OGE Energy's CEO Discusses Q3 2013 Results - Earnings Call Transcript

Nov. 6.13 | About: OGE Energy (OGE)

OGE Energy Corp. (NYSE:OGE)

Q3 2013 Earnings Conference Call

November 06, 2013 9:00 am ET


Peter B. Delaney - Chairman, President and Chief Executive Officer, OGE Energy Corp., Oklahoma Gas & Electric Company; CEO, Enogex LLC

Sean Trauschke - Vice President and Chief Financial Officer, OGE Energy Corp., Oklahoma Gas & Electric Company

Todd Tidwell - Director, Investor Relations


Brian Russo - Ladenburg Thalmann

Sarah Akers - Wells Fargo

Anthony Crowdell - Jefferies & Company


Good day, ladies and gentlemen, and welcome to the Third Quarter OGE Energy Corp. Conference Call. My name is Allyson and I will be your operator for today. At this time, all participants are in listen-only mode. We will conduct a question-and-answer session towards the end of the conference. (Operator Instructions) As a reminder, this call is being recorded for replay purposes.

I would now like to turn the call over to Todd Tidwell, Director of Investor Relations for OGE Energy Corp. Please go ahead, sir.

Todd Tidwell

Thank you, Allyson. Good morning everyone and welcome to OGE Energy Corp.’s third quarter 2013 earnings call. I’m Todd Tidwell, Director of Investor Relations, and with me today I have Pete Delaney, Chairman and CEO of OGE Energy Corp.; and Sean Trauschke, President of OG&E and CFO of OGE Energy Corp.

In terms of the call today, we will first hear from Pete, followed by an explanation from Sean of third quarter results, and finally as always, we will answer your questions. I would like to remind you that this conference is being webcast and you may follow along on our website at oge.com. In addition, the conference call and accompanying slides will be archived following the call on that same website.

Before we begin the presentation, I would like to direct your attention to the Safe Harbor statement regarding forward-looking statements. This is an SEC requirement for financial statements and simply states that we cannot guarantee forward-looking financial results, but this is our best estimate to date.

As a reminder, since the midstream partnership plans to pursue an IPO, we are limited by SEC regulations on the details we can provide you until the S-1 is filed. I'd also like to remind you that the presentation of our results reflects the 2-for-1 stock split which was effective July 1 of this year.

I will now turn the call over to Pete Delaney for his opening comments. Pete?

Peter B. Delaney

Thanks Todd. Good morning and thank you for joining us. This morning we reported third quarter 2013 earnings of $1.08 per share compared to $0.94 per share in 2012. Our earnings were up primarily due to our interest in the Enable midstream partnership. Sean will discuss Enable's contribution in more detail in a minute. But due to the higher earnings at the midstream business, we are increasing our consolidated 2013 earnings guidance to $1.80 to $1.90 per average diluted share. Our 2013 guidance for the utility remains unchanged.

Earnings at utility were up slightly for the quarter, in line with our expectations. The increased earnings at utility continued to be driven by our larger FERC jurisdictional transmission rate base, and it largely offset the milder weather that we had this year in comparison to the summer months of 2012. September was warmer than normal keeping weather near normal for the quarter.

Our operating and maintenance cost were down quarter-over-quarter. However, we expect that under-run to reverse in the fourth quarter as generating plant maintenance originally scheduled for earlier in the year is completed. Overall, we expect our utility's financial performance to be in line within our original guidance, with solid performance as we continue to manage our costs and drive forward on our operational initiatives. We continue to focus on managing costs in an effort to protect customers' bill in anticipation of future environmental compliance expenditures.

Now on that subject, as you know the 10th Circuit Court last week denied our request for a hearing of their July decision on regional haze that upheld EPA's federal implementation plan or rejected Oklahoma's state implementation plan. We are very disappointed with the decision for several reasons, not the least of which is the cost our customers will have to bear. We now have 52 to 55 months in which to comply, depending on whether the stay was lifted in July as per EPA's position or our belief that the stay is lifted when their hearing was denied.

The EPA's CO2 regulatory scheme adds complexity as you can imagine delivering a compliance plan which mitigates the impact on our customers. Given the June timing of the CO2 regulations for our existing plants, we will try to back-end our compliance investments to get better information inside about the implications of those CO2 regulations. We had hoped that 10th Circuit Court would appropriately upheld the state's rights in this matter, extending the compliance date so that some of this uncertainty would be removed.

