Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

American Water Works Company, Inc. (NYSE:AWK)

2012 Earnings Guidance Conference Call

January 18, 2012, 9:01 a.m. ET

Executives

Edward Vallejo - Vice President Investor Relations

Jeffry Sterba - President and Chief Executive Officer

Ellen Wolf – Senior Vice President and Chief Financial Officer

Analysts

Kevin Cole - Credit Suisse

Ryan Connors - Janney Montgomery Scott

Steve Fleishman - Bank of America

Jonathan Reeder - Wells Fargo

Neil Mehta - Goldman Sachs

Heike Doerr - Robert W. Baird

Michael Roomberg - Ladenburg Thalmann Financial

Garik Shmois - Longbow Research

Operator

Good morning and welcome to American Water's 2012 Guidance Conference Call. As a reminder, this call is being recorded and also being webcast with an accompanying slide presentation through the company's website, www.amwater.com.

Following the earnings conference call, an audio archive of the call will be available through January 25th, 2012, by dialing 303-590-3030 for U.S. and international callers. The access code for replay is 4498174. The online archive of the webcast will be available through February 17th, 2012 by accessing the Investor Relations page of the company's website located at www.amwater.com. (Operator Instructions)

I would now like to introduce your host for today's call, Ed Vallejo, Vice President of Investor Relations. Mr. Vallejo you may now begin.

Edward Vallejo

Thank you. Good morning everyone, and welcome to American Water’s Guidance Conference Call. As usual, we’ll keep our call to about an hour. At the end of our prepared remarks, we will have time for questions.

Before we begin, I would like to remind everyone that during the course of this conference call, both in our prepared remarks and answers to your questions, we may make statements related to future performance. Our statements represent our most reasonable estimates. However, since these statements deal with future events, they are subject to numerous risks, uncertainties, and other factors that may cause the actual performance of American Water to be materially different from the performance indicated or implied by such statements. Such risk factors are set forth in the company's SEC filings.

Now I would like to turn the call over to Jeff Sterba, our President and CEO.

Jeffry Sterba

Thanks, Ed and good morning to all of you. Thanks for joining us. I have with me Ellen Wolf, our Chief Financial Officer. We will go through a fairly short presentation and then open up for questions. It is good and a real pleasure to be able to once again talk about a strong growth set of results, as well as forecast. I am sure you have seen the release that we made yesterday afternoon or evening indicating that we expect to finish the 2011 year at the middle of the current range of our guidance for adjusted earnings per share of $1.75 to $1.82 and that we also announced the forecast that we look forward to for 2012 which I think is another strong year of growth where we have provided a range for ongoing earnings of $1.90 to $2.00 per share.

If you flip to page 3, let me provide just a quick framework for everyone regarding 2011. Obviously, we are not announcing earnings yet, we are still in the process of closing and going through the audit, but we have given the indication of being in the middle of the range which would reflect strong growth over the year prior 2010. And let me just touch briefly on a couple of the four buckets that we have shown on page 3 that really helped to drive 2011.

First, relative to operating efficiency, we have continued to see as we have talked about in each of our quarterly calls good improvement in our operating efficiency ratio and our expense controls. A lot of this is focused on process improvement initiatives. Obviously, the major process improvement that we have got on the drawing board is the business transformation effort which is on schedule and continues to be on budget for being completed by 2014. The first phase of that will go into service later this year.

But we are seeing good response by all of our folks as we faced a number of challenges in 2011 whether it would be the unprecedented moisture and rain and storms that we received in the east and mid Atlantic, the tornado in Joplin, or any of those other areas, as well as a lot of focus on our rate case initiatives. And moving over there you can see that we effectively brought to conclusion eight rate proceedings worth about almost $160 million on an annualized basis and in addition received infrastructure charges of about $10.5 million. Now just remember that that does not include the proceeds that we received in Pennsylvania from the DISC because those are included as part of the rate case in the $160 million. But I think more important is the way in which we have really focused on addressing regulatory lag issues and particularly getting an infrastructure charge moving in New Jersey getting it expanded in Illinois and addressing declining usage. So those things I think we did really good progress on.

On the portfolio optimization and on our investment front for growth, we invested a little over $900 million last year compared to just under $800 million in 2010. The largest single component of the difference is the acceleration or the more rapid deployment of business transformation as we moved probably an $80 million to $85 million increase in spend as we are getting closer to having the waves of business transformation start to go into effect. Now that obviously that drives rate base and as we have talked about before that is a major locomotion behind sustainable earnings growth.

