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Aqua America (NYSE:WTR)

Q2 2011 Earnings Call

August 03, 2011 11:00 am ET

Executives

Brian Dingerdissen - Director Investor Relations

Nicholas DeBenedictis - Chairman, Chief Executive Officer, President, Chairman of Executive Committee, Chairman of Consumers Water Company, Chairman of Pennsylvania Suburban Water Company, Chief Executive Officer of Consumers Water Company, Chief Executive Officer of Pennsylvania Suburban Water Company, Director of Consumers Water Company and Director of Pennsylvania Suburban Water Company

David Smeltzer - Chief Financial Officer

Analysts

Ryan Connors - Janney Montgomery Scott LLC

Michael Roomberg - Ladenburg Thalmann & Co. Inc.

Stewart Scharf - S&P Equity Research

Zoran Milling

Unknown Analyst -

Operator

Good day, and welcome to the Aqua America Inc. Second Quarter 2011 Earnings Conference Call. Today's conference is being recorded, and at this time, I would like to turn the conference over to Mr. Brian Dingerdissen, Director of Investor Relations. Please go ahead.

Brian Dingerdissen

Thank you, Josh. Good morning, everyone. Thank you for joining us for Aqua America's Second Quarter 2011 Earnings Conference Call. If you did not receive a copy of the press release, you can find it by visiting the Investor Relations section of our website at aquaamerica.com or call Fred Martino at (610) 645-1196. There will also be a webcast of this event available on our site.

Presenting today is Nicholas DeBenedictis, Chairman and President of Aqua America; along with David Smeltzer, the company's Chief Financial Officer.

As a reminder, some of the matters discussed during this call may include forward-looking statements that involve risk, uncertainties and other factors that may cause the actual results to be materially different from any future results expressed or implied by such forward-looking statements. Please refer to our most recent 10-Q, 10-K and other SEC filings for a description of such risks and uncertainties.

During the course of this call, reference may be made to certain non-GAAP financial measures. Reconciliation of these non-GAAP to GAAP financial measures are posted in the Investor Relations section of the company's website.

At this time, I would like to turn the call over to Nick for his formal remarks, after which we will open up the call for questions. Nick?

Nicholas DeBenedictis

Thank you, Brian. Good morning, everyone. This was a very productive quarter for Aqua's customers and shareholders. We've experienced a hot summer in many of our key states, and our system has reliably delivered all our customers' needs. And I think that can be attributed to the major infrastructure rebuilding program we've conducted over the past 5 years.

Also, the financial results were very rewarding.

As a management team, we feel like we're driving a racecar that's sitting on all 8 cylinders and has just been refueled with cash from the various low-cost borrowings and -- that we did in 2009 and 2010 and now supplemented by the tax policies that reward companies who are making major capital investments like Aqua. And the good news here for our customers is these lower interest rates, less borrowing needs because of the tax policies and the cash coming from those tax policies will all accrue back to our customers in modified rates going into the future. So it's a win-win.

First 6 months. This is the first 6 month period I can remember since leading this company that our net cash generated exceeded our capital expenditures. The net cash generation was a record $160 million and we did spend $134 million, which we expect to increase as we approach the second half of the year to get to our budgeted $325 million in capital spending.

Once again, EBITDA numbers were strong, up 10% year-over-year, $195 million for the first 6 months and we expect the EBITDA numbers to be up 10% for the year. And there's no surprise there if you take our CAGR over period 2000 through 2010 historical data, you'll see the CAGR's 10% plus. So we continue to generate more and more EBITDA year in, year out.

The numbers speak for themselves. Although there is a GAAP, non-GAAP, which we'll try and reconcile for you, the net income was up 26%. Earnings $0.27 on a GAAP basis versus $0.22 on 1% more shares outstanding. Revenues were strong again in the second quarter, 5.5%, of which I'm going to give you some guidance, about 2/3 of that is rates and about 1/3 is consumption and organic growth. And we see the 6% revenue increase quarter-over-quarter continuing in the third and fourth quarters, maybe a little different mix between rates and consumption but generally the same 6%. And I think our first quarter was 6.5%. This quarter 5.5% blended, 6%, pretty steady 6%.

