending out to fees that are paid to various types of commercial consultants that intermediate certain sales to you know trade show booths, we spent about $10 million pretax on that in FY ’09. And our budget for FY ’10 is roughly that same number for our kind of traditional footprint. And then we’ve added some more to that for this initial Pennsylvania forays for some mass market and larger marketing expenses there.

Actually offhand I don’t have a number on that. It’s small relative to the $10 million, but I think it’s probably on a pretax basis it’s also got to be in that range of $1 million or $2 million maybe.

Jim Harmon - Barclays Capital

The second question is in the Design Build-Energy Systems segment, what percentage of backlog is tied to stimulus and what could the slope of earnings look like over the next two years if all the stars are in alignment?

Vincent L. Ammann

Just to understand that when we talk about the backlog, the $45 million that Terry mentioned those are signed contracts. So those are done. Those are just a matter of designing the work and scheduling the work. So when we’re talking about additional projects that are in the pipeline related to the stimulus incentives that the government has, what we’re talking about there are incremental above the $45 million. Some of the $45 million of backlog would be projects that have come up through initiatives that either would have been not as accelerated, I guess if it weren’t for the stimulus dollars that were available. But they were budget dollars made available because of the stimulus package.

So some of that $45 million would include projects like that. I don’t have that breakdown as far as what percentage of the $45 million which we think specifically are earmarked from stimulus dollars. I think if you want to think and the way we’re looking at it, we think the business will continue to grow. I think at the last analyst conference Gotham indicated that we think that earnings from that business can grow at 15% a year or so. I think we would probably say that’s certainly doable. It all depends on how fast and how quickly we’re able to add these projects.

We are you know adding additional capabilities. Project managers, some additional leave space to house the folks that we are adding. So we are expanding our capabilities to be able to handle more than what we’ve handled in the past. So we continue to look for increases in opportunities. But I don’t have a specific number for you on how much of that is coming from the stimulus.

Terry D. McCallister

Just as a follow up, that business, you know a lot of the stimulus dollars as has been laid out there are for government energy efficiency improvements for their buildings and so there are so many of those in this region. And that’s right in Washington Gas Energy Systems sweet spot. So that is the kind of work they do and have been doing and are well known for and respected here. So that’s a lot of the work we’ve been doing for them and will continue to do so. So just the continued spending on those things by the government will prove to be beneficial for that business.

Jim Harmon - Barclays Capital

Do you have a dollar amount of the total pie you’re exposed to?

Vincent L. Ammann

We are exposed to? I’m sorry.

Jim Harmon - Barclays Capital

What spending amount that you’re exposed to? You know the government’s going to spend $200 million here, you’re exposed to X amount or are you exposed to all of it?

Vincent L. Ammann

No. I guess the answer is no we don’t have a number for that.

Operator

There are no further questions at this time. Mr. Dennis, I can turn the call back over to you.

Robert Dennis

Thank you for joining us this morning and if you have any further questions please don’t hesitate to call me at 202-624-6129. Thank you and have a good day.

Operator

This concludes today’s conference call. You may now disconnect.

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