Our compliance strategy also helps position our generation portfolio for the future, the future of operating in the SPP Day 2 markets, with ever-increasing amounts of intermittent energy and also within the ultimate CO2 regulatory scheme I mentioned earlier. Field diversity remains very important, an important element of protecting our customers over the long run and we have been taking the necessary steps to move forward with our plans to be able to scrub some or all of our coal units.

We have completed much work preparing for other compliance options for our four coal units that are subject to regional haze, such as converting, replacing one or more of the units. Whatever the option, the capital investment required for this compliance we still expect to be in the range of $1 billion to $1.5 billion. Unfortunately again, that's expensive cost to our customers.

We expect to be providing details of these plants in the first quarter of next year and we intend to see recovery of our environmental compliance plan from the Oklahoma Corporation Commission under existing legislation and commission rules that expressly permit the prior approval of mandated environmental expenditures.

Turning to our service territory, the Oklahoma economy remained strong. Oklahoma City has the lowest unemployment rate for large metro areas, it's 4.7% and the state as a whole is 5%. New customer growth continues. We added nearly 8,000 customers compared to the third quarter of 2012. This is an increase from last quarter as we are beginning to see the rebuilding efforts from the devastating tornadoes in more Oklahoma in May. Commercial growth also remained strong at near 2%.

On the utility operating front, we continue to focus on protecting our customers' bill through operational initiatives involving the rework of our processes, exploitation of our Smart Grid investment and using demand response and Integrated Volt Var Control investments to improve our efficiency, getting more out of our existing assets. We have member driven comprehensive work underway on our operations area related to cost performance that's showing solid results, although early in our implementation.

Another focus continues to be on improving our customer experience through additional products and service offerings, retaining a high level of viability and keeping our rates below national and regional averages. We are very pleased to be named recently number one in J.D. Power rankings in residential customer satisfaction for the second year in a row.

We now have 80,000 or 10% of our customers enrolled in our Smart Hours program. It's important for a couple of reasons. First, it's critical to our plan of not adding base load fossil fuel in increasing our capacity until after 2020, and also keeps our rates low. Secondly, it allows our customers more control over their bill and usage which then creates additional cost savings for them and of course improved customer satisfaction.

Our transmission spending will wind down in 2014. As I mentioned earlier, these investments have been the largest driver of our utility earnings, or one of the larger drivers of utility earnings, with $57 million of margin year-to-date compared to $27 million last year. We have some smaller projects scheduled for 2016 and beyond. We will continue to work to position ourselves for additional transmission opportunities under FERC order 1000 which we expect will take effect in 2015.

I will note, state law in Oklahoma provides for a right of first refusal for transmission owners on projects of 300 kV and below. Our focus will be in the SPP territory, partnering with transmission owners and others to bid for additional projects in the SPP. We believe our years of experience and track record of executing on almost $1.5 billion on projects in last five years will be an asset to these efforts.

Turning to Enable Midstream Partners, the integration is going well. Last quarter we announced the senior operations leadership team and additional levels of operating commercial positions have been filled. Enable is better able to focus on delivering products and services to its customers, executing on synergies and exploring business opportunities as the organization is filled out.

I'm pleased with the progress the team is making and how both companies are coming together to become a strong competitor in the natural gas midstream sector. We're progressing on the S-1. Our goal is to file with the SEC before year-end this quarter and to position us for a first quarter IPO of Enable Midstream Partners. The CEO search continues, and while it has taken much longer than Dave and I had anticipated and hoped, getting the right person remains critical to the long-term success of Enable.

Results of the midstream business remain to be in line with our expectations. Gathering and processing volumes continue to grow as expected in Western Oklahoma and Texas Panhandle, as well in the Southeast Cana region or better known as the SCOOP play. Long after gas prices continue to dampen volume growth in the dry gas basins, but volume indemnification there helped offset much of the decline from a financial standpoint. Frac spreads improved a little compared to last quarter and we did recover some ethane on gallons shipped to Mont Belvieu.

