CMS Energy Corp. (NYSE:CMS)
Credit Suisse Energy Summit
February 7, 2012 10:45 AM ET
Tom Webb – Executive Vice President and Chief Financial Officer
Good morning. I’d like to introduce Tom Webb, CFO of CMS.
And thank you for doing that. And it’s good to be here. Welcome, everybody, that’s on the webcast, everybody in the room. We appreciate it. The lights are always hard to see here. But I do want to point out Phil McAndrews back here in our Investor Relations group. He always has all the good answer, especially the ones that I can’t get done for you.
I want to flip over here, go through a few slides so that we can get to questions in a fairly quick way. But as always, a careful look at Safe Harbor here. Please read this about forward-looking statements that we’ll be making. Make sure you refer to our Ks and Qs for risk factors and the like.
And on that note, let me share a few things with you that I hope that you’ll find interesting. It’s the 125th anniversary of Consumers Energy. And it will be the 65th anniversary of the company’s listing on the New York Stock Exchange. So there will be a little celebration coming later in the month. And I’ll talk about that.
The news since we last time talked is dividend. We increased our dividend by 14% net at a 62% payout. So that’s about where our peers are. And I realize you can always select the peers you want to look at. We do a pretty a big group. And so that’s put us right at the average of those and we’re pleased to have shared that with you.
We hope that those of you that are owners have found that helpful and those that are not will find that attractive as we go forward in time. Here’s our model. This is not new. This is a model that we’ve been running for several years. You can see the pattern for 2006 to 2010 on the left side of the slide and you can see the future outlook for this year on into 2016. So all driven by investment. Not too much and not too little, but investment that’s needed. Not investment that we want to do. Investment that our customers want to see.
We keep it to a reasonable level so that our base rates don’t go up more than about the level of inflation. So, being at that or less. And then we’ve got some enablers that help us, including NOLs that put us in a position where we don’t need to issue any equity for five years. And we have no plans to issue any block equity for five years. And you won’t hear very many companies that say that.
I know I hear the words come out from a lot of people. We have no need to issue equity this year. But it’s a little different for us.
You should know that we do have a DRIP program, a continuous equity program. And they add up to about $30 million a year, but no block work [ph]. The key to this model is that it’s predictable and repeatable and in part because – this is a little more detailed look at the model where you see the investment drives everything, investing in the utility. It’s 99.5% of our investment.
And you see the enablers listed there, I’m going to choose a few, go through quite quickly and then how we handle risk mitigation, which gives us a chance to have good consistent financial results.
On this particular slide, you can see what I refer to as self-imposed limitation on capital investment. The more we investment in the utility, the more of rate base goes up, the more of the earnings go up, the more or many of you are happy. So I could stand here and say we could invest and our earnings could go up 10% a year. But we don’t – this slide tries to show that.
The big bubble that’s on this slide says that we could easily invest about $10 billion over the next five years. And these would be things that I believe our commission would want us to invest in. So we’d be encouraged to do this. And these would be things that knowledgeable customers would want us to invest in as well.
But what happens is our base rates would go up around 4% or maybe a little bit more and we don’t believe that’s sustainable. So, we spend a lot of time prioritizing the investment. We’re doing some of our work around the smart grids a little slower than others. We think it’s a good thing on that way, but it pushes the investment out over time as an example.
So we’re targeting 6.6 billion over the next five years. That number could be closer to seven or closer to six. That’s not all that critical. What’s important is what’s on the bottom of this slide that says we will try to keep base rate increases at or below 2%, which is the estimate for inflation. And I’ll show you a little bit more about what we’re actually doing here.
So the investment itself is an enabler, as you’d expect. Here I’m showing you a cash flow. What you could think about this is earnings as well. This is the track for the last several years on the amount of investment we’re making shown in green and then the gross operating cash flow shown in blue. And the only point here is, it’s that investment that’s driving that operating cash flow up by about $100 million every single year and it has an impact on earnings. That’s a very similar increase.