Portfolio optimization we have talked about, I’ll touch on where we stand on those in a moment, but our market-based operations have also done quite well. Just as an example, Homeowner Services continues to grow, now it has reached almost 900,000 customers. All of this has led us to be able to indicate today that we expect to be in the middle part of that range of $1.75 to $1.82 and that would result in an increased earned ROE, which includes the effect of the parental level debt in the 7.2 to 7.4 range.

Now let me move just briefly to 2012 and talk about the drivers for ongoing operations guidance of $1.90 to $2.00. We expect to again spend somewhere approximately $900 million. BT will continue to be a big piece of that but about the same level as in 2011 and so we are obviously having a lot of infrastructure investment trying to keep our systems on the newer side if you will still probably could invest some more, but we think this we have to balance it relative to price.

We are continuing our improvement in operating efficiency and geared to be at or below 40% within a five-year window and I think we are on track for that. Relative to portfolio optimization, we expect Arizona and New Mexico to close at the end of the month and New York and Ohio to close in the quarter.

We along with all businesses have benefitted from a low interest environment, obviously the majority of our variable rate debt is our short-term debt which we have used and will be defeased with the proceeds that come in from the transactions that we’ve got contemplated or that we got scheduled to close. So I think we will still receive benefits of a low interest rate environment.

Given the plan that we have laid forward, we see no need to issue any equity and frankly we really don’t have any significant amount of debt being issued at either the sub and certainly not at the parent level. So the capital structure continues intact. And we probably also got some rate cases on the drawing boards that are in various stages of hearing or completion, eight cases are waiting decisions today.

One of the things that as we visited with, virtually all of you that are on this call, we have always asked for your thoughts about the dividend. I want you to know that I very much appreciate the candor that you have provided to Ellen, Ed, and I about your thoughts on that and those thoughts are certainly being taken into consideration as we think about our dividend strategy going forward. Obviously, we increased the dividend 5% in June for the payment that was made effective September and one of our takeaways from you all is consistency and strength of dividend and dividend growth, is a significant driver of value.

If you flip to page 5 what we call the tornado diagram, this is just trying to give you a sense of what can drive changes relative to results and obviously the biggest impact is consumption, sales levels. A 1% change in sales levels can drive us more than the range, not that it can drive us outside of the range, as you can see by the dotted lines. And to put that in perspective, the base, the plan on which the guidance is based has about a 0.7% or 0.8% reduction in average use per residential customer over 2011 actual levels. And remember that 2011 we had, a lower sales year because of the unprecedented rain that we had in the mid Atlantic States, but also what this shows is if sales change, then nothing else changed. In reality that is not the case.

Some of our costs are variables, though they are affected, chemical power, etc., by the level of water that we are having to push through treatment, or waste water that we are pushing through treatment. Also our folks are very good at managing our O&M spend on the basis of what sales are actually going on, so we’re able to offset that to some extent if it is low or if it is high. But obviously sales is the biggest single driver. We also show what the impact can be on the O&M expense side and our three large single item components, fuel and purchase power chemicals and interest rates.

If you flip to page 6, just to kind of wrap up of ‘11 and ‘12 recalled that last year we introduced a score card that you can track in terms of how we are performing throughout the year. We have shown what we have gotten accomplished in 2011. I am very pleased and proud of our folks for all that they have got done and you can see in 2011 that we are providing the same kind of score card for this year.

Just to hit on a couple of points, you will notice that the number of rate cases that we expect to file is declining from what we have filed in the past years and I think that is what you should expect. I think that it is a good outcome, because what it is saying is we are really getting through the catch up period. We are being able to manage our rate cases, so the largest share is capital drivers and of course it will come in waves, plus as we get good regulatory treatment of declining use and increased utilization of infrastructure charges, the DISC type components, that that puts less pressure for general rate cases. As I said, we do expect to spend about $900 million again on the CAPEX side and you can see the other items that you can track our progress and we will obviously update you on a quarterly basis.

So in closing, if you flip to side 7, this starts a story we are very proud of whether you look at earnings per share or return on equity, we are very pleased with the value that we are generating for our shareholders, we are not satisfied. We are able to provide our shareholders a 30% total shareholder return in 2011 and have had earnings per share grow at a compound rate in excess of 15% since 2008, and obviously this includes going to the midpoint of our 2012 guidance.