In the transportation storage segment, margin was down. The lack of basis differential and storage spreads have decreased revenues of intrastate pipelines. Enable Board of Directors recently approved the $200 million a day processing facility in Bradley, Oklahoma that will be an expansion of our processing header. This plant will be constructed on our again super-header in Grady County positioned near the SCOOP play. This is an affirmation of the strong volume growth in the partner's liquids rich acreage dedications. The plant is expected to be online in 2015 to meet our projected growth and processing volumes.

The $200 million a day McClure facility remains on schedule for operation in early 2014, and oil just began to flow this week or I think late last week on our initial project in the Bakken and we hope to expand our presence there. It's an exciting opportunity for the partnership to expand into a new region.

After the IPO of Enable Midstream Partners, we expect growing cash distributions will be accretive to our cash flow. We have several potential uses for that cash flow, one of which is dividends. As you know we have accelerated the dividend growth rate for the past years, three years, and at the midpoint of our current guidance, our payout ratio is 45%. We have room to grow but we continue to balance our desire to grow the dividend with our ability to profitably reinvest in the utility business.

The environmental compliance plan, which has not been completely resolved at this point, represents one such opportunity. In December, the Board historically reviewed our dividend policy and I want to assure you that the management team and the Board at OG&E are committed to creating long-term value through earnings and dividend growth.

With that, I'm going to turn it over to Sean who will review our financial results in more detail. Sean?

Sean Trauschke

Thank you, Pete, and good morning. For the third quarter, we reported net income of $215 million or $1.08 per share as compared to net income of $186 million or $0.94 per share in 2012. Year-to-date, we reported net income of $330 million or $1.66 per share as compared to net income of $317 million or $1.60 per share in 2012. The contribution by business unit on a comparative basis is listed on the slide.

Before moving on to our businesses, I'd like to point out that the year-to-date $0.03 loss at the holding company is primarily due to transaction costs associated with the formation of Enable Midstream Partners. At OG&E, net income for the quarter was $172 million or $0.86 per share for 2013 compared to $167 million or $0.84 per share in 2012. Third quarter gross margin at the utility increased approximately $1 million, and I'll discuss the drivers on the next slide.

O&M was $3 million lower for the quarter, primarily due to the timing of scheduled power plant outages which are currently underway. Other income increased $3 million due to increased margin recognized in the Guaranteed Flat Bill program which was a partial offset to the mild summer weather in 2013.

Interest on long-term debt increased by $3 million related to a debt issuance of $250 million that occurred in May of 2013. And finally, income tax expense increased by approximately $4 million due to higher pre-tax income as compared to the same period in 2012.

Turning to the third quarter gross margin, utility margins were up slightly for the quarter despite the impact of weather compared to 2012. There were two primary drivers for the increase in gross margin. First was an increase of wholesale transmission revenues contributing $11 million from additional investment of approximately $278 million this year. The second growth from new customers increased gross margin by $4 million. Partially offsetting these increases was mild weather compared to 2012.

Looking closer at weather, cooling degree days were 13% below the third quarter of 2012 which translated into $17 million of lower gross margin. Looking at the full year impact of weather, gross margin was $19 million lower than 2012 as year-to-date cooling degree days were 23% below the prior period.

Turning to the midstream business, natural gas midstream operations reported equity income to OGE Energy Corp. of $46 million or $0.23 per share in the third quarter of 2013 compared to $18 million or $0.09 per share for the same period in 2012. The business drivers in the quarter were comprised of continued strong volume growth in Western Oklahoma and the Texas Panhandle, offset by lower transportation volumes primarily at the interstate pipelines.

We continue to experience low natural gas prices impacting Enable's drier gas basins, offset by volume indemnifications. Ethane remains in rejection and is projected to be so in the foreseeable future. Looking at distributable cash flow for the first two months of the partnership, $60 million of cash distributions were made, of which $17 million was sent to OGE.

Now I would like to provide some clarity around some of the adjustments we made this quarter in the midstream operations. First, the new partnership operates in several states, and when you take into account the various state income tax rates, the impact is, our deferred state tax liability decreased $17 million. This is a one-time nonrecurring adjustment.

Second was a basis adjustment of the equity contribution made by OGE compared to the new 28.5% ownership percentage in Enable, which is approximately a $420 million difference. This will be amortized over 30 years which equates to $1.2 million per month, and we recognized $6 million for the first five months of the partnership in this quarter.