But why is the cash flow important? That capacity of cash flow is stronger and stronger every year which gives you a lot more flexibility with the kinds of investments you would make or if you weren’t making investments as big as we’re doing, the kind of dividend that you could make, and lots of different things.
So I’m sure that’s obvious to the listeners on the phone as well as those of you here, that it’s a good thing to have that flexibility. One of our key enablers is the energy law, and another one is a really fine set of regulators. We are fortunate to have the law in place, people worked hard, I won’t go through it because I believe most everybody is quite familiar with the aspects of the law, a few of them are shown here that are very helpful to our customers and to you as investors.
And then you’ve now know, most of the regulators over here, John Quackenbush being the new Chairman, most recently appointed, and doing, I think, a great job with his fellow commissioners, former Chairman Urgie [ph], who made a lot of what’s on the slide on the left side possible in the new law.
Without his leadership, that wouldn’t have happen, and also Greg White is the third Commissioner all appointed by the governor. So they’re doing a good job moving us into a better and better implementation of the law. And it’s not all perfect, I would tell you that there are many things we can do better that are the interest of our customers and investors, and that’s all upside for us, to be able to do that.
Let me right here, give you an update on staff position on our gas rate case, I don’t have a slide on it, but those of you that follow it closely know that we had requested $49 million, and the staff came in with the sufficiency, so they had suggested a reduction of $22 million to rate. So we’re pretty far apart, but when you look at the elements of that, I don’t think there’s going to be such an issue.
I’ll give you a few examples, and they go both end, so if my right hand for listeners out there is high in the sky at $49 million, and my left hand is low near the lectern [ph] at $22 million negative, the 49 comes down quite a bit when we look at sales that are better than we anticipate when we filed the request.
When we look at our cost reductions which we’re constantly pushing on hard and we try to be realistic when we put our numbers in, but they’re better, so we need less support there keeping our cost down, keeping those rate increases down, and thirdly, we ask for a 10.7% ROE, we don’t expect to get that, that’s higher than the ROE we have in gas today, so you bring that down a little bit more.
Now about, let’s just call it half-way for fun, in between the two, now go the other way. IF you put in the proper sales, instead of a three-year history, and the right level of uncollectible account numbers instead of a three-year history, and you put in some, an ROE that might be more reasonable than the 9.95 [ph], I think that the staff had in their numbers, and all of a sudden, you get to a number that we’d be very happy with, and I don’t want to put a number on it now, but I’m trying to give you a feeling about that, that right size for a settlement.
So I think there’s the possibility of settlement here because the number is not that big for what we need, and I think a very reasonable recovery of capital investment that we made on the gas side of the business.
So I’ll take questions later, but that’s a quick, kind of update on the most recent event around our cases. Here’s a look, of focus to look after our customers. And rather than just read what’s up there, I would give you an example of what we mean by trying to look after our customers, a small example, but it turns a commodity, it turns a utility into a value oriented company when you do more things like this.
Imagine that your power’s out in your neighborhood, you have no idea, a few hours later, it comes on, you have no idea, maybe you weren’t even there. Wouldn’t it be nice if you could Twitter, or drop a letter in the mail whatever is the easiest thing to do, and the quickest thing for your customers and say, “Did you know, in your neighborhood, we’re sorry to say that the power was out for four hours on Saturday. Unfortunately, there was a severe accident, a car accident that took our power vault, and that people are okay or whatever. We wanted to let you know what happened. We hope you were out, and we hope it wasn’t too much of an inconvenience.”
We don’t do that today. That’s a simple nice thing to do for your customers. Imagine that when this – the repairman comes in to do something around your commercial enterprise or your home, he takes a minute. And he steps in just for a minute and he says, “Hey, I’m coming in, I’m doing this, I’m going to let you know.”
And when he’s done, he does the same thing, he comes back by to let you know he’s done. It takes a couple of extra minutes, it adds a lot of value.
So there are things that we can do along with keeping the rates as you see here, down. And then both the gas and the electric side, we’re going to try to keep our rates at or below inflation, so that means 2% or less. When you add in fuel, that adds a little bit more cost on the electric side.
