AGL Energy's CEO Discusses F2Q2014 Results - Earnings Call Transcript

Feb.26.14 | About: AGL Energy (AGLNF)

AGL Energy Limited (OTCPK:AGLNF) F2Q2014 Earnings Conference Call February 25, 2014 6:30 PM ET

Executives

Michael Fraser – Managing Director and Chief Executive Officer

Brett Redman – Chief Financial Officer

Stephen Mikkelsen – Group General Manager Retail Energy

Mike Moraza – Group General Manager Upstream Gas

Analysts

Simon Chen – Merrill Lynch

Jason Steed – JPMorgan Securities Ltd.

Ian Myles – Macquarie Securities (Australia) Ltd.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Giles Parkinson – Renew Economy

David Leitch – UBS

Michael Fraser

Good morning, everyone, and welcome to the AGL's Teleconference and Webcast for Half Year Results, it's Michael Fraser here. With me as usual this morning I‘ve got our CFO, Brett Redman, also I’ve got with us a number of executives including Stephen Mikkelsen, who heads up the Retail Business, Anthony Fowler, who heads up the Merchant business; and Mike Moraza, who looks after our Upstream Gas business.

Before I go to the, that the detail of the slides, which you will be able to follow on the webcast or rather downloading them of the ASX. I think it’s fair to say that, despite the fact that our underlying profit is down 11.4%. These are really credible set of results when you consider the market conditions that we’ve been operating in particular when you look at the drop in demand that we’ve seen through energy, which is obviously been exacerbated by the record warm winter, along with the impact of competition and price discounting, which is flow through from all of the activity that we sold last year.

Against that backdrop as you will see when we go through the presentation and we’ll take you through that in detail. Our core operations really have continued to perform very well. And from a strategic point of view, we’re continuing to make structural improvements to our business and develop a number of growth opportunities for the future.

When you look at the APG acquisition, the potential acquisition of Macquarie Generation, the good progress that we’re making in selling additional gas into the Queensland market at healthy margins, the improvement we’re seeing in lead indicators around competition and discounting and I’ll take you through some of those later on, the inevitability that the New South Wales and Queensland governments moved away from retail price regulations. I think these are all reasons for some degree of optimism in our business despite the soft demand outlook for the market.

If you turn to Slide 4, you will see a reference to a number of the things that I’ve just talked about, but just to complete the story, you will note the strong improvement in underlying cash flow up 49%. Brett will take you through the detail of that in a moment, but obviously some noise around carbon in that, but also a good improvement in the core cash flow of the business, the retail EBIT at $136 million was in line with the prior corresponding period despite the weather, the competition and also the commitment we made to lower tariffs in South Australia and again I’ll go over that a little later on.

Merchant was down a modest 5.9% and again Brett will take you through the detail of that in a moment, in New South Wales, we’ve achieved our customer number target of over 800,000 electricity customers ahead of time. And in Queensland we have now got committed sales contracts for an additional 40 petajoules of load for FY 2015 over the volumes that we expect to sell this year and that’s at an average margin of $3.40.

We move across to Slide 5 really just a couple of key points to note the revenue line obviously down 2.6% impacted by lower volumes in competition, gearing dropped 1.6 percentage points to 26.2% and the Directors at this morning declared an interim dividend in line with the prior corresponding period despite the underlying earnings being down of $0.30 per share and that dividend is fully franked.

Now move to Slide 6, with respect to the Macquarie Generation transaction the key focus is obviously on getting ACCC approval with the decision due next year say the 4 of March. From our perspective, we always knew the ACCC would closely scrutinize our acquisition of the Macquarie assets and we obviously respect the process that the ACCC is going through.

That said when you analyze in detail the statement of issues that the ACCC has published and the concerns that they’ve expressed, I think it’s fair to say that those concerns are supported by the facts and our response to the statement of issues has in our view comprehensively addressed the concerns that the commission has raised but as you will have seen in order to give the commission greater comfort and facilitate a timely decision, we have offered undertakings and those undertakings address the principal concerns that the commission has raised around both the retail and the wholesale markets.

And I’d also add that those undertakings are entirely consistent with our business case assumptions as to how we would operate those assets in any event. In fact, perhaps just add a little bit of color that I think highlights why the acquisition of Macquarie Generation by AGL will not result in the substantial listening of competition. If you look at the facts and AGL today owns not one megawatt of schedule generation in the New South Wales market, yes, we have over 800,000 New South Wales electricity customers. And we won those customers almost entirely by competing against the incumbent players.

Now, we’ve got today a hedge booking in New South Wales of approximately two and a half thousand megawatts that supports that 800,000 customer base. And over several years only about 10% of our hedge book, so that 10% of that two and a half thousand megawatt has been with Macquarie Generation only 2%.

So the fact is there is more than enough liquidity. There is more than enough contracts available in the market to support whoever wants to compete. Everyone knows the markets are oversupplied and our acquisition of Macquarie Generation isn’t going to change that.

Our acquisition is not going to result in substantial listening of competition and we think this is a very strong fact base that supports that conclusion. All of that having been said, the proposed transaction itself has obviously been well received by the market and it will be APS accretive, as we’ve said immediately from the FY 2015 financial year should have proceed. And obviously if we get that approval from the ACCC next week then we’ll have a lot more to say about the MacGen business.

So with that, I’ll hand over to Brett to take you through the details of the financials and I’ll come back to talk more generally about the business.

Brett Redman

Okay, thanks, Michael, and good morning, everyone. And I would like to add my welcome to this morning’s call. On Slide 8 consistent with past years, you will see that we’ve calculated underlying profit by removing from statutory profit the effective significant items and changes in financial instruments. The significant items relate entirely to the acquisition of APG and their consistent with the announcements we’ve made at the time of acquisition.