And finally, as you know Enogex assets were contributed to the partnership at fair value. In addition, a new depreciation study was conducted and extended the life of some of these assets by approximately 10 years. This equates to approximately $800,000 of lower depreciation expense on a monthly basis and we recognized $4 million in the quarter for the first five months of the partnership in the third quarter. Additional detail regarding these adjustments is in our third quarter 10-Q we filed this morning. In total, these adjustments accounted for approximately $0.14 of equity earnings in the quarter.

Before answering your questions, I want to discuss our 2013 earnings guidance, which as Pete mentioned has been increased to be between $1.80 and $1.90 per share based solely on the formation of the Enable partnership. The utility still remains on plan.

Earnings from the midstream business, which will include five months of Enogex and seven months of Enable partnership, are now projected to be between $0.45 and $0.50 per share due to the accretive impact of the joint venture and the accounting adjustments I mentioned earlier. Year-to-date consolidated earnings were $1.66 and the earnings contribution from the midstream business was $0.37, which is already at the top end of our previously issued guidance. The utility and holding company guidance will remain unchanged.

This concludes our prepared remarks, and we'll now open it up for your questions.

Question-and-Answer Session


(Operator Instructions) Your first question comes from the line of Brian Russo from Ladenburg Thalmann. Please go ahead.

Brian Russo - Ladenburg Thalmann

Just to clarify, the $0.14 of equity earnings related to these accounting adjustments, what portion of that is nonrecurring?

Sean Trauschke

Probably $0.08 to $0.09 of that, Brian, that's related to the reduction in the deferred state tax liabilities.

Brian Russo - Ladenburg Thalmann

Okay. And is it safe to assume that we should expect a permanent CEO announcement prior to any S-1 filing?

Peter B. Delaney

As we said, the S-1 filing we expect to get done this quarter. From the CEO standpoint, again today we are focused on getting the right person and you hope those things go quickly. Sometimes they do, sometimes they don't. Obviously we have a good team in place that's continuing to move us forward but it doesn't replace what you get with a CEO, but our focus remains on being to get the right person, not trying to just fill a spot here because it is so important, and that's important to – you obviously can't go without and do an IPO without a CEO and so we remain focused on that and we're confident we're going to go get a good person to fill that spot.

Brian Russo - Ladenburg Thalmann

Any thoughts on why it's running behind the previous schedule of I guess having the S-1 out in September?

Peter B. Delaney

No, I don't think there's any – I mean in terms of scheduling things, this is one of the process that's probably not given to a great schedule because you're dealing with our schedules and these people are generally very engaged, not just sitting around as you would suspect. But Sean is on top of the S-1 schedule and I don't think that there's been any change in that. Sean?

Sean Trauschke

Yes. Brian, as far as the S-1 is concerned, recall we filed that pre-clearance letter with the SEC and we had to go through an appraisal process of the Enogex assets, and so that is concluded and we wanted that to be rolled through the third quarter results. And so from an S-1 standpoint, we needed to cross that threshold and we're working through all of the accounting adjustments as it relates to the S-1 to how that will affect the financial statements and the forecasts, and then as Pete mentioned, we expect to get the S-1 out this quarter. So I don't think the S-1 has seen any delay from what we previously communicated as a result of the guidance we received from the SEC.

Brian Russo - Ladenburg Thalmann

Okay, great. And you mentioned a $200 million a day processing plant for 2015 in the SCOOP region. Could you just talk more broadly on what you're seeing in this group and kind of the growth opportunities there?

Peter B. Delaney

I'm looking to Todd from the S-1 perspective, but we I think laid out our – and you've continued to see I think in Continental and their announcements and their plans with rigs, and we continue to be very excited of what we see going on there. There's been a big announcement by Newfield in that area next to the SCOOP play, and so it's probably very similar to what Continental is experiencing in SCOOP. That remains – the Newfield is an opportunity we will chase as well. So what you see from our numbers in the third quarter, in those areas we are expecting to see strong growth, we continue to see strong growth, and I don't believe our expectations have really changed.

Brian Russo - Ladenburg Thalmann

Okay. And just switching gears to the utility, I think we were expecting an OCC decision on a request for some minor modifications on previous orders. Is there any update on that?