The non-GAAP numbers, which Dave will go into a little bit more detail, is $0.25. We reconciled them in the press release versus $0.22. This takes away the benefit of the Pennsylvania special tax advantage we're getting all 4 quarters this year. And we -- so our corresponding non-GAAP numbers are $0.25 versus $0.22, still a strong 14% increase year-over-year.

In light of the fact that we just, yesterday, had our strategic meeting with the board and looking at our outlook going forward, the board increased the dividend, 6.5%. This is the 21st dividend increase in 20 years. And when we looked at the CAGR over those 20 years, this wasn't just a little bit each year, it's been a CAGR of 6.4% year-over-year annualized. And we're very proud of that record as to rewarding our shareholders.

We also appointed a new board member yesterday, Wendell Holland, former Chairman of the Pennsylvania PUC and former official of the National Association of Regulatory Commissioners. Mr. Holland's experience as both a lawyer and being on other utility boards and working for a former -- formerly working for utility, we think brings a broad, especially regulatory, but broad-based experience to our board, and we're very proud to have him.

To take a look at the revenue side before we go into the expense side, 2 factors. First of all, we're still seeing the residential, mainly because of a good June, it's pretty solid. That's 80% of our revenues. The commercial industrial, which is about 20% of our revenues, still showed, I'll call it malaise, there was no big bounceback in the second quarter of '11 over '10 but when the economy does come back, we see that sector, that 20% sector of our revenue is helping out.

On the rate side, which is the other side of our revenue's growth side, we did annualize $18 million in rates in the first 6 months. That includes cases in Pennsylvania wastewater, Indiana, mainly the utility center case in Ohio in 1 of our 3 divisions in Ohio. Roughly 2/3 of the increase were these QIPS or they're all called different but they're the surcharges for infrastructure in the various stage. And about 1/3 was the actual rate cases. The company still has 25 million of rate cases pending before 7 regulatory bodies, with the big cases pending in North Carolina, Texas and Illinois. And hopefully, all will be coming to fruition later this year, midyear to late this year.

And we expect to file cases in 7 more jurisdictions. And those filings will all be done by the end of the year, and we expect them to cumulatively total like $45 million to $50 million additional. So you can see still a pretty heavy rate schedule to recover the major capital that we've been investing in our systems, which I think is the benefit of which is now showing forward as you see how we're handling a very hot summer with very few problems.

If I can go now to the expense side, which we're, again, very proud of, which is what's allowing us to be the most efficient utility in the country from a standpoint of efficiency. We called it an O&M to revenue efficiency. The actual numbers for the first 6 months is about 1% growth in O&M. We do see that accelerating somewhat, although not dramatically in the second half, because commodity pricing and other things and just timing of certain contracts are coming through, purchased water electric rates, things of that sort. But we still think we can hold the full year below 3, and that's better than our original projections because the 6% growth in revenue and the 3% growth in O&M, which is now less than 40% of our revenue stream, you can see is a very positive effect on EBITDA and future return on revenues.

Looking at that factor because we've often talked about that, we were able to from -- actually we took it down between '09 and '10, we took it down almost 200 basis points to 40.3% from -- I'm sorry, from '08 to '09. From '09 to '10, we brought it down another 170 basis points from 40.3% to 38.6% and we think this year, we can bring it in under 38%, another 0.6% to 0.7%. And we continue seeing it dropping in our planning when we look at our long-term planning to actually get into 36% to 37% range, closing in on 1/3 of every dollar to expense, 2/3 to supply the need for capital for this industry. Such a phenomenal record, I think, and we're very proud of that.