The change in financial instruments represents fair value movements in energy hedges, which are used to manage risk, but are not considered effective hedges under Accounting Standard AASB 139. Removing this volatility from underlying profit, we believe provides a better measure of AGL’s underlying performance.

Turning to Slide 9 then provides the summary of the result by business unit, which I’ll cover in more detail in latter slides. I just like to note on this slide that group revenue decreased about 3% of the back of lower volumes, which will be one of the arithmetic’s as we go through.

I’ll turn to the next slide to describe the change in underlying profit. Overall, retails result is flat. Type price management was offset by lower volumes and the rolling effects of discounting. Gross margin improved by an overall $26 million, offset by higher costs, including some one-offs and the acquisition of APG.

Merchant is down about 6%, or $27 million driven by lower electricity volumes, as well as the prior year benefiting from lower [indiscernible] purchase costs. Merchant operations includes the full six months of depreciation for the Macarthur wind farm, the margin for which is included in the EPM. Central expenses increased $9 million of which half is from high depreciation due to increased investment in IT systems and software, underlying labor cost are increased about 2.9% a little under labor inflation.

Total operating EBIT then decreased by $48 million, or 9.5%, interest has increased marginally following the debt funded acquisition of APG, while the decrease in tax is a function of the lower profit. So overall underlying profit is down a 11.4% reflective of a difficult trading period.

Turning to Slide 11, retail revenue was up $90 million, as price increases primarily driven by the passthrough network costs were largely offset by lower volumes and discounting.

I’ll turn to the next slide to talk in more detail about the retail result. In the prior period, retail margin was reduced due to a delay in the timing of carbon driven price increases not repeated this year. The acquisition of APG, which I’m pleased to say is tracking on EBIT better than business case is generally to electricity margin, gas margin, and operating costs. The electricity margin is down as record warm weather reduced volumes combined with a flowing effect of last year’s heavy discounting, partly offset by disciplined price management. Gas margin is benefited from the general rise in gas prices in the market.

Net bad debt expense is higher partly due to high revenues, but mainly reflective of higher bad debt percentages in the old APG customer base. This is entirely in line with the business case and will be covered in more detail by Michael later in the presentation.

Labor costs include APG and some one-off cost including the closure of the Canberra call centre, which would benefit future periods. Excluding these underlying labor cost moved in line with inflation. Depreciation and amortization includes the expected impact of project storm. So overall retail recorded a reasonable result despite a challenging environment.

Turning to Slides 13 and 14 for the highlights retail performance. On Slide 13, headline gross margin per customer is up 3.2%, the impacts of discounting in volumes being offset by better timing of price increases.

On Slide 14, net OpEx to gross margin has increased. Higher operating costs were driven by one-off OpEx costs, the inclusion of APG and higher project storm amortization. Again this gross margin growth was restricted by lower volumes and discounting. We remained focused on improving this ratio.

At the full year, I expect normalization of intriguing timing differences will turn this ratio to be closer to 50%. Also in this slide, cost to serve per customer rose 11%, this reduces to more inflation like 2% when the one-off costs and higher APG bad debt expense mentioned earlier are excluded.

Turning now to Merchant, I will go straight to Slide 16 to talk about their result. On Slide 16, you will see a decline in Merchant’s results of 5.9% of the back of two major drivers. Firstly electricity volumes declined both in transfers to retail and in the business customers area reported here in Merchant. Secondly compliance cost of Greens gains were higher, particularly for – which last year AGL was able to purchase at very low cost and have now returned this year to prices closer to the clearing house price.

A full six months of Macarthur Wind Farm margin was included in wholesale electricity partly offset by including its depreciation and running cost in Merchant operations. I will note gas margins improved as wholesale volumes rose and transfer prices increased reflecting rising wholesale prices in the market.

On Slide 17, underlying operating cash flow of $963 million is up $318 million over last year of which $274 million related to carbon. Carbon has some large timing impacts on working capital. By larger this half with the early cash receipt of transitional assistance from Loy Yang While significant mid year these carbon working capital changes will largely net out to zero with the full year just as I did last year and I suggest should be largely ignored.

Excluding from both periods of timing effects of carbon, cash flow was up $44 million or about 10%, billing and collections continue to operate well and even improve upon the previous years tight performance.

Cash is a strong result and a good proof point for how the business is performing under the surface. On Slide 18, capital expenditure in the half was $303 million, [indiscernible] business CapEx in the half included a major shut and control systems cut over on Unit three at Loy Yang.

The second half includes restoration of the B1 unit at Torrens Island and the ongoing upgrade of the [indiscernible] and this part of Hydro, this year’s major growth project, the Newcastle Gas Storage project continues to meet budget and completion milestones.

Finally on Slide 19, I’m pleased to note we have just completed a refinancing of the AGL term facility, slightly increasing at the $650 million particularly positive we are able to increase the term to three years to four years but still manage to lower the margin. There is now more material debt due until FY2016 when the last of the larger Loy Yang debt comes due for maturity.

I will now hand back to Michael.

Michael Fraser

Thanks Brett. Move to Slide 21, just a couple of comments briefly it’s very pleasing to see the improvements in our safety performance over the last six months and that remained a very strong ongoing focus within the business also as we’ve talked to the market about before our engagements, scores have shown ongoing improvement and that’s a sign of a very healthy work place culture..

Turning to Slide 22 and look now this is being well publicized, so I won’t spend a lot of time on it but the reality is that the record warm weather over winter compounded the decline in average consumption that we’re seeing and that has played through to our results. In the consumer market our volumes were down 5% or if you exclude APG which came half way through towards the back end of October, they were down 8% and gas volumes were down 5.8%, or if you exclude APG down 9%. And looking forward we expect subdued demand conditions to continue.