So we’re working hard on that as well to keep those fuel increases down. And when you look at the gas side, with the contracts we’ve locked in and the storage that we have, the reductions on the fuel side of our business are going to offset these increases and probably have net reductions for our customers, a great place to be.
Here’s another tool for how we get it done, cost. We’re very honest with our history. We’ve raised our O&M a lot over the early part of this last decade and that was like nearly 8% and 3% from 2007 to 2011. That’s average annual. This year, we’re going to bring our O&M down by about 4% and our plan has this bringing it down by about 1% as we go through time every year.
As we get closer, we’ll work harder on it and see if we can make those numbers even larger. More head room for our customers. It’s not how we make our money. It’s how we help our customers. It’s the capital investment that we get to earn on that makes us attractive to our customers. So, cost control is important to everybody and you can see here at our company, it’s working.
Another important piece is healthy economy. And let’s think of this from the customer’s perspective and from our ability to raise rates perspective. The more the economy bounces back, the more head room there is for customers. So it can absorb those rate increases that you have.
So an equivalent here, if you think about a 1% increase in sales of the 2% we have projected for 2012, that’s a half a point of base rates right there. So it’s a nice way to cushion.
So the recovery is well underway as you can see here. Is it perfect? Does everybody have a job? No. All right. Is everybody happy with their jobs? No. Is there a lot of things yet to be done to make for a healthier US economy and a Michigan economy? Yes. But you can see that the recovery is coming slower than it has in the past but nicely.
Not shown here is the mix. Industrialists had a good recovery and is continuing, not everybody. But, on average, we’re much stronger than where we were at the beginning of the recession in 2008.
And residential is now turning around. So I think you’re seeing folks that get jobs feeling comfortable moving out of their homes. That’s where their parents happen to live or a shared home that they may have and they’re able to get back into homes and into apartments and that kind of thing. So the residential side is improving. Commercial is still flattish. And when we do our earnings call, I’ll give you some more detail and more color on that if we don’t get to it today.
I did mention an enabler in terms of not having to issue any equity so we don’t have to have dilution, which is worth about a point of growth, quite candidly, and here is why. These are our net NOLs and credits. You can see the gross NOLs down below this slide and how long they last. So they sustain for quite a long time, which is what gives us some help.
Here’s that cash flow slide that I referred to. On the very top of the bar is what I call gross operating cash flow and you can see it growing about $100 million every year through this year and out through time. And then you can also see after working capital and interest the normal operating cash flows you’d see on a GAAP basis. And that also grows by about $100 million a year until you get out to 2015 at a point when we will begin paying taxes.
But we’ll put our tax guide with a lot of work to see if we can extend that a little bit longer. And then the investments below that, both the base and the choice kind of investments that are made. As those continue to grow, they keep feeding that growth to the operating cash flow and to earnings. And as they pull back a little bit, you have the capacity of that cash flow to do a lot of great things as you go through time. So, a pretty simple formula and I know it’s one that you’re all familiar with.
Here’s the earnings side. No comments today and I won’t answer any questions today to suggest anything about earnings for 2011 or 2012. But we do have our call coming up in not too many days. But you see our outlook that we consistently talk about for the future as well as the dividend increase on that slide. And then here you can see the consideration that we would offer to you and folks listening on the phone.
A dividend yield about 4% and an earnings growth of 5% to 7%, we think, provides a pretty attractive return. I would candidly tell you that if you’re looking for a company that’s got a TSR that’s going to be 16%, 18%, 19%, it is not us. Not on a continued sustainable basis.
If you’re looking for – if you don’t want to find a company and you’re worried about one that’s lower than these sort of numbers, down in the 3%, 4% earnings growth, that’s not us either. And if you’re looking for somebody that brings you a lot of volatility, so in one year you get a big rush up, the next year a big fall down. I know some people do look for that, but that’s not us either.