So again, we’re pleased with the progress we are making and as I said, we are not satisfied; we still have a lot of things to do in our operating efficiency, as well in positioning for continued growth. With that we would stand for any questions that you have and I challenge you to pose a question to Ms. Wolf that she has to say, no comments. Just kidding.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question is from the line of Kevin Cole with Credit Suisse. Please go ahead.

Kevin Cole - Credit Suisse

Hi, good morning. Thank you for taking my call.

Ellen Wolf

Good morning, Kevin.

Kevin Cole - Credit Suisse

And just back to the dividend policy, I guess with your and a few board members largely to the background, what are your thoughts on increasing the dividend yield, to be more competitive with other non-water utilities.

Jeffry Sterba

Well, as I said, we have listened to a lot of input from people and we are taking that in consideration. I am not at the stage of indicating any change from what we have put in place so far, we are taking a very hard look at it. I think, there is also a risk, there is no question that the electric and gas side, particularly the electric side has a higher dividend payout. I think about it in terms of relative risk in growth. I think what we provide compared to most of those entities is the higher growth profile, frankly at less risk and so the question of how does dividends fit into that, to me goes to the question of balancing the reinvestment of that in a fairly low risk, good return investment profile versus a yield back to shareholders. So, I understand why the water sector has a slightly lower yield in general. That makes sense to me. The degree of that difference obviously is always one that you have to take a hard look at.

Kevin Cole - Credit Suisse

Okay and sorry.

Jeffry Sterba

No go ahead, Kevin.

Kevin Cole - Credit Suisse

And so should we expect clarity around the June timeframe again?

Jeffry Sterba

I am sorry.

Kevin Cole - Credit Suisse

Should we expect the next dividend, I guess the dividend would be addressed again in June?

Jeffry Sterba

Well, if we follow the course of last year, a dividend increase, well the last couple of years has been acted on in June for payment in September, that could change I would not expect it to be any later than that.

Kevin Cole - Credit Suisse

Okay, and then one last question, if I could. And so, now it looks like your ROE to the process is nearly complete, by the end of 2012 or early ‘13. Can you put some color on how you plan on maintaining your 7% to 10% EPS guidance in longer term?

Ellen Wolf

Yeah. This is Ellen and thanks for the question. Two parts to it, one the bit what we have been calling the catch up, it has indeed been completed, it is really now about addressing regulatory lag, which is around our policy as it relates to declining usage and the DISC strategy getting an infrastructure charge and we are progressing along now, but expect, you know it takes time within each of the state. And then the second part of that growth is the continued need to invest $800 million to $1 billion of capital every year. We could easily invest more in that, there is a more of a need than that, but we are constantly trying to balance the concept of how much of a rate increase can our customer handle versus the need to invest in the system. So, when you look at closing regulatory lag and you look at our continued investments, they are for the key drivers of our growth in the future.

Kevin Cole - Credit Suisse

And then on the ROE, in the past in the chart you have corporate ROE and then you have a step down from the regulatory lag and hold to debt, do you still see those step down and hold to debt around 1% to 1.1% and then regulatory lag, additionally around 1% --

Ellen Wolf

Yeah, it is going to decrease as a percentage of our net income growth and when you looked at it for 2011 it was slightly above 1%, so we do expect it to continue to decrease overtime.

Kevin Cole - Credit Suisse

Great, thank you very much.

Ellen Wolf

Thanks

Operator

Thank you, our next question is from the line of Ryan Connors with Janney Montgomery Scott. Please go ahead.

Ryan Connors - Janney Montgomery Scott

Good Morning

Ellen Wolf

Good morning Ryan.

Ryan Connors - Janney Montgomery Scott

Couple of questions, first up, just wondering if you can give us a little more of granularity around the assumptions embedded in the guidance range for 2012 on two separate topics, first on O&M ratio and you talked about it qualitatively, but any kind of more detail or color you can gives us about where you expect that to trend in 2012 directionally in magnitude? And then separately, what are the assumptions around, kind of the market-based operations, is what we are calling it, so what are the assumptions you make for that side of the business in 2012?