If we turn to slide 23, I am pleased to say that the APG integration is on track, they haven’t been any surprises that we found since acquiring the business, and as Brett mentioned the numbers are currently tracking modesty ahead of planned, so we are pleased about that. As I said early we’ve now got 813, 000 New South Wales electricity customers, we’ve met the target that we said ourselves with projects storm between 8,000 to 9,000 customers ahead of time.

And I think the most important thing about that is that we’ve done it very cost effectively and even when you include the APG customers, the average cost required has been just $241 per customer, obviously way below the process that were paid in the original privatization.

If I turn to slide 24, again this is being well documented, the level of competition in most markets, but it is declining and there are some very interesting statistics to look at. Our rate of churn in our customer base is falling rapidly. If you work through the numbers half on half they were down 16%, but really importantly is the rate of churn out or the decline in the rate of churn out is accelerating. For the December quarter, the drop in the rate was 28% compared to the prior corresponding December quarter, and in January our rate of churn out was down 37%, compared to January of last year.

Against the rest of the market that churn out is nearly 29% lower than the rest of the market and also our retention activity. So having to undertake activities to keep that customers is down 31% or 198,000 customers, so those lead indicators, I think are very encouraging for us and we do expect to see the benefits of this reduction and churn really begin to flow through in 2015 along with the benefits of lower discounting.

If I move through to slide 25. As I said earlier, our core operations are really continuing to perform very well. Our service levels continued to improve markedly. We have seen a dramatic drop in the volume of coals coming into our contact centers, down nearly half a million coals and really when you look at that you look at where – was being voted Australia’s favorite utilities brand by the Canstar Blue organization and I think it’s fair to say that we have got the best performing business in the sector.

You can see this again on slide 26, we are seeing continued improvement in our data management practices with days sales outstanding improving 12.9% and a 9.1% reduction in a net bad debt to expense ratio. These are really, really good numbers for this industry and we are very pleased about that when you’re seeing that come through in the cash flow as Brett talked about earlier.

But there are further improvements moving to slide 27, there are further improvements that we can make, that are good to our business and good for our customers, we’ve introduced monthly billing which is proving very popular with customers with someway between 500 and 1,000 customers signing up the day and we are now up around 70,000 customers, in fact over 70,000 customers signed up. I think it’s worth noting that we are the only major energy retailer offering monthly bills for all customers, in all states, for all fuels.

Move across to slide 28, as I mentioned before this half-year result compared to the prior December half was impacted by the commitment we made in South Australia around retail prices that took around $15 million out of the result. The full-year impact of that will be between $30 million to $35 million, as we advice the market previously. That commitment outstanding process expires in January next year. A part of the other thing to comment on is the Queensland Government we now has announced to move to price monitoring with effect from 1 July next year.

The New South Wales Government is currently considering price deregulation and certainly we’re expecting a decision on that in the not to distant feature and I think it’s inevitable that both New South Wales and Queensland Governments will move away from price regulation has occurred in other state.

If we move the long to Slide 29, there is a lot of that’s being set of that cash process on East Coast in the supply demand current resulting from the gas and LNG projects and this is now applying out on our real-time basis.

As I said earlier, we’ve made good progress on selling the length in our gas portfolio into the Queensland market with 40 petajoules of additional sales marked in for next year with 3.40 gigajoule. And I think it’s important to note some of those contracts in that 40 petajoules with sometime ago, the recent contracts that we signed at a price of around $10 and we should think about that as a [Indiscernible] thought process customers paying in addition to that to get delivery to their sites.

And you can see that is really putting upward pressure, the LNG projects are really putting upward pressure on the market. At this point, we’ve got another 50 petajoules to sell across the FY2015 to FY2017 period. And, of course, when you look at our portfolio as you can see in the bottom right hand graph there, that most of the length you see in our portfolio beyond 2017 is sitting in Queensland.

There are contracts there that a lot being at deregulate process. And so we are also selling the only FY2017 period to Queensland customers. Also, as you would expect and we’ve said in the last bullet point there, we are in discussions with supplies for additional volumes for our portfolio beyond 2017. And I expect those negotiations will be satisfactory result in due course.

If we move across to Slide 30, the Gloucester Gas Project, this project is absolutely essential for security of supply for New South Wales, when our contracts expire over the 2016/2017 period. The clock is literally ticking for this project to be able to meet its first gas target of the fourth quarter 2016, and it really does, we do need to get those approvals from the New South Wales government for the Waukivory Pilot as a matter of urgency in order to meet those timetables. And we are looking forward to the government delivering on the approvals in the very near future.

I will face, there has been a bit of commentary around the market. There is no impairment to the value of those assets, and go back and look at the facts, the New South Wales premier is it very clearly that the Gloucester stage one project is not impacted by the changes that have been putting place, you’ve seen the new Energy Minister in New South Wales come out very strongly in the last week or so supporting they need for the development of these projects.

And we are very confident that the review of environmental factors process and submissions which has taken 12 months and runs through over 1,000 pages comprehensively addresses the environmental issues. This is New South Wales gas for New South Wales customers and I’m quite confident that the New South Wales government will grant the necessary approvals in due course.

Turning across to Slide 31 the Diamantina Power Station this is a joint venture with APA, it’s well known that Porsche has been placed into receivership just a couple of comments really the vast majority of plant is onsite, I’m pleased to say that as we speak there approximately 350 construction workers onsite getting on with the conditioning of the combined cycle plant, which is set to commence in the next few months.

DPS, Diamantina Power Station joint venture is in the process of taking over delivery of the project and as part of that there are ongoing negotiations with contractors and with KBI with respect to project delivery.

I’ll move across to Slide 32 the Newcastle Gas Storage facility given the gas issues that New South Wales is facing this really is and has become a critical piece of infrastructure for security of supply for the state, I am pleased to say that the project is tracking to budget and is due for completion in the middle of 2015 and that is I say a very important project for New South Wales gas supplies. We’ve just commenced construction in the last few weeks at Nyngan for the 102 megawatt solar farm that we’re building there, which will be the largest not only in Australia, but in the Southern Hemisphere and we should commence work at on the Broken Hill link of that project around the middle of the year.