So you begin to see that our formula is pretty straight forward and we work hard to figure out ways to deliver that to you each and every year. And that’s called transparent long-term earnings growth.
So, with the constructive regulatory environment that we have and the good energy laws, the foundation behind that, I believe there’s actually more opportunities to have that relationship be stronger, better, healthier, and to be able to do things in a smoother even more predictable way than we do today that I think serves our customers and investors well.
And then the little yellow box on the insert here, you can see we’ll have our earnings call in February 23. And I hope most of you can join us for that. We look forward to that, telling you how we did last year and how we expect to do this year or guidance for the year. And we’ll be at the New York Stock Exchange on February 29th celebrating our 125th anniversary and 65th anniversary on the Exchange and we look forward to that.
Bottom line, for us, is we believed – we worked hard to make this believable to you and that is what’s on the banner here predictable, affordable and sustainable growth. And on that, I’d be delighted to take questions.
Given your CapEx is kind of increasing from your previous ’06 to 2010, will be up 2 billion. Does it make sense to be a part of a larger entity? Does that give you any potential benefit either from cost, capital, et cetera perspective and with your permission?
I want to make sure I understand your question. Do you think I’m telling you our CapEx is going to 10 billion?
Good. Okay. Our CapEx would be –
I mean, it’s going from 4.6 to 6.6.
From the last several years. Yes, we’ve got a lot more to invest in, 1.5 billion of that is just around Federal requirements for the environmental side. Could be at the 10 billion I’m showing here on this slide but we’ve pushed it down to six and a half. I don’t suspect a lot of trouble there. And here’s a dialogue that we’ve had with commissioners and staff members that may help you on this.
We would be talking about a specific project unless you say smart grid, any example would do. And we’d say, “No, we’re going to slow that down. We want to do that at a more deliberate pace because we think that’s the right thing to do with the program and it helps us prioritize investment.” And they’ll look at us, “What?” “Well, no, we want to keep our investment down because we don’t want our base rates to go up more than inflation or about 2%.”
They go, “Wait. That’s our job, right?” It isn’t. It’s our collective job. So, I think as long as we have that approach, we’ve not had any major investment turned down by the commission, at least in my lifetime that I’m aware of.
And so they’re very responsive to the fact that we’re prioritizing from – and then actually, there are things they would like to have done faster but they agree with the prioritization not to go quicker, to keep these rates back. And they love the approach of trying to keep our O&M flat or down to provide a little bit of an offset to that as well.
So we’re on a very similar wavelength when it gets to, I think, the commissioners and the company, which is what makes this sustainable and a believable approach. Because as you said, and I’ll take it further. If we had $6.5 billion and we started accelerating pipe replacements and pole replacements faster than we’re doing now because people would like us to do that. Do the smart grid quicker because there’s a lot of people would have liked to see that happened faster. Some do, some don’t.
We don’t have new gas generation in our plan. People would like to see us do that and I could go on and on and on. Maybe some of those things will sneak in over the next two years but we’ll try to push something else out to keep this balance and that’s why it works pretty well. Great question.
I wanted to make sure you didn’t think we were going to 10. We’re not.
I guess with the EPA policy on the horizon, do the 6.6 fully take in all environmental ruminations that you require. And then secondly on that, I believe that you import between 10% and 15% of your power from out of state. With plant closures being out of control, how confident are you that that powers are going to be there? And you have to react from a company perspective to make sure that you have that generation in state.
Well first on the EPA side of things, this plan at roughly 6.5 billion meets all those requirements. We had to adjust what was in the plan a little bit when the rules started folding out here at the end of last year so that we actually have to go to 100% western coal from the already high-level we were at, and accelerate inside of the five years about $200 million of specific investment by about a year. That met all these requirements.
Now, we’ve had courts involved where it now slows things down. Our view is stay with the course, stick to your plan so that you’re not surprised and shocked. But there may actually now be a little bit of space, a little bit of room with the court involvement for what we do in the environmental side. So, that was (inaudible). And part two of your question?
Those purchase regarding the 10% to 15% of the power that you import.