We had a very busy quarter in the area of corporate development, which I think is going to strengthen the company and strengthen our efficiency going forward. The general theme, lot of transactions, but the general theme in this first 6 months is really to be concentrating in states where we have critical mass. Coincidentally, there are largest states now have become energy producers because of the Marcellus and Utica Shale and Barnett Shale gas plays in Texas, Ohio and Pennsylvania. And it also has, with the announcement of the sales, we see no need for equity with the cash coming in to help support our major capital program, which will be another record this year at the $325 million. We see no major need for debt other than fine-tuning. And the planning we did in the '09, '10 time period after the '08 crunch, I think, is paying us off well to our shareholders and our customers by keeping rates down and our needs for financing down, any kind of dilution of the current shareholders stock.

Last week, we announced the sale of our main subsidiary, which we did a tour of the state last week with the Connecticut Water and it went very well with our employees. We can answer any questions you may have about that because we didn't have any calls on these. And a month ago, we announced another swap with American Water where we're taking their properties in Ohio. They're taking our properties in New York at book value each deal, and that -- and we've completed the swap announced 6 months ago of our Missouri properties for the American properties in Texas. So we're now down to 9 regulated states plus 1 unregulated from 14 prior and we have basically the same number of customers. Now these deals aren't all done. We expect them all to be done late this year or early next year.

We continue -- we just announced a small deal yesterday in Virginia. We did a couple in North Carolina a couple of weeks ago, and we continue to look for these small tuck-ins, which continue to feed our need for consolidation and in the country. And it helps our economy to scale and we also think we're helping society because we usually end up rebuilding these small undercapitalized systems into meaningful water purveyors for the citizens who use them.

I think I'll stop there and -- well, let me comment on the earnings and the projections and let Dave explain something. We decided in the first quarter because of the special Pennsylvania issue this year, which is about $0.02 a quarter. It was $0.03 in the first quarter because of the -- we had the fourth quarter of 2010 that we capture in the first quarter when it was passed retroactively. But that $0.02 a quarter will be effective in the third quarter on the GAAP side because of all these transactions we did with Connecticut Water and with American Water.

For the quarter, this quarter, our -- whether our 27 -- these are 27 or our 25 comfortably beat first call, and I'm comfortable with the first call number that, at least, I know of today, which is $0.33 for the third quarter. Before, that would be on a non-GAAP basis. Well, call short of an officially on an operating basis. But with the pluses and the minuses of the taxes coming in that will affect our third quarter GAAP and I want Dave to explain that so that any projections you're making are clear.

David Smeltzer

Thanks, Nick. You may remember from the prior call, we talked about the exact topic that Nick mentioned, the PA flow-through of the 100% bonus depreciation. And as Nick mentioned, that benefited us by $0.03 in Q1, about $0.02 in Q2 and we would expect it to benefit similarly by $0.02 in Q3 as well. But in addition to that, we will have a onetime negative item in Q3 that we will likely also capture in our GAAP to non-GAAP reconciliation, and that relates to held-for-sale accounting regarding our decisions to exit Maine and New York. And you may have seen this in other companies that you follow but the short version is that upon making that decision to exit those 2 jurisdictions, we need to record a deferred tax on our books relative to the difference between the inside and the outside basis. So essentially, we look at the tax basis, we look in the book basis and we need to record a deferred tax equivalent to that difference, which for Q3, we would expect to be in the range of $7.5 million or perhaps in the range of $0.05to $0.055. So again, we do expect to have a couple of cent positive matter in that GAAP to non-GAAP reconciliation relative to the Pennsylvania tax flow-through. But offsetting that $0.02 could be in the $0.05 to $0.55 range negative issue regarding the held-for-sale accounting for New York and Maine.

Nicholas DeBenedictis

So unlike the first 2 quarters where the GAAP exceeded the non-GAAP because of the positive effect to Pennsylvania, because of this negative effect of the accounting rules that you have to actually show even before you sell the assets, the tax issue. And that we believe will show in the third quarter and that will be a negative, so we would anticipate GAAP being actually lower than non-GAAP in the third quarter and then reversing itself in the fourth quarter, coming back a couple of pennies more. Just so you can figure out your -- if you can figure it out, I can't, the year-end numbers. So I guess after all is said and done, Dave, you're saying basically a couple of pennies lower?