So if we move across to Slide 33, I really talked already about a lot of what’s happening in the business. Our strategy, as I said, has delivered a number of structural improvements to the business and it’s also delivered a number of opportunities to continue to grow the business, which you see on that slide.

Finally moving across to Slide 34, as everybody has already seen that we have confirmed underlying guidance of $560 million to $610 million subject to normal trading conditions and you will also note there we said that if we acquire Macquarie Generation and we get the go ahead next week from the ACCC that transaction is expected to complete somewhere in April, but that won’t change the guidance.

So that really brings us to the end of the slide deck, so I’m happy to turn it over to questions.

Question-and-Answer Session

Operator

Your first question comes from the line of Simon Chen from Merrill Lynch. Please go ahead.

Simon Chen – Merrill Lynch

Well, good morning Michael. I’ve got two questions. The first one, I was just hoping that that you or your team could make some comments about the Merchant division. I guess is it fair for me to say that Loy Yang A perhaps not contributing as much to earnings as you would originally hope, given I guess the soft wholesale price, supply and demand dynamics not in your favor particularly in that state down there. I mean is Loy Yang A and Merchant under be the pressure now in the short to medium term? And the second question is on retail, I noticed that cost of retains going up 52%, now you put that down to lower retentions. Can you elaborate on that like as in how and why has that come about?

Michael Fraser

Yes, sure. Look I’ll let Brett to answer the Loy Yang and then perhaps get Stephen to respond on the second question.

Brett Redman

Yes, hi Simon. I think in terms of Loy Yang A’s contribution, firstly just as a thematic, it is quite hard to pullout any plan from our portfolio and talk about it individually. We do absolutely run a combined book. And so, we don’t ever look at individual plant performance.

Simplistically I would agree that wholesale process have remained somewhat soft, so you could say that the performance of that plan against wholesale process has been a little soft than in a holistic sense, but ultimately the wide falls into our portfolio, I wouldn’t highlighted as particularly doing better or worse than we might have otherwise expected.

In the half, you might have picked up on a volume sense. We did have the major shut of unit three, where we’re working our way through the control systems cut over. So on a volume sense, its volumes were down a little bit in the half compared to past periods.

Simon Chen – Merrill Lynch

All the units faring at the moment there?

Michael Fraser

Yes, yes, absolutely. Now, [indiscernible] are going fine. So really that was a plan shop that happened in October November I think from memory. It went entirely schedule on the budget where we’re really happy with it. And so units are up and running without issue. And I think we lost a dial 2 an issue in the middle of January there and that was a very short-term issue. It was just one of those things I guess in the lock sense. All units are operating fine.

Simon Chen – Merrill Lynch

I mean the reason for my question Brett is I mean how is that forward curve victorious going down over the last 18 to 24 months at least it is going down since you have posted the asset.

Michael Fraser

Yes.

Simon Chen – Merrill Lynch

Yes, certainly Loy Yang A may not be as good as your acquisition case, I guess that…

Michael Fraser

So we’ve gone through if you like. We constantly look at our acquisition modeling and you know long-term seems I guess the two major thematic that have gone on the underlying back progress come under some pressure and come off particularly in the near term against our rotations of carbon.

Remember, we bought Loy Yang on the basis of the treasury process part of the carbon which was $25 and skyrocketing 5% really year-on-year-on-year and that’s obviously gone or is going away the very least that’s moving to a floating regime if the federal government continue with it’s doing. It will remove carbon entirely. Those two things absolutely balance and then some, the acquisition of Loy Yang as a business case absolutely sound.

Simon Chen – Merrill Lynch

Sure, thanks.

Michael Fraser

Stephen.

Stephen Mikkelsen

It’s Stephen here. Simon the other question around the cost [indiscernible] and the relevance of retention being down driving that cost off is actually a quite good news story, so what’s happened, is the overall acquisitions and retentions are down substantially.

So that’s reflection of just how much the market activity has subsided, so overall that down 26%, but retentions are actually down further than acquisition. So retentions are down 31%. As you can imagine, our retention is a hell of a lot of cheaper than an acquisition because they are down more the average overall cost of acquire and retain has gone up because acquisition are now making up a high proportion than they were in the prior year.

Simon Chen – Merrill Lynch

And so the reason for retention is coming down is just because fewer of your customers want to leave and therefore you don’t have to spend that much…

Stephen Mikkelsen

Exactly, you’re right.

Unidentified Company Representative

That’s absolutely right. I mean you go back and look at what’s going on in the market and last year we had really a bit of a frenzy around the time of the introduction of price on carbon, a lot of interested customers shopping around to make sure that they’ve got the best deal, a lot of that has settled. We know, apart from the Queensland, we haven’t seen the increases in the process of electricity over the last 12 months and that has taken quite a bit of heat out of the market.

Simon Chen – Merrill Lynch

So this 697,000, how many would be acquired, how many would be retained and just so I will get some context.

Unidentified Company Representative

Sorry, out of which number?

Simon Chen – Merrill Lynch

697,000 customers acquired/retained, like what’s the split between acquisition and retention?

Stephen Mikkelsen

Well, from memory it’s about two-thirds retained and one third acquired they were about.

Unidentified Company Representative

That’s right. That’s exactly right.

Simon Chen – Merrill Lynch

Yes, cool excellent. Thanks guys.

Operator

Your next question comes from the line of Jason Steed from JPMorgan. Please go ahead.

Jason Steed – JPMorgan Securities Ltd.