Right. We actually, in a normal time, would plan the purchase about 10% of our power. And for those of you that are familiar with our retail open access and a cap at 10%, that’s actually how the 10% was selected by the legislatures when they were putting that in. They said, “Well, if you’re buying about 10% outside anyhow. If folks have the choice to go buy that from others as apposed to you, then it’s really not a harm in plan recovery on investments,” which is true. And that’s how the 10% came about.
I know there’s a lot coal plants being announced every time. I suspect we’ll hear more about more gas capacity coming online and probably some pipes in midstream to support that structure as we go through time.
I would tell you that we are looking but we have not made any decisions about maybe we need to do a little bit more gas in the mix of where we have. It could be an acquisition. It could be taking simple cycle to combined cycle in several different places. Remember we bought Zeeland just a few years ago, a major gas generation facility.
So, we think there are plenty of options to fill the hole. We don’t think there will be a shortfall in the near term. But if all of a sudden, we saw it squeezing up because more announcements than anticipated, we have some options where we could put more capacity in place pretty quickly ourselves.
But we think there’ll be space enough to acquire your needs, certainly 10% of our needs. We’re not worried about that.
And then, not to front run your guidance call but should we kind of read through that the 14% dividend hike is, I guess a vote of confidence from you and the Board that your 5% to 7% earnings growth is durable despite obvious early headwinds.
Well, that was a good qualifier that I’ll take as well, without any hint or suggestion around how the earnings will be last year or as we go into 2012. I think you can take the fact that the Board approved our recommendation to increase the dividend more than we grew earnings and to try to catch it up into whatever your definition would be. Somewhere in that zone of being very competitive at the average sort of payout as a vote of confidence that – I think you could go back to August a year ago and see the even larger increase, as a strong vote of confidence that we’re back.
A utility that’s a healthy utility with a good sound plan going forward. This adds to that vote of confidence. And it’s pleasing to the management team to see that level of support from our Board of Directors.
So, they believe in our plan, and what that is, we’ll talk more about in a couple of weeks.
Tom, if you look at the governor this time and he’s certainly been a very pro-business, trying to create jobs as quickly and as effectively as he can. One of the opportunities in Michigan has been the shale gas opportunity prospectively. What kind of conversations do you have with the governor and his office about shale development in the state and what kind of role the utility could have with the long term contract purchases at the gas utility or the shift to more gas generation to help develop more Michigan-based resource.
This governor is working certainly as hard as any governor has. I’d say harder but I don’t want to say anything bad about former governors because I’ve known that many. But he is working hard to find ways to bring jobs to the state and make good use of the natural resources that are there. And I know he has people taking a look at are there any things as a state that can be done to help facilitate that.
So, you’re right on when he says that. We also, we’re taking a hard look, is there anything in the midstream arena, anything also then in the storage arena? Is there anything there that would allow us to do something that’s attractive for you as investors and useful to our customers if it’s in the utility or certainly not adding a lot of risk if it’s outside the utility?
So, lots of work. Lots of discussion, lots of exploration not meant drilling. But a lot of thinking about what we can do. And it’s too soon really to offer a lot to you in that arena. But if there are really good advantages, then we’ll be looking at them.
You might know – I know you do know this that the more liquid-rich natural gas out there isn’t necessarily in our area. So, it’s not the ones that’s probably more attractive for the fracking that’s going on today. But you got to think through time on how this may develop and there could be some opportunities.
I know there are a lot of people that are looking at Michigan. And maybe there is something we can do with them or at least participate with them as an uptick or whatever that may be. But there’s nothing I have to announce today. It’s a great question and a good spot for watching the future.
For the ex-tenants inside the utility, we’re going to have to watch that investment level to try not to let that creep to high. And if it’s outside, we want to make sure that we are really protected on the risk side.
I guess on the smart meter perspective, I believe there’s been a lot of pushback from maybe a lot of it and maybe a little too much. But there has been some pushback with regards to the full limitation with smart meters. And the commission is currently looking out an up-out strategy. Could you add more color on that?