David Smeltzer

Right, rather than a $0.02 positive variance by the tax that we've experienced in past quarters, it could be a $0.03 negative variance just in Q3.

Nicholas DeBenedictis

Right, $0.03 to $0.04, so depending on rounding. Now the good news is when we exit Maine, which let's say is the first quarter of next year, we will be able then to book the entire gain, right, Dave?

David Smeltzer

Right.

Nicholas DeBenedictis

So this $0.035 will come back to us because we really did sell Maine for profit, not for loss, and it will be reflected in next year's first quarter, higher than it would have been normally, if we had done it the way you use to do it before this new accounting rule. So I'm sorry for the confusion but I thought clarity would be helpful as we get back next year, hopefully in no more of a GAAP, non-GAAP, more normalized GAAP and non-GAAP numbers. This is the first year we have ever shown the reconciliation and tried to show us, I know a lot of companies do it every quarter but we've had pretty consistent numbers year in year out so this is the only anomaly. And it's good, it's all positive in the sense that we'll be showing higher GAAP than non-GAAP for the full year. I think that's covered everything. If we can open it up for questions?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from the side of Zoran Milling with Longbow Research.

Zoran Milling

Just 2 questions, if I may. First, you mentioned previously that providing water for hydraulic frac-ing operations may add about 300 or 400 basis points to top line growth annually. Now with your expanded presence in both Texas and Ohio, what sort of top line growth are you expecting collectively from these unregulated businesses in the years ahead?

Nicholas DeBenedictis

I don't think we've ever made projections on -- to that level on the water. I can tell you what we're doing and then you could make your own assumptions. We really haven't seen anything yet. All we have is things in place. We've set up what we're calling filling stations in Pennsylvania. We're looking at some in Ohio now because the Utica Shale has started to develop in Ohio, where we'll sell at an unregulated station of water that we either get from a stream with all risks being borne by the corporation, not the regulated entity. And we are hooked to one of our water stations and we pay the retail rate to the water station. And this is the service -- the trucks. There are 5,000-gallon trucks and one well may use as many as 1,000 trucks, just an amazing operation. When you ride up there -- is this Garik?

Zoran Milling

No, I'm sorry, this is -- it's Zoran, it's his associate.

Nicholas DeBenedictis

If you ride in the northwestern and northeastern part of Pennsylvania, I guarantee you'll be stuck behind a truck on some highway sooner or later. That's how many trucks are up there. So this is a way of getting the trucks more efficient by not having to go into towns to fill up, but right along the highway and then get back on the highway. It saves them time and money, and saves wear-and-tear on the roads. In addition to that, we are exploring some other concepts which would be more of a wholesale delivery of water directly to the users, the range resources, the Chesapeake's and so on, which means that we would be coordinating our activities with people in the gas business versus just truckers. And we think there is, again, a positive for the environment and a positive for our unregulated revenues in that area. But I really don't want to -- if we do it, we're very confident, obviously, we wouldn't do it if we didn't think it was going to be profitable. But we think the Marcellus and now Utica are really in their infancy. And that's why we want to get on the ground floor. And maybe someday, your numbers will pan out but I don't want to over predict for '11.

Zoran Milling

Just one more question. You guys have done a great job of controlling costs and the improvement of the O&M ratio has certainly exceeded our expectations. Understanding that there's only so much cost you can remove from your operations, I guess how soon do you think you can get to that 36% to 37% range, you mentioned earlier and does a part of that improvement come from now operating in a fewer number of regulated states?

Nicholas DeBenedictis

Absolutely. And in fairness to American, when you hear their conference call, they're going to talk about the same idea, lowering their operating costs to revenues so that more could drop to the bottom line, which then we turn around and invest, which is an interesting business model but it works. The more customers you have in fewer states, the more efficient you're going to be. It's just common sense. And that was the driver behind this, exiting some states where we were not doing well. Missouri, our O&M to revenue ratio was probably in the 90% ratio, so clearly it was dragging us down because we just didn't have enough critical mass. So we think, because of the reshuffling of the portfolio a little bit, we'll be able to, probably by '13, get to that range.