Hi, good morning Michael and team. I got a couple of questions, perhaps I can start with guidance. Michael to the extent that you’ve retained that range in the context of I understand it’s difficult operating conditions but ultimately what is the weak half. I would be interested if you could explain sort of how you’ve managed to hold the top end of that guidance to be in the context of what operating conditions you need to see prevail over the reminder of this half or indeed perhaps what you’ve seen for the first six or seven weeks of the year thus far? That’s my first question and then I got one on Queensland gas after that.

Michael Fraser

Yes, sure. Look with respect to guidance I’m obviously not going to talk about numbers within the range. I mean we put that that guidance out. But if I could just perhaps go through one of the major drivers were and we have said that we obviously expect a better second half than a first half.

Just to run through one of the issues that you’ve got a full six months from APG in the second half, you’ve also got some issues around the timing of price increases that went through for New South Wales, Queensland and South Australian customers. So we didn’t get a full six month benefit for price increases that went through in the kind of July to September period. We’ve also had price increases that went through in January for our Victorian customers.

Secondly, we’re also seeing as I alluded to there a big drop in the churn out rate to big drop in the volume of coals that are coming in, so we are starting to see the benefits of cost reductions coming through the retail business and they are flowing into the second half. You are starting to see and you said your second question was around Queensland gas sales, we’re starting to see some of the benefits from those additional sales in Queensland flowing through, a full six-month benefit from some of the contracts.

And also on the retail side, volumes have been quite solid over the summer months. So obviously, we still got winter to go, but we’re not hopefully going to see the volume impact that we saw from last winter that affected the first half result. So they’re really the things that give us some confidence about the guidance and the second half being obviously better than the first half.

Jason Steed – JPMorgan Securities Ltd.

Yes, again, I appreciate and understand all those points. So I think the challenge with it ease as well as the case in the first half is that you’re effectively starting $40 million down at EBIT in terms of the carbon timing, so you’re flipping that into the second half. So is it fair to say that on an underlying basis and I take all your comments and certainly what we’re forecasting, but on an underlying basis, it’s an even stronger improvement than what the numbers would suggest on the face of it?

Michael Fraser

I think Jason in part just on that carbon timing difference in last year, whenever you think about that two is that kind of catch up that was in the carbon pricing last year, to some degree that’s been held through pricing this year as well. So it’s not quite you got to recover a full 40.5 and half in the second half. We do start off a solid better position having bank that price increase from the beginning of this year.

Jason Steed – JPMorgan Securities Ltd.

Okay, thanks, that makes sense. So then moving on to Queensland, so Slide 29 a good deal of useful incremental information I guess from once you put forward at the full year back in August, so just trying to delve into the detail and understand a bit better. So the top right hand chart on that slide is saying FY2015, FY2016 and FY2017, forgive me if I make [Indiscernible] what proportion of you sold forward. So you are saying at the moment Queensland sales expected to be 59, which obviously [Indiscernible] with the chart is of that amount what sort of FY2016 and that’s the first question there.

Michael Fraser

Okay. So the response that is all of that that you see on that chart that is contracted. So we still have in addition to the bar chart the top right hand side, so that is all contracted and locked in, in addition to that we are negotiating additional sales of up to 50 petajoules across that period that you see on the chart.

Jason Steed – JPMorgan Securities Ltd.

Okay correct. Okay, so then we can see within that at a minimum that 59 PJs subsequently to the 55 and then down to 40, you’ve locked that in price and volume with at least the margin of $3.40, is it fair to say?

Brett Redman

Yes, at least that’s correct. And I guess the point is as well of the comment about recent sales have been negotiated around $10 a gigajoule, because included in those contracted volume some of those contracts were entered into 18 months, two years ago, some of them have been signed in the last six months. And so over time obviously has the pressure has mounted on prices, the margin has increased. So the recent sales have been at around that $10 price and they obviously hit higher margins than the average of $3.40.

Jason Steed – JPMorgan Securities Ltd.

Okay, good. And then just the final question on that, on this topic, should we expect sales you report in your wholesale and generation usage of gas, which is where presumably over this again to land, 36 PJs first half, either 55 last year, it’s not going to be the full increment of the 59, is it because obviously you got QGC and Diamantina already sold. So we should expect that 55 for instance to go maybe to 75 to 80 adjusting for those two existing contracts?

Brett Redman

I’m not sure I followed your numbers there.

Jason Steed – JPMorgan Securities Ltd.

So the point is that you in terms of your wholesale and generation disclosure, this is for gas volumes…

Brett Redman

Yes.

Jason Steed – JPMorgan Securities Ltd.

So you have 36 in the first half?

Brett Redman

Yes. Slide 38.

Jason Steed – JPMorgan Securities Ltd.

Yes, so you’ve got it, and you did 55 for the full year of last year PJs, that’s what I am asking.

Brett Redman

Yes, sorry, Jason, why they sort of think about those numbers on Slide 38 where we combine wholesale customers and generation. Included in that line, Queensland wholesale customers, which is what the blue graph on Slide 29 is giving you. So in this year of the 36 what was it 18 was to Queensland customers, next year that line will step up of the Queensland subpart of that line will step up from 18 to 59.

Exactly what happens on top of that, the balance of that which goes to non-Queensland customers in generation that will do to the churning of the portfolio and whatever is put through tips at time and all the rest. But that’s I think about that quite separately to what you see on Slide 29, our banked contracted third party sales.

Jason Steed – JPMorgan Securities Ltd.

That’s correct thanks Brett. That I was trying to understand, in the increment to that number but thank you very much, thanks Michael, thanks Brett.

Brett Redman

Thank you Morris.

Operator

Your next question comes from the line of Shiv Mohan [ph] from Deutsche Bank. Please go ahead.

Unidentified Analyst

Good morning Michael, Brett and team, couple of question from me the first one just around obviously, see those churn rates falling during the half and this seems in your comments that you are continuing to moderate the level of discounting just wondering whether you can give us perhaps a bit more data or may even put some numbers around what’s happening there given obviously into term contractors going forward.