Jeffry Sterba

Well, let me take it and Ellen may add something to it. On the O&M ratio, I can tell you directionally it’s going we are focused on continuing to improve it. We are not at a stage of saying or wouldn’t give a forecast of what we think it would be in any given year. We have given you a target and I think we will clearly hit that multi-year target and the progression will be to continually improve it and 2012 will not be any different. Relative to the market based side, it improved its operations in 2011 versus 2012 particularly focused in homeowner services and our military services side. We expect to see reasonable growth out of those businesses that improve their performance. We don’t give breakouts on them individually, but I’ll just note one thing on the military side there were some changes made at the end of the year in legislation that we signed that we believe will help open up more basis to this form of competitive procurement and we really look forward to that. Ellen anything you would add.

Ellen Wolf

No, the only thing I would remind you Ryan is really the market based operations although they are positive contributors they are a very small piece of our overall net income and earnings.

Ryan Connors - Janney Montgomery Scott

And then kind of a bigger pictured question, just talking about municipal, the municipal market. Obviously, some of the municipal ward utilities remain under tremendous financial pressure and in theory that creates opportunities for your business, so I want to get your thoughts on that in two respects, first up in terms of acquisitions and secondly in terms of, you do mention in your slides that, the idea of contract operations, I mean, do you think 2012 could really be, could be the year when finally some of those opportunities really start to come to provision or are there structural issues they are that just make the municipalities hesitant to go – turn to the private sector?

Jeffry Sterba

Ryan, I guess the two primary comments, the first one is our business plan and the guidance that we provided for 2012 is not predicated on that occurring that said, yes we do see increased concerns by a lot of the municipal water and waste water utilities regarding their ability to, -- how far they are falling behind, because they are not keeping up and you know the challenge differs amongst them and one of the things that we have learnt is, if the issue is that they just want to increase rates and so they that’s why they are falling behind. Well quite frankly that doesn’t create a great opportunity for us, because one of the things we have learnt is, if we are the ones that come in and increase the rates, that is not necessarily a marriage made in heaven. So for those municipalities that have real capital problems or there is a technology issue where they just can’t keep up with the changing regs[ph] they create opportunities for us if it is a, usually it doesn’t also involve rates issue but they have to be willing to get out in front of the rates question, whether if they put in place the rates or they support the rates that need to be put in place. So, we are obviously actively looking for opportunities as I have told you all before, we will not pursue the kind of business that, some of the kind of business that we have in the past for short-term contract ops for municipal either delivery systems or collection systems or plants, that is just not something we are going to spend our talent on.

Ryan Connors - Janney Montgomery Scott

That is very helpful, thanks for your time.

Ellen Wolf

Thanks.

Operator

Our next question comes from the line of Steve Fleishman with Bank of America. Please go ahead.

Steve Fleishman - Bank of America

Yeah. Thank you, just a clarification on the long-term growth rate. Someone mentioned the 7% to 10% in Q&A, but I didn’t see it mentioned in your slides, are you still targeting that from this level? Or is this kind of base of fixing things up? It is higher, should we kind of assume it a little lower?

Jeffry Sterba

No, we believe in the 7% to 10% growth rate, it is not just a, -- if you look at what we done through the last period of time on catch up, we have obviously have been well in excess of that in the 15% range, but we believe we can manage this percent and grow it to achieve a long-term 7% to 10%.

Steve Fleishman - Bank of America

Okay, great and just Jeff, one other question just from a kind of a , -- in the last year or two you have had a couple of strategic transactions as you reposition the company, do you see more potential for those over the coming year? Or is that kind of largely done with, you kind of looked like, I guess the maybe the easy pickings, so to speak.

Jeffry Sterba

Well, we have done the ones that we have put a 5 star on, that these were ones we really wanted to do. So, I wouldn’t say that we would necessarily see a higher likelihood, I wouldn’t say that. We are pretty comfortable with the properties we have, but we will absolutely look for opportunities for a mutually beneficial transaction, whether it is a swap or a acquisition, we do have some smaller properties that, the smaller properties we have, today really don’t take a lot of overhead and time and attention, so they are, the scale question, you think about a little differently in those states, you don’t necessarily have to have enormous scale, if we can operate the fundamental operations efficiently. So, we will continue to look and see if there are opportunities but that’s probably a shift from being out aggressively saying, we want to restructure the portfolio and we are going to give ourselves a limited period of time to do it.

Steve Fleishman - Bank of America

Great, thank you.

Ellen Wolf

Thanks.

Operator

Thank you. Our next question comes from the line of Jonathan Reeder with Wells Fargo. Please go ahead.