Operator

Our next question comes from Ryan Connors with Janney Montgomery.

Ryan Connors - Janney Montgomery Scott LLC

I have a question. I kind of want to touch on this issue of portfolio optimization, Nick, if you could. And you mentioned the lower operating costs as one of the drivers behind that. But another rationale that we've heard is that the idea that a single big fish in a given state carries more weight in terms of regulatory relations and leverage than several small players. But the counterpoint to that would be the strength-in-numbers argument, that when several companies go in as a group for some sort of progressive regulatory change, whether it's a disk or whatever it is, maybe there's a benefit to that in terms of ability to influence the direction of regulations. So can you talk about that, maybe whether or not it might not be an unintended consequence industry-wide of kind of everyone doubling down into fewer regulatory jurisdictions?

Nicholas DeBenedictis

Well, it's a realistic argument but I think when you drill down beyond the surface and look at it, when you have a number of small companies in the state, all who think they have an advantage, you end up with a little bit -- and I'm going to speak from my political background, you end up with confusion because everybody wants to know why does this person want that, this person want that. You never get everybody on the same page. Even in the DSIC in New Jersey, we've had disagreements and finally we're now solidified. But that is a recipe for disaster, if you can't come in with one unified operation. And some companies like O&M, some companies like just regulated, some companies have lower rates and therefore, they get tainted with somebody who's always going in for rate cases and so on. So I think having one big player who then can really do the grassroots work in the state, win or lose based on how good you are but you won't be diluted by how bad somebody else is. I don't know if that make sense to you but I'm not at all worried about concentration.

Ryan Connors - Janney Montgomery Scott LLC

Okay, okay, that's interesting. Now other issue I want to get your take on, Nick, was kind of a developing story close to home here for Aqua America and ourselves as well here in Philadelphia and that's the story that apparently circulating that the Philadelphia Water Department may seek to privatize in order to close the pension deficit in the city. And I just wanted to get your take on this on 3 different facets: Number one, what is your view as someone well connected locally, whether that has any chance of actually ultimately happening? Number 2, if it did happen with Aqua America, the interest in that asset if it didn't go to market. And then number 3, just more broadly speaking, do you believe we will finally see an uptick in municipal privatizations among not only mega cities like Philadelphia but even the small and midsized cities?

Nicholas DeBenedictis

Maybe, yes, yes.

Ryan Connors - Janney Montgomery Scott LLC

Can you expand on that?

Nicholas DeBenedictis

Okay. As you know, I'm fairly close to the mayor and the council, and we've never discussed openly until Sam Katz at PICA floated the idea that there would be asset sales. I think the primary discussions have really been around how to better build the city's economic development potential through the airport, which could mean an authority of sale or keep it the way it is. It's completely city-owned. There has always been discussions over the gasworks but the problem with the gasworks is that there's a huge amount of debt versus the assets. The Water Department has always been well run. It actually generates free cash, which sometimes the city takes. It's always had professionals, the newest commissioners that came up through the ranks, it's never been a political haven. So there's never been the need to look for sale versus maybe just strictly cash generation or why are we in the water business, let somebody else do it, or even to the point of saying that we should privatize it for operations. Years ago, Brian, our sales in American proposed to the then Commissioner to actually buy their – a plant so that we didn't have to build plants in either Philadelphia suburbs or New Jersey in American's case. And then actually you got some legs for a while and then died so I think that's another aspect to it, which you sell a piece of your under -- overcapacity to somebody who could use it versus build another plant. And that's what I commented for in the inquiry the other day. So I don't think it's on the front burner, that's why I said, maybe. The second you asked was would we be interested? Obviously, we're right next door. It's well run. The demographics clearly are different between the Philadelphia suburbs and the city. But we think, if done properly, it would be a plus not a negative for the regionalization but also for our shareholders. The third question you asked is privatization. Do I -- am I still optimistic? And I know you have not been overly optimistic that privatization is going to occur. And I think the answer is, yes. I think you're finally seeing the much-touted cutbacks in the local governments and this is pre-U.S. debt deficit reduction plan this week. You're finally starting to see real people affected by the cutback in local and state governments prompted by both tax receipt deficits. But also the fact that the federal government's largess is ending. The smaller cities will get -- will be hit just as hard as the bigger ones. As a matter of fact, percentage-wise, their budget's probably bigger. The layoffs are occurring now. It's not just getting rid of vacancies, it's actually real people. And I think that's when people start focusing on what else could we do. And I think asset sales become a piece of that. Now are they knocking our doors now? No, but we have more calls now than we've ever had in the past. And we actually now have the chance for the mayor to be willing to get out front and say, we should at least look at this. There's a couple that just -- that we just got notices on in the midwest this week that we're actually -- we're filling in on that later but we're going to be making proposals. And I mean, the public will let you know about, obviously. Whether they ever get to fruition because then there's always the loyal opposition who throws up the privatization isn't any good and water is liquid gold. I'll give you all the colloquialisms and the anti's pleas. But I think it's a logical thing for a local government to do when faced with austerity measures that they're going to have to look out over the next 3 to 4 years. And the advantage of tax freeze has disappeared a little bit. You know what tax freeze we're trading at. The grants are basically done but that was another way the government could always say, "Well, we get free grants and therefore it'd be cheaper." And I think cost of service is starting to become thought of as a logical thing in some of these governments.