Stephen Mikkelsen

Yes, Shiv, its Stephen here, I won’t give you exact numbers, because we haven’t disclosed this and that sort of competitively things of information as well around the actual moderation. But our churn and discounts go hand in hand, they sparred [ph] and they sparred down. So by definition as you’re seeing the churn come down, you’re seeing discounts come down as well.

I would say with one statistics in next Victoria, so that continues to be an incredibly as referred to as incredibly hot market right from the churn and discount point of view, but the other states discounts a full length in line with that fall in churn that you’re seeing.

Unidentified Analyst

Okay. Then Michael if I could just obviously we’re seeing very mild winter impact in the first half. And perhaps you could call it more of a return to normal conditions in terms of the [indiscernible] in South Australian, Victoria in the second half either day, I know that there was any issue there mentioned at Loy Yang for couple of days, I’m wondering if you could just perhaps give us a bit of a view around how the second half has been tracking off to-date versus expectations?

Michael Fraser

Yes, look just I guess first of all just touch on those that the issue we had at Loy Yang, at the same time, we had a unit asset at Tong, together those two outages cost us around $7.5 million. But apart from that what, we’ve seen come through in our numbers for January and February is firm volumes, the volumes have been in line with where we’ve been forecasting them, and the January result is obviously in line with what we’re expecting in order to make the statement around guidance.

And as I said, we’re seeing other things happened in the business as well beyond volume like the churn out rate in January being 37% down versus the prior period.

Unidentified Analyst

Okay. [indiscernible] given your mentioned guidance, just really a clarification I guess around the potential impact of Macquarie Generation on the current range. Am I sort of reading it correctly to say that if there is a successful acquisition it’s unlikely you would be at the bottom end of the range if it’s not a successful acquisition, it’s unlikely be at the top, is that really sort of what you’re implying?

Michael Fraser

Yes look I mean really we’ve just put up either side, we don’t want anybody to type the range and assume a successful acquisition of MacGen and have us blowing through the top of the range, that’s what we’re really saying by that. And there is always the ACCC schedule relates their decision next Tuesday, let’s hope they meet that timetable and it is, yes, if that happens then this is, we need to obviously raise the equity and settle the transaction that should occur towards the middle of April certainly by the end of April. So there is only a couple of months there really, so not to begin flow it’s on the result.

Unidentified Analyst

Okay great. That’s it from me. Thank you very much.

Operator

Your next question comes from the line of Ian Myles from Macquarie. Please go ahead.

Ian Myles – Macquarie Securities (Australia) Ltd.

Hi, guys. Just you mentioned of Victoria and the hot competition. I’m just wondering in the past you’ve talked about $100 different in customer value between Victoria and New South Wales, how much of that contracted due to the competition?

Stephen Mikkelsen

I don’t think, it’s Stephen, I don’t think that has contracted, but the competition is largely being around how much high churn. The discounting has held and this is New South Wales discounting, which has fallen, but I don’t think overall I would say that difference in values decreased, not necessarily, not materially.

Ian Myles – Macquarie Securities (Australia) Ltd.

Okay. And like when we sort of look back last year about the origin you guys talked about a pretty aggressive second half and – want to be bunkers in terms of discounting. When do we start to see that effect unwind through the numbers, does that having the fourth quarter, and you run at risk still again in the fourth quarter, but it actually sort of locked in?

Michael Fraser

Well, I mean, yes, you are right, on the risk around and competitive markets and that’s why our competition works. But it will be in FY 2015 that we start to see the major impact of it, because that’s a – yes, we’re a mess market business and that shift us turn slowly.

Ian Myles – Macquarie Securities (Australia) Ltd.

It reflects that you have got a lot more shorter-term contracts for that part of the business where that competition was pretty intense?

Michael Fraser

It did. It does reflect that contracts are rolling off yes.

Ian Myles – Macquarie Securities (Australia) Ltd.

Okay. On APK I was wondering, can you actually quantify the profitability of APK at this point. And I think you made a comment that the significant item of $17 million, I mean walk back into your presentation, I think it was sort of 31 or 35 in your original presentation. I was wondering if we got more costs or restructuring to come and maybe how much is in the operating numbers versus maybe in significant items?

Unidentified Company Representative

So Ian it is Brett, so couple of comments, firstly in the half the impact of APK and just remembering I guess APK is starting to fade into AGL, so it become harder and harder but it’s probably in the order of EBIT about $15 million, $20 million sitting in our half results. In terms of the sig items, at the half year from memory pretax is about $10 million related to transaction costs and there is about $10 million there as it relates to the running costs of APG well this is still running on their old systems materially higher than the AGL systems and we flag that we take that differential to sig items this year.

So you only got a couple of months of that, I guess in the half year result, we are cutting across on to the AGL systems by about mid April from memory. So you got a number of months to go in the second half of the year, where we are running on a much high cost base. And we will be pulling that across into the sig item. I’m expecting that when we come to the full year, you are going to see final sig item number there, very, very close to what we had in that APG presentation on the acquisition and what we’re seeing in the actual overall sort of EBITs and outcomes that we are getting on a APG is tracking then a little ahead of what we thought on acquisition.

Ian Myles – Macquarie Securities (Australia) Ltd.

Thank you. And one final question, you might comment, subdued demand growth sort of conditions being remaining, there is sort of what your interpretations subdued demand growth is on a sort of go forward basis?

Michael Fraser

Well, it’s Michael here. And I mean that obviously varies across the market. So just I will make it series of comments, first of all if you look at the Queensland market, you have obviously got the impact of the LNG projects starting up there. And that will add somewhere between 900 and a 1000 megawatts, you have obviously got deployed Henry smelter coming out of Victoria, we have seen the announcements around the closures of Holden, Toyota et cetera.