Yes, they are. Now, I don’t want to speak for DTE because I know Dave [ph] (inaudible) is coming up a little bit later this morning. And he’s right into that with things that are happening for their rollout.
They’re ahead of us on the program in terms of what they’re doing. And that’s good in its path. The tough part for them is they run in to some of these issues.
Our view on the smart grid, to kind of put it in perspective, is not really a meter replacement program or an efficiency program for the utility. It really is a program that’s out there to benefit the customers.
Clearly, we make some money on the investment. But the whole idea is if it doesn’t benefit the customers, we shouldn’t do it on this kind of program.
And if it does, we should help them understand it so it’s something that they embrace and want as opposed to thinking of us of showing up slapping a new meter on their house and then being able to get binoculars or something and look in to everything they’re doing because that’s part of the fear here, taking control of my life away.
I’ve set in some focus sessions in Michigan to listen to customers, some in, some being outside so they don’t know if they’re there. So they’re all on their own. And you will see a few people very worried about that. “Don’t come into my house.” And other people who are excited about having this come and then a whole bunch in the middle that go, “Excuse me, what is it?” Right?
And so, for us, we’ve got to do a really good education program and we are doing that as we start our first big rollouts beyond pilots.
And on top of that – so therefore we’ll have customers knowing, and hopefully wanting this. The way we’re putting the communication system in, the way the meters will actually talk through, if you will, a cell tower system is pretty new. It’s very economical today. It wasn’t economical a few years ago.
And it will give us the flexibility to allow you to opt in and you then to opt out and right around – and be able to do that without any large measurable pain. And that’s a great thing. It’s harder to do it through some other systems.
So, we’ll give choice. But we will encourage people to come in. Better if everybody is in because of the economics in total are better.
I guess my last question is, so with regards to the 10% choice cap, it seems that the governor and the commission are both in the same page, and that increasing doesn’t make sense for the customers.
However, the ultimate decision is with the legislature. Like, how in-tuned is the legislature in the full impact of increasing choice as it seems like there’s a bill that’s entered every session? But it seems like it gets daily and kind of fall off there.
Well, assume that all the listeners are familiar with the program, so I won’t go back and describe how it goes, except to say we have a 10% cap on choice so that the investments we make have a good opportunity being recovered from a large group of people.
There are some customers in today’s market that could – you could buy power cheaper out on the market today than you could buy it from our plants. And that’s just because of the lower cost of gas, the soft economy that’s turning around across all of the mines. So, that turns around.
And we’ve watched that – I don’t want – I’d say 20%, 30% of the time at most where it’s hard to be competitive. But it’s artificial because those prices won’t support new capacity or any – the needs of the citizens and customers that are in your area.
So what I think is happening, some of the – some of the legislature members feel that it’s a right thing. They’ve always felt to have 100% choice. And some are motivated by their constituents trying to get them that opportunity to get choice because they miss getting into the 10% cap. And so they’re doing what they can.
What we do know is that the Senate in the House level that the Committee Chairs have been very open and very direct that they’re not changing and will offer this in the near term.
That doesn’t mean it can’t happen in the longer term, but we don’t think that there’s – it will be embraced in the committee it has to go through even though folks will raise bills to go through and have recently.
And then even if it were to get to the House or the Senate, or both, which I really doubt. Not because it’s my desire, it’s just because what I think – what will really happen won’t happen. That it’d be hard for the governor to sign because he doesn’t really believe in the program of having more retail open access.
So in the near term, we’re pretty comfortable. We are very serious about it because we want to work with every single customer who feels like he can’t get choice today and would like to have it, to work with them, to give them the best service we can and the opportunity as we come through time to make sure that on average, they stay ahead of the game so that on the bulk of the time they can’t buy on the open market, power as cheap as we can generate it from base load plans. And that will be true again, I would think.
Thank you, Tom.
I know I’m overtime. So thank you for attending today. And those of you on the phone, thank you for joining in. Good luck to you.
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