Operator

[Operator Instructions] We'll take our next question from the side of Michael Roomberg with Ladenburg Thalmann.

Michael Roomberg - Ladenburg Thalmann & Co. Inc.

I just have a question. Can you break out the revenue in O&M contribution from your other segment in the quarter?

Nicholas DeBenedictis

Sure, sure. We had a good quarter. Now this includes 2 basic areas, our Aqua resources group, which will include the gas filling station. And if we ever get into the pipeline, they'll probably be running through that. But it also includes a lot of accounting accruals that we sell assets, we had some investments with other companies that we sold a few dollars worth. Couple of years ago we sold -- not a couple of year, a year ago, '10, at first quarter we sold all our interest in Southwest Water and I think we picked up a 10-year on that. So that's all again washed in there. So let me just break out the actual numbers, what I call the operating part of that other. Year-to-date, 6 months I guess, we'll give you -- revenues are up from, it's very small compared to the rest of the company, 5.4 to 6.3 are up 16% and the profits are up from 0.3 to 0.4, 25%. That's 7% margin. The good news, however, is there's no capital in this side of the business so these are generating -- I think they threw off $1 million dollars, $1.25 million a year. Just into the so that's $1.25 million, we don't have to borrow or split equity to use in the regulated side.

Michael Roomberg - Ladenburg Thalmann & Co. Inc.

Okay. And just to be clear. I think you've mentioned in the past these shale gas, water supply stations are fully automated? Is that correct?

Nicholas DeBenedictis

Fully automated, computerized and tied directly to the SRVC and the regulatory agencies so they don't have to worry about a trucker filling out the form or not filling out the form or making a mistake.

Michael Roomberg - Ladenburg Thalmann & Co. Inc.

And I guess the second question would be, it seems like the second quarter was a bit wetter than perhaps the average and at least some of your territories. I'm wondering did that have any impact on the level of construction activity in the quarter? And do you expect that some products may have been pushed back in the third? Fourth quarter, it was that not a factor?

Nicholas DeBenedictis

Absolutely. First of all, it was a very wet May and April. June came back roaring and that's why we levelized out with a normal quarter, otherwise it would have been a bad quarter. The Texas and North Carolina, we're extremely hot the whole 3 months and Ohio, Indiana and Illinois were even wet in June. Regarding the July, we've had almost every state has had a good July and we just started August. So this summer is always fickly you just never know. But I have to tell you that July -- I don't know of any state, Dave, that came in lower than the projections. So almost every state hit their mark in July.

Michael Roomberg - Ladenburg Thalmann & Co. Inc.