So those announcements obviously have an impact on it. I think in general though we look at the low demand case and I think that pretty much aligned with our view of the world that would typically see average household consumption continue to drop by about 1% per annum is our view of it and really then you’ve got population growth is what we will continue to see some modest growth in the overall level of household demand.

Ian Myles – Macquarie Securities (Australia) Ltd.

Thanks.

Operator

Your next question comes from the line of Sandra McCullagh from Credit Suisse. Please go ahead.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Good morning guys. First question is on just clarifying again on those Queensland gas sales, 18 petajoules that is sold this year, that’s existing gas you had already sold that’s not from the gas you identified the 120 petajoules over three years that you had to sell?

Michael Fraser

So the existing 18 that’s in this year.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Yes.

Michael Fraser

Yes, that’s correct. So that’s already there, yes.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Okay, and so you’ve identified another 40 that’s been sold in FY 2015 and you’re talking to customers on another 50, so there is still a gas of about 30 petajoules that you identified you might have to sell. What’s the expectations on that 30 petajoules?

Michael Fraser

To Sandra, so the 18 is what we sold to household customers, what we expect to sell to household customers this year, the increment to that is 40 petajoules, so if you look at and some of those contracts have previously been announced, it is obvious that we’ve signed over the last six months that haven’t been announced. So you have got a combination of those going on there. We’ve got volume that also as I indicated goes out, we’re selling volumes and some of those contracts we signed actually go out beyond the FY 2017 period and we’re certainly in discussions with customers beyond the FY 2017 period.

So you come back then to FY 2015, 2016 and 2017 and it’s across that period that we’ve got an additional 50 petajoules, but we do have additional volume when you get beyond FY 2017 to sell.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Okay, and your margin for commercial and industrial electricity is falling quite substantially from 3% to 2%, what happened there in the discounting in the C&I space?

Brett Redman

I mean that’s I think everybody is well aware in market that has been competition in the industrial and commercial market, you’ve certainly seen the impact of VRM in particular in that sector routing very, very low margin business and that’s reflected in our results and everybody else’s results quit frankly.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Sure, and your selling the gas to post 2016, as the price effectively being set by all the other transaction, so and therefore what’s the expectation of you signing up, what’s delaying it, why wouldn’t it happen now, is that just…

Brett Redman

Why wouldn’t it happen now, well Sandra I mean I know you yourself used to work in the industry and know what its like to negotiate contracts with various producers and that’s not a speedy exercise? In terms of the price itself, I think it’s fair to say if you are trying to buy gas in the Queensland market, we’ve indicated where it’s trading out at the moment, which is certainly what we’re signing at. The reasons once have been up around $10 a gigajoules.

If you look at where we need to acquire gas it’s more in the southern markets, it is obviously a long way for the likes of best ride to Queensland. So certainly there is upward pressure on price, no question about that right up and down the East Coast, but aren’t necessarily subscribe to the view that you’ll see a uniform price across the East Coast because at the end of the day you’ve got to be able to access to the higher price market.

So we will see when that plays out obviously even when we completed, those price negotiation will obviously be confidential between the party, so we might talk about volume and duration, but I certainly don’t expect that we would be talking about price.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Okay, and one quick final one, your gas margins for your retail business are improving up to gross margins in excess of 20%. Do you think that will impact on the propensity of iPod to grant the increases you’re asking for?

Michael Fraser

Look I think the, well, again you haven’t got the breakdown Sandra, [indiscernible] looks after gas pricing in New South Wales, so you’re talking at a – looking at a number that goes across the whole market, [indiscernible] is obviously acutely aware of the pressure that’s on in the gas market and where the wholesale prices have moved to, they are very well informed that, remarkably consistent applications between the different players in terms of price increases in New South Wales. So I think there is a very consistent dramatic there that way price might move to, so I’m confident that [indiscernible] understands the issues.

Sandra McCullagh – Credit Suisse (Australia) Ltd.

Thanks Michael.

Operator

Your next question comes from the line of Peter Harris from JCP Investment Partners. Please go ahead.

Peter Harris – JCP Investment Partners Ltd.

Thank you for the presentation, we’re just struggling to find the value in the MacGen acquisition, and where we probably got it wrong is the outlook for the wholesale electricity price. You touched on some of the things in the [indiscernible] outlook and some of the issues like Point Henry but what happens to the business case if there is anymore smelter closures on the East Coast because just based on Wood Mackenzie cost cutting numbers in the current aluminum spot price, none of the smelters export on covering the costs and as you say the car makers are leaving, again good makers are leaving, the refiners are leaving and you still got another 10% on renewal energy to come online based on the current outlook for the risking, so just what might shape up that business case on the upside to the downside?

Michael Fraser

Okay, Peter. So I guess just my first comment is as I said earlier we’ll have a lot more to say about Macquarie Generation should get ACCC approval next week and we’ll talk to the market in detail about that. That having being said obviously those kind of potential closures is something that we’ve stayed at very closely and looking at the acquisition of MacGen and I think it would be fair to say that when you look at the price that we have agreed with the new South Wales Government that actually reflects a very subdued outlook. So it all comes back to question of price and we think that we’ve boarded at a number that will stand up under a number of stress testing scenarios including the closure of additional smelters.

Peter Harris – JCP Investment Partners Ltd.

And you’re cosponsor of the CFO report that sets out the future options and scenarios [indiscernible] scenarios like customers leaving the greed and renewable. So how are you looking to change your generation than your retail businesses as to sort of pick-up on some of these disruptive technologies and real changes in the industry in the sort of medium to long-run?

Unidentified Company Representative

Well, I think there were a number of big changes that we’ve certainly seen over the last little while. You can think about there are obviously going to be changes around carbon policies coming out of camera. I don’t think as a thematic that that changes the fact that we will continue over time to step away from that kind of coal based generation that we’ve got and move to a lower carbon footprint.