Peter B. Delaney

No, there's no update on that. That really seems to be on a slow process. It's not something that is needed at this point in time. We're going to continue on. We had asked for modifications, it had to do with filing. So instead, there were some things that we needed to do, one of which was continue to share the savings that we committed to when we did the Smart Grid implementation and we wanted to be able to do that and without having to file a rate case, because we didn't see especially with the decision that we now have that it was going to overshadow everything else, that it was a good devotion of resources from all sources given that our rates have not been in effect very long.

And so I think things like the focus, our focus obviously is in this compliance plan given the magnitude and the impact on our customers. We're obviously very disappointed in what's occurred with the 10th Circuit Court and not winning that rehearing, and we're moving forward.

Brian Russo - Ladenburg Thalmann

Okay, great. Thank you very much.


The next question comes from the line of Sarah Akers from Wells Fargo. Please proceed.

Sarah Akers - Wells Fargo

When the deal was announced, you guys highlighted somewhat limited customer overlap between Enogex and CenterPoint midstream, are you able to comment on the progress or success that Enable is having in cross-selling those relationships in order to generate new opportunities?

Peter B. Delaney

Yes, I think we had talked about that from the lack of crossover – I mean not crossover but that we were expanding our customer base, and a lot of it because there's two different businesses as you well know. It's the intrastate and the gathering and processing, and given the basins they were in and some of the major players in the Haynesville and whatnot in that basin, there were some new big customers that they had. There's a lot of operational synergies that we're looking at between our system and their systems that we're able to I think provide better opportunities and better service to our producers. We continue to focus on exploring the relationships to get into new basins and we still think there's a lot of good opportunity there.

Sarah Akers - Wells Fargo

Great, and then you mentioned the synergies, is $50 million still a good number for us to think about?

Peter B. Delaney

That's the number we're still focusing on, yes.

Sarah Akers - Wells Fargo

Great, thank you.


The next question comes from the line of Anthony Crowdell from Jefferies. Please proceed.

Anthony Crowdell - Jefferies & Company

Two separate questions, one is related to the I guess potential CapEx spend on the environmental at the power plants, and it seemed that from some of the remarks and I guess with these pending CO2 guidelines, you're talking fuel diversity, maybe conversions of plant, could you just – there's four coal plants I guess that would need to be scrubbed, needed away for CO2 guidelines, could you let us know like the cost that would occur from the converted plant from coal to gas just so we can get kind of book ends of where the range of spending could be, because right now it seemed like a very narrow range of around like $1.2 billion? And then moving to Enogex, or I should say Enable now, you mentioned there was Newfield announcement of the stacked play. Any thoughts, I mean is the stacked play same size as the SCOOP play, I mean just curious on your thoughts there?

Sean Trauschke

Anthony, this is Sean. On the first question with regard to the magnitude of the CapEx, I think Pete mentioned in his remarks, the anticipation is that we're going to need to invest $1 billion to $1.5 billion into our business. And so that's the ballpark range that we're talking about regardless of the outcome or the ultimate decision of what we go do. As far as Enable on the Newfield investment, we're really restricted as far as what we can say about that from a forward-looking standpoint, but it's adjacent and similar to the SCOOP play.

Anthony Crowdell - Jefferies & Company

Do you have any dedicated, I don't know the right terminology, dedicated acreage in the stacked play right now or all your dedication is in the SCOOP play?

Sean Trauschke

What we've commented previously is that we have the acreage dedication from Continental in the SCOOP play. We haven't commented further beyond that.

Anthony Crowdell - Jefferies & Company

Okay. And just to finish up, when you gave the range from $1 billion to $1.5 billion on the environmental spend, that would include or that's your internal analysis of whether a plant gets retired or if you convert a plant to gas, that's inclusive of this range?

Sean Trauschke

Yes, it's a comprehensive solution to comply with regional haze, that's right.

Anthony Crowdell - Jefferies & Company

Great. Thanks guys.


(Operator Instructions) So we have no questions at this time.

Peter B. Delaney

Thank you, operator. In closing, I'd just like to thank again our members of OG&E and Enable Midstream Partners for their hard work and dedication in continuing to move us forward. I'd like to thank all of you on the call for your continued interest in OGE Energy. Have a great day. Thank you.


Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

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