And I guess one last kind of bigger picture type question. So it seems like job creation and infrastructure renewal on the tonguetips of pretty much every politician in the state, local and federal level, do you get the sense that this message is trickling down in any way to your regulators to a different degree than you may have seen previously? And I guess if so, do you see it manifesting itself through better ROE's, increasing CapEx budgets or in any other way for investor on utilities?

Nicholas DeBenedictis

Well, I didn't answer your first question completely. The $135 million for the first 6 months was due to cold weather, obviously in the wintertime but also the wet spring. And this really picked up when we hit -- at our budget meeting yesterday, we basically confirmed that we're going to do $325 million. So that means we're going to be $200 million plus in the next 6 months starting in July. So -- and that sort of answers your second question. We're getting positive, not negative, from both the environmental regulators who, of course, want us to fix everything and they just put out -- EPA just put out their latest report and it's up from like $324 billion to now $600 billion needs so that's clearly it's going up, not down. The local governments, we've been doing some tours and announcing the big projects we're doing in Pennsylvania and Indiana and so on. And I'll describe it this way, the local county officials and local mayors come out and obviously, they want to take some credit for the jobs being created and the infrastructure rehabilitation in our own country and things of that sort. But the -- what they also are saying is we realized rates have to go higher. So you're not getting the pressure at the local level to say, "Don't raise my rates. We don't want you fixing this stuff." So it's turning into a positive. And certain states who have the surcharge, I think, are confirming that the -- everybody wants work done. They don't like higher rates because of salaries and higher electric costs and stuff like that. But if it's for capital which is usually 75% of every one of our cases, we have never had any, I'll call it reaction, negative reaction to the surcharge from either citizens or from regulators as you put the surcharge on in between rate cases. And so we're not seeing the negative reaction. Now whether or not somebody says that new ROE should be 11 or 10.5 or 10, a lot of that is contingent upon what they think cost of capital is and the availability of capital and so on, as much as it is reaction to people not wanting us to put capital in, I don’t think anybody reacts to us building what's needed.

Operator

Our next question comes from the side of Stewart Scharf with Standard & Poor's Equity Group.

Stewart Scharf - S&P Equity Research

Expanding a little bit on the weather. I was just wondering how you -- when you're looking at these divestitures and acquisitions and areas of states with critical mass, do you consider the geographic diversification? And how that might affect the weather to offset weather in certain states and regions?

Nicholas DeBenedictis

Unlike the electric industry or even the gas, which is very, very dependent on weather because of the fuel usage in the winter, in the electric business, there never has been major diversity among states until deregulation occurred, then a couple of companies got into that, like Exelon. But most states -- most reasons for diversification aren't as much weather as regulatory diversification, in the sense that there is always some differences of opinion and how people look at utilities in various states and how they help or hurt economic development or consumers. So being in 9 states gives you the opportunity to invest your capital where you think it's being appreciated. Regarding weather, it's very difficult, even in a region like the South, to project that you'll be -- have better or good weather or worse weather because it's so isolated to smaller regions. But I think in general, things average out over time. And I think being in the mid-Atlantic, Midwest, deep South and the Texas, I don't know what Texas is, is it southern or western or southwestern. We're very comfortable that -- I mean, this is the first quarter, first month July, where the weather has been on all the 9 states, 10 states the same, all up. Usually, we have 2 up big, 6 up a little bit and 2 down and so on. So it levelizes your peaks and valleys. And I think that's a positive if you're an investor. I know you follow this for 10 years now. Most of the investors who want to invest in this one, I know -- are you going to be able to raise the dividend every year? The answer is yes. Can you increase earnings every year? The answer is yes for the last 13 years. And whether it's half of 50 basis points better or worse isn't as important as the steady continuity of the direction, and that's where the weather comes in. Hope that was helpful.

Stewart Scharf - S&P Equity Research

Okay, yes. And regarding the O&M ratio, are there any states that you could tell us in areas where they are excessive, maybe the O&M ratio is not much higher then can you break that down?