Jonathan Reeder - Wells Fargo

Good morning Ellen and Jeff.

Ellen Wolf

Good morning.

Jonathan Reeder - Wells Fargo

Jeff, could you just repeat, you said the consumption embedded in guidance is down on 0.7% or 0.8% is that for residential or total retest?

Jeffry Sterba

No, it is residential.

Jonathan Reeder - Wells Fargo

Just residential?

Jeffry Sterba

Yeah, we have talked about declining usage for our residential customers and we have built into our plan, roughly three quarters of a percentage point decline off of 2011 actuals and that is just to provide you a sense of where is the starting point.

Ellen Wolf

Jonathan I said, note that on the long-term trend, however, we are still seeing the numbers in that half to one-and-half, if not a little bit more percentage, if you look at usage not impacted by weather.

Jeffry Sterba

Right and then remember, this is off 2011 actuals because that’s all you have really got is the actuals. Because we can’t, no one has figured out a way to weather normalize water sales.

Jonathan Reeder - Wells Fargo

Right, so you are implying that the weather had a negative impact in 2011.

Jeffry Sterba

Yeah.

Jonathan Reeder - Wells Fargo

Okay.

Jeffry Sterba

It certainly did in the East and mid Atlantic areas, which is where the predominance of our business is.

Jonathan Reeder - Wells Fargo

Right, and then on the four rate cases planned for 2012, do you have any kind of comments around the dollar melt we could expect or at least what states you plan to file?

Ellen Wolf

Thank you for giving me the one question, where I can say no comment.

Jonathan Reeder - Wells Fargo

Well, I might have another one for you, Ellen, you don’t know.

Ellen Wolf

But nice try, now at this point, it is always our practice that we are going to have a rate filing we like to notify the regulators first and the commission first.

Jeffry Sterba

Okay, and we don’t it by these calls.

Jonathan Reeder - Wells Fargo

Fair enough, last question for you Ellen, deferred income taxes, can you kind of just talk about what you have seen as far as the cash flow benefit in 2012 and 2013, it look likes 2011 is probably going to be pretty similar to 2010?

Ellen Wolf

Yeah. We continue to have a substantial NOL that we are carrying forward, so we would expect that the trends you see in 2009 and 2010 and going into 2011 will continue. At this point, we believe that NOL given no changes in tax rates is probably got an 8 to 10 year remaining life.

Jonathan Reeder - Wells Fargo

Okay and it should continue at a similar level to what we see in 2010 and 2011 going forward for those 8 to 10 years?

Ellen Wolf

It should, yes.

Jonathan Reeder - Wells Fargo

Okay, thank you so much for ---

Ellen Wolf

There will be some ups and downs depending on the tax curve but yes.

Jonathan Reeder - Wells Fargo

Okay, thanks so much for the additional information.

Ellen Wolf

Thanks.

Operator

Thank you. Our next question comes from the line of Neil Mehta with Goldman Sachs. Please go ahead.

Neil Mehta - Goldman Sachs

Good morning.

Ellen Wolf

Good morning.

Jeffry Sterba

Good morning.

Neil Mehta - Goldman Sachs

So, a couple of questions looking out past 2012 year, in New Jersey favorable DSIC rule a couple of months ago, when should we think about that impacting earnings at the earliest and how should we think about the magnitude?

Jeffry Sterba

Well, if really, when you work through the whole schedule, it probably will not impact flow of cash flow earnings until we get into the second quarter of 2013, because of the process the rule still has to go through and then we have to make a base level filing and then we have to look at a period beyond that. And as you probably know Neil, it provides for recovery in excess of the amount of depreciation which, Ellen I can’t recall.

Ellen Wolf

Yes, we don’t do it.

Jeffry Sterba

Okay. So we really -- it’s based on the level of depreciation for those like kind of assets. Obviously, it’s beyond the current year guidance, we are not really in a position to give you any kind of a specific number. I think the importance is you see what the value is that those kinds of mechanisms have created in Pennsylvania, in Illinois, in parts of Missouri [ph] and some of our other states. And this is our second largest state where we will have this kind of a mechanism, it did really helps on the regulatory lag front.

Neil Mehta - Goldman Sachs

Thank you Jeff. And then also looking out past 2012, the long term rate based growth picture is $800 million to $1 billion still the right CAPEX range here post 2012? And what would get you to spend on the higher end of that range?