That having been said the facts of the matter are still today 80% to 85% of Australia’s generation comes from coal and it’s got a big role to play in capping the lights on – for some time to come. At a customer level, we’re obviously doing a lot of work, looking at where the technology is going. Our baseline assumptions as I said is that households are going to continue to become more efficient over time.

We’re obviously looking at the interaction of solar, the potential for batteries to work where electric vehicles might go. There is a whole piece of work that that we’re doing there, Peter. This is probably not the time to going any further into the detail other than to say we are well aware of those changes that are going on. And I think from a strategic point of view, one of the things that you need to do in this business and in this market with those changes going on is build optionality into your business and that’s certainly something that we’ve been doing.

Peter Harris – JCP Investment Partners Ltd.

Thank you.

Operator

Your next question comes from the line of Giles Parkinson from Renew Economy. Please go ahead.

Giles Parkinson – Renew Economy

Oh, yes, thank you Michael. Two questions, if I may. First one is on the renewable energy target and that’s obviously one of the major policy decisions that we made this year. What is your position on that now and is it kind of changed at all by the purchase of Mac Gen, following one from the previous question.

And my second question if I may just refers to the very short falls in demand in Queensland and South Australian, I am just wondering why those falls and average electricity consumption was so much higher than another state and whether that has something to do with in terms of the customer churn or was it impacted the higher penetration of solar PV?

Unidentified Company Representative

Okay, I’ll let the guys to have a look at the churn thing. Look on the red target, Giles as you know, we have been and continue to be as I said we’re just broken ground on the Nyngan solar project and we will do Broken Hill later on. We’ve obviously been big supporters of the renewable energy target. I think the facts of the matter are as everyone knows that demand has fallen as we’ve just been talking about and the facts of the matter are that the original fixed target will overshoot what was originally based around 20% that’s just a fact.

That having been said, I think it’s incredibly important to remember that this was a bipartisan policy; both sides of politics have supported it through different phases of government. People have made some substantial investments ourselves include in good faith on the basis of that bipartisan policy and it was pleasing to see that the Prime Minister recognize that when he announced the review of the red. I think one of the things that we ourselves have been concerned about is policy certainty.

And I think the sooner we’ve been very vocal about that, the sooner the review is concluded, the sooner people are going to be able to start making investment decisions or not making decisions, but effectively start making decisions about where they will or won’t invest.

So I think it’s incredibly important that we get through the review as soon as possible. I would also say as we have said previously, I think it’s important that there is a fixed target; a floating percentage target really doesn’t work. you, you’ve been effect got moving goal post. So people don’t know what they are shooting at. I think the other comment that I would make and I reiterate what we said before.

I think having a legislative review of that target simply creates uncertainty, so we have to get rid of the two yearly reviews. My view is there is no need for any legislative review, the reality is that the government of the day can always review the target at any point in time anyway but get rid of the legislative reviews, so that we can had this kind of focus around it gets thrown up in the air.

Giles Parkinson – Renew Economy

We should have a fixed target, could you just clarify whether you think that the fixed target should remain as is?

Brett Redman

Look I think the facts as a matter be [indiscernible] be drawn on that but the facts of the matter at the original target, we will overshoot in percentage terms what it was originally intended to do, and one of the concerns that I have is that given all of the uncertainty that we have had an effectively our people and you have seen our sales people putting down there shovels as it work for additional wind farms et cetera, I think this is January concern but even if you lift the target where it was what’s the ability of the industry to actually meet it and no one want to target that come physically be met.

Stephen Mikkelsen

Okay. So you’re supporting our dilution in?

Michael Fraser

The second question that you raised have been responding to that guys have looked at Stephen.

Stephen Mikkelsen

It’s Stephen. The bulk and the simple reason for it is that the vast majority of APG customers were in Victoria, New South Wales. So in this year’s result December 2013 this is last year 2012, there is no volume was a very little volume is none in South Australia and very little volume in Queensland, so that is just exaggeration of percentages on the right hand side of decrease.

Giles Parkinson – Renew Economy

Okay that makes sense. Can you just clarify then you – mentioned, you mentioned energy efficiency in the home and one big reference to solar PV, which is being selected by asset generators and origin, can you just talk about what residential solar PV is doing to demand and what was?

Stephen Mikkelsen

Solar PV is reducing demand.

Operator

Okay. Next question comes from the line of David Leitch from UBS. Please go ahead.

David Leitch – UBS

Hi couple of quick questions. I want to firstly looking at the environment we should start all together, what you could say about progress on the Gloucester Gas Project that was the first question?

Brett Redman

Mark do you want to first on to that?\

Michael Fraser

Its Mike Fraser here, what we are waiting for at the moment is an approval to carryout the hydraulic fracturing at the pilot project at Waukivory. We expect to get that soon that’s remember that this is going to be the first time in New South Wales that the government would have approved the pilot project that involves hydraulic fracturing since the new practices were really. So it will be comprehensive and we expect that when that approval is before coming it will be robust and it will have address all of that submission they have received.

Once that approval is underway David we will go forward and carryout that part of the project, which will give us data and information on guess commerciality of us to allow the balance of the front end engineering and design phase of the project which we are in to be completed. The next question then everyone’s mind is win that project might be ready for final investment decision, clearly the delays that we are having now are putting pressure on that and we are setting down and reviewing the path to FID whether or not we are going to be able to do it this year is up in the air we think that will be more like 2015 early part there are.

David Leitch – UBS

Good thanks for that and secondly I just wanted to be bit checking ask one thing about MacGen and ask if conceptually the contract with regarded contract from point of you should quality of asset.

Michael Fraser

Quick answer is not.

David Leitch – UBS

Good thanks very much.

Operator

There are no further questions.

Michael Fraser

Okay we will thank you very much everyone and that will talk to number of you through the course of the next few days. Thank you.

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