Nicholas DeBenedictis

Yes, it usually follows states that have more spread-out populations with smaller systems, i.e. a well -- that services 150 customers, needs to be inspected every day and it's more costly than having a system where, like in Philadelphia, where we, in suburb we really have pipes interconnecting everybody. So the more expensive state -- the most expensive state was Missouri. The other states that are expensive are Maine, mainly small systems and so on. We've been able to bring percentages down in Texas because as we grow, it's coming down. It's down to the 40s. Now it was in the 50s. Virginia still is a small state and although it's one of the better in the South, it still has a higher O&M, it's in the 50s. And North Carolina only because of the -- North Carolina, only because of the number of systems, we have 1,000 wells in North Carolina is in the high 50s. So we still have some room in some of those states as we get more efficient and mainly as we grow. Now that leaves the bigger states Illinois, Ohio, Pennsylvania and New Jersey, are very efficient because they are more concentrated.

Stewart Scharf - S&P Equity Research

And your timeframe for the 36% to 37% range is a couple of years?

Nicholas DeBenedictis

Yes. It's '13, I think we could hit it.

Operator

And our next question comes from Cleo Zagrean with Macquarie Capital.

Unknown Analyst -

Just a couple of questions. First, related to usage trends, could you comment, please, on how your usage trends relative to expectations year-to-date and any notable changes maybe in the context of economic crunch and et cetera.

Nicholas DeBenedictis

I'm sorry I didn't get exactly what the specific was. The projections?

Unknown Analyst -

How you have seen usage trends year-to-date compared to your expectations? Can you remind us what your expectations are?

Nicholas DeBenedictis

Yes. On the industrial commercial side, there -- we were expecting the -- that to grow a little bit this year because the economy was starting to come back strong in the fourth quarter of last year, but those projections have not come through and we've actually seen a down -- actually down a couple percent more than up, that's the 20%, that's commercial, small business, golf courses, hospitals and industrial. The domestic is up because of weather but there is still an underlying 0.5% decline because as a new house are or house is remodeled, low-flow toilets, low-flow showerheads are put in and then something we model in each year because we know it's going to happen. And in essence, it's a good thing for us because it means we can spread our water resources over time longer and earn on them before we have to do put in another major capital, and it's also good for the environment. But that's something that I think we can show you, for 20 years that's been happening, so it's nothing new. But it's also why water companies have to go in and rebracket, so periodically every couple of years, so that they pick up the new lower levels of consumption in their rates.

Unknown Analyst -

And so have these changes led you to modify your expectations for the year in terms of usage or not significantly?

Nicholas DeBenedictis

No, no, actually -- as I mentioned earlier, we're very comfortable with 6% growth in revenues.

Unknown Analyst -

And in terms of -- just clarifying for the consensus for the third quarter, are you comfortable with that in terms of GAAP or non-GAAP measures? And for the fourth quarter, should we expect the $0.02 benefit for bonus depreciation to continue and are there any other non-GAAP items that we need to look out for?

Nicholas DeBenedictis

Yes, I think let's start with the GAAP, non-GAAP. I'm comfortable with the, what I think is 33 consensus on the GAAP. The Non-GAAP will, actually in the third quarter, be lower even with the $0.02 addition for Pennsylvania because of the special tax provision that Dave explained and we'll spend more time with you after the call if you want to go through the specifics. In the fourth quarter, you consumed $0.02 on top of the non-GAAP number for the GAAP, because we'll have the -- we shouldn't have unless we do another deal in the fourth quarter, we shouldn't have any deduction from the Pennsylvania benefit, which will end in the fourth quarter but it will add $0.02 to the GAAP number -- I mean, I'm sorry, $0.02 to the non-GAAP number in the GAAP.

Unknown Analyst -

So in the fourth quarter, you're still benefiting from the Pennsylvania bonus depreciation?

Nicholas DeBenedictis

Yes, by about $0.02.

Operator

[Operator Instructions] There are no further questions at this time. So I'd like to turn the call back over to Nick DeBenedictis for closing remarks.

Nicholas DeBenedictis

Thank you very much and hope everybody enjoys their summer.

Operator

This does conclude your teleconference. Thank you for your participation. You may now disconnect.

Nicholas DeBenedictis

Thank you.

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