Jeffry Sterba

Well, that range is correct. Where we are in that range can be driven by, if we get DSIC type mechanisms in more states and more coverage. That can be an encouragement to CAPEX, if the balance of what we really believe we can get through and get rate recovery on, so you have to take into account the social side of where states are in their rates and then obviously you have some larger projects that can cause something to go up, so we have got some reasonably significant projects this year in Pennsylvania and New Jersey, in 2010 we had the completion of the large Kentucky project, so that can move you. Those are the three things that I think can move you towards the higher end. Ellen, is there another factor you would?

Ellen Wolf

No, I think that’s really the key drivers. And again, always looking at the impacts on rates within that state.

Neil Mehta - Goldman Sachs

Sure and potentially the impact on equity and I guess what you are seeing today is that no equity in 2012, but having closed the door on the potential for equity in 2013, it’s too early to say.

Ellen Wolf

We look at this at the current year of what’s coming up, what we expect our cash flow to be within that year and then – so we do it one year at a time here.

Neil Mehta - Goldman Sachs

Okay. Thanks fellows.

Ellen Wolf

Thanks.

Operator

Thank you. Our next question comes from the line of Heike Doerr with Robert W. Baird. Please go ahead.

Heike Doerr - Robert W. Baird

Good morning. Thank you for taking my question. I wanted to follow up on a question that Jonathan Reeder has asked. I know you mentioned what the residential usage is looking like. I wonder if you could comment on what we are seeing on the commercial and industrial side as we start 2012?

Ellen Wolf

Heike, as you know, we have an issue -- the 2011 10-K, and so there will be effects in addressing what we have seen in those areas. And just as a reminder, through the first three quarters in 2011 we saw industrial fairly flat and commercial a little bit weather dependant.

Jeffry Sterba

Yes, depending on the states.

Ellen Wolf

State.

Heike Doerr - Robert W. Baird

Okay. And as we think about customer growth, I know for our gas utilities often the decline in usage is offset by some modest customer growth. Can you please tell us what you are seeing as far as or what assumptions you have made regarding organic customer growth and what you see as the outlook as far as some of these tuck-in acquisitions for 2012?

Jeffry Sterba

Well, we are not seeing anything significant in customer growth. It varies from area to area, from state and location. So in some areas we see a little higher growth, but frankly Heike, it’s pretty small.

Heike Doerr - Robert W. Baird

Smaller than this – so it would not offset this 0.7% usage decline you (inaudible) kind of less than that customer growth.

Ellen Wolf

Yes, Heike, that’s not occurred in ‘10 or ‘11. We have not seen that kind of actually starting in ‘09 with the housing crisis we have not seen that type of growth.

Heike Doerr - Robert W. Baird

Okay. That’s all I had. Thanks.

Operator

Thank you. (Operator Instructions). Our next question comes from the line of Michael Roomberg with Ladenburg Thalmann Financial. Please go ahead.

Michael Roomberg - Ladenburg Thalmann Financial

Hi, good morning.

Jeffry Sterba

Hi, Michael.

Ellen Wolf

Good morning.

Michael Roomberg - Ladenburg Thalmann Financial

So, this tornado diagram that you have is very helpful for understanding the magnitude of a number of things that are going to be driving the 2012 outlook. One of the things I didn’t see on there was the impact of some of these rate cases that are still outstanding that are likely to be determined in the first half of ’12. And I am just wondering in terms of your base assumptions of how you developed this guidance, are you assuming essentially that your large returns on those states stay the same or increase or decrease slightly? Can you provide a little bit of additional color around that?

Jeffry Sterba

I think the best way to answer that is, every state is different. And so, we are try to take into account what we see as the dynamics within that state, if we have specific knowledge we will use that. So I can’t say that there is a single kind of assumption regarding either returns or percent of recovery or anything like that. It’s a little, we are a little more exact than that but we also obviously won’t talk about the specifics of any of those assumptions on a state-by-state basis.

Michael Roomberg - Ladenburg Thalmann Financial

Sure. Okay, that’s fair enough. And I guess this will be a question for Ellen, actually a two part question. Ellen, can you talk a little bit about the changes in your pension expenses in 2012, obviously that plays a part in your assumptions for O&M? Just kind of hoping to see if you could walk us through a little bit of that. And then relatedly, some of the interest rate assumptions that you are using to target 2012, do you assume that interest rates stay the same or increased? Just a little bit more clarity on that would be helpful.

Ellen Wolf

Sure. On the interest rates or assumptions, as we have seen they match those that have been published by research institutes, etc. That interest will stay pretty much flat in 2012 versus what we have seen in 2011. So we don’t see much change in that and we have used a lot of outside sources that can concur with that approach. On the pension expense, as a reminder, we have something unique in American Water in that we have about 60% of our state’s account for pension expense under FAS 87 and the rest are based on ARISA and therefore the expense is based on actual cash contributions. And given that unique mix at this point in time we don’t see any substantial impacts or changes in our pension expense for 2012. Now that may change once we complete the audit and the assumptions that we are looking at as it relates to determining the liability of the fund, but that’s where we are at this time.

Michael Roomberg - Ladenburg Thalmann Financial

Okay. And then Jeff, just one last question. Turning back to be military base business, I know it’s a relatively small piece of the pie, but you know, you had expressed some optimism that some of the changes that have taken place in 2012 in the federal budgeting could be a callas [ph] for increased bidding opportunities. Do you see those being just giving the timeline of misusing regulations more of a first half event or a second half event?

Jeffry Sterba

You know, we are talking about the federal government and so things don’t move as fast as maybe we would like, so -- and these are not simple processes. For the Army, they have got it pretty well down. For the Air Force, they have only done a few. So, they have a process, they still have to go through. What happened in the legislation is that process for them got a bit simplified. And so we think that it provides a good impetus and to start hearing is that it will provide a good impetus to move it forward. But I would not expect to see words [ph] of any kind made in the first half. It’s a question of – do we start seeing bids come out through 2012 and really this is more affecting a little longer term, not so much 2012. Because, it takes a little while to get these going, but the good thing is when you get a contract with the base, the big issue where a lot of the value is really in that catch up here, that first year where they got a bunch of projects, they haven’t been able to do and so when they need those are taken care of quickly. So we start to see good returns very quickly after take over operations of the base but the process does takes some time.

Michael Roomberg - Ladenburg Thalmann Financial

Okay. Thank you so much.

Ellen Wolf

Thanks.

Operator

Thank you. We have a question from the line of Garik Shmois with Longbow Research. Please go ahead.

Garik Shmois - Longbow Research

Hi, thank you. Good morning. Just a question on the business transformation expense, you highlighted that this morning. Just wanted to clarify, are you expecting another $80 million to $85 million in spend in 2012?

Ellen Wolf

At this time the total that we have disclosed of spend is around $280 million for the entire project, prior to allowance for funds that you are allowed in certain states. And so, we would expect a similar trend in spending in 2012 as we saw in ’11, but still below that $280 million.

Garik Shmois - Longbow Research

Okay that’s quite helpful. Sorry.

Ellen Wolf

Sorry, but the finishing up of the project being in ‘13.

Garik Shmois - Longbow Research

Okay. And can you quantify, perhaps the benefit from that project that you expect to begin to realize at 2014 whether it’s through cost savings, or margin or earnings?

Jeffry Sterba

You know, the primary driver of the business transformation project is to provide finally for this company the foundational systems for data recovery, analysis, simplification and integration. We really don’t have platform systems. So the fundamental justification is really, we’ve got to replace what we have today, it is best described as a overcooked spaghetti thrown up against a wall, to be quite candid, we just don’t have good systems because they have been tacked on to each other and not foundational. That said, as they get implemented we do expect it to be able to drive operating cost down because we are reducing the level of manual involvement. But that’s going to happen after the systems are really in place. So, we kind of look at, frankly after it is all settled out, maybe a little in ’14, but ’15 to really see the value of those systems as they are implemented.

Ellen Wolf

I would add. This is truly an infrastructure replacement.

Jeffry Sterba

Yes.

Garik Shmois - Longbow Research

Okay, great. Thank you very much.

Operator

This concludes the question and answer session. Please continue.

Jeffry Sterba

Well, I would just thank you all very much for your continued interest and support in our company. As I said, we are pleased that we are continuing to be able to present a strong growth opportunity for investment and we are committed to continuing that as we go forward. Look forward to visiting with you and have a great new year.

Operator

This does conclude this morning’s conference call. Thank you. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: American Water Works Company's CEO Hosts 2012 Earnings Guidance Conference (Transcript)
This Transcript
All Transcripts