American Water Works (AWK) Presents at Barclays 2016 Global CEO Energy - Power Conference (Transcript)

| About: American Water (AWK)

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

Barclays 2016 Global CEO Energy - Power Conference Call

September 07, 2016 08:25 AM ET

Executives

Susan Story - President and CEO

Analysts

Daniel Ford - Barclays

Daniel Ford

Good morning. So, next up we have American Water Works. Susan Story, who is the CEO and President of American Water Works, is going to take us through the story. I’m very happy to have Susan here today.

Susan Story

Thanks Dan. Good morning. Okay, thank you. Just making sure everybody is awake. What I want to do for a few minutes is just walk through the issues about water utilities. And for those of you who cover the universe of utilities, I am going to talk a little bit about similarities between water, electric and gas; and then, what I want to do is talk about the interdependencies for a couple of minutes and then talk specifically about what’s different in water and talk about the investment thesis which our investment thesis is equal to addressing the water issues that face the United States.

So, while it will be specific to American Water in some respect, we will also be addressing the broader issues that you’re reading about in the newspapers. So, one of the things I show up here on the screen, and I don’t have -- I only have two PowerPoint slides because I don’t like to kill people by PowerPoint at 8:30 in the morning. So, what I want to talk about though is all of the headlines that we’ve been seeing about water over the past several months in the United States. The first picture you see here is the Lake Erie algae bloom. You probably also remember a year or so ago, in Toledo, the Ohio River algae bloom and more recently in Florida in Okeechobee where the algae took over and because of the heavy rains, they had to release waters from the Okeechobee into the Gulf and you had the green slime on the beaches in Florida.

Second picture you will see is the draught monitor for California, which while there was a brief respite and [indiscernible] in California, and there are some folks here who actually live in California. While there was a brief respite at least in the northern part of the state late last year and things were green and washed [ph] for a while, they are back to brown because we’re back in the drought. If you’re from Texas, you also know there is drought. But interestingly, there’re about 10 or 12 other states that parts of those states are in drought, including New Jersey for example. So, this issue of water when we you have it and it’s got the wrong stuff in it and you get algae or you have droughts.

And then the last picture here is signifying the issue that unfortunately all of us are aware of which was the tragedy of Flint, which is the lead in the water, which actually is a result of a lot of different factors that I’ll briefly talk about as I talk about what water utilities need to do where it has to deal with in terms of dealing with the fact that making sure that people have clean and safe waters. So, all of these issues around water not only are headlines, are national policy issues, they are imperatives for companies like American Water, the largest water and waste water utility in the country to take a lead working with EPA, working with the Centers for Disease Control to help manage, and that actually lays the basis for investment thesis.

I want to talk to you a minute, for those of you who are more familiar with electric and gas than you are with water utilities. One of the things that are the same in the utility universe regardless of whether it’s water, electric or gas, what are the things that are different and how are we interdependent. I just want to spend a couple of minutes on that.

For those of you who I have met or have read by bio, I actually spent 31 years in the electricity industry, which of course now because of all the acquisitions of the electricity/gas industry and they’re not as separate and discrete as they were in the past. But I worked for seven companies for 31 years, mainly in operations. I was president of a couple of their subsidiaries and came to American Water 3.5 years ago. I was struck when I came to American Water, the similarities and how easy the transition was but at the same time what the differences are and even more importantly the interdependencies and how we have to work together. So, what are the same things?

Number one, the criticality of services. As someone who is President of a Gulf of Mexico utility, Gulf Power Company and worked Hurricane in 2004 and 2005 from where you had no electricity to bringing the power back and I also helped out after Katrina, I can tell you that when you have no electricity, you have no water, you have no gas services, the economy shuts down, your family shuts down and you’re in limbo until you can get back to normal. So, all utilities possess this responsibility for critical services that name the world and the life of the people we serve every day, so that’s something that we all share.

Another thing we all share is the regulatory construct. Water utilities, investor-owned water utilities have exactly the same regulatory commissioners that electricity companies and gas companies -- distribution gas companies have in their states. We’ve a lot of the same mechanism, some are different, some are the same but we basically have the same regulatory processes in terms of rate cases. And those have been across the spectrum of electric, gas and water. The other thing that we have in common is -- are the people who we get the privilege of working with. When you decide you’re going to work for a utility company, you’re signing on for a 24/7 job that is regardless -- in fact, we’re probably more active during the worst of times, during hurricane restoration, during an ice storm, during a main break at 2 am in the morning, in freezing temperatures where our folks are standing in the middle of the road trying to get a water main fixed so that people can take a shower the next morning.

So, we have these amazing people who have tremendous skill sets but also who are older than the general working population and who we see over the next five to seven years will be retiring up to 50%, 60% of the current workforce. So, those are some of the things that all of us in the electric and water and gas utility space share.

We’re also very interdependent. And some of you may cover energy, so I’m going to talk about not just electricity but energy, not just natural gas, but some of the things in terms of a drilling for shale gas and shale oil. So, a couple of statistics that I find fascinating. For every gallon of gasoline that you put in your vehicle, it took 13 gallons of water to produce. For every well that is fraced in the Utica and Marcellus and Appalachian Basin, it takes 3 million to 7 million of water to frac their wells. And all thermoelectric plants base load natural gas, coal or nuclear, they would draw that 200 billion gallons of water a day in the United States. Now the majority of that is efficiently returned to the water source unless there’s drought or unless there is extreme weather, extreme heat or ice. So, I say that to say energy needs water, but water needs energies. 13% of all the energy produced in this country, not just electricity, but energy touches water. 4% is on the utility side, pumping, moving, treating, and then another 9% is used to heat, cool, pressurize in businesses, homes and industries. So, you have this interdependency between energy and water that’s critical.

Now, how are we different? So, when I came into the company, there were a few things that were striking, and I’m going to mention them very briefly because then I want to talk about water supply challenges and I will get to bigger discussion about each of these. But the three ways that water is very different from the other utility services, number one is that we have this water supply issue. If you’re in the electricity business and you need more electricity, you find a way to build the planning, you basically create the electrons at the plant; you send it over the wires. You’re not -- we can’t make new water. Basically there’re five issues in terms of water supply, one is you treat groundwater; two is you treat surface water; three is you conserve which is nicely supplied but which counted [ph] as supply or you desalinate brackish or sea water or you recycle and reuse. That’s it. There’re no other options for water.

Now California, who we serve happens to be a laboratory for us and that we’re doing all five of those in California, all five of those things. So, one thing is the water supply issues. The second thing that’s different is that the aging infrastructure is very different from electric, somewhat similar on the natural gas pipelines now that after the San Bruno incident brought forth the issue of safety in pipes and aging of pipes. But in the United States, every year, we lose 2 trillion gallons of treated water. 20 to 25% of the water that we go to the extent the energy needs of treating and putting in pipes to go to homes and businesses we lose through aging infrastructure, through main breaks or leaks. That is billions of dollars that we’re just wasting that’s going right into the ground after it’s been treated.

There is an estimate that by 2020 in four short years, actually three short years when you think about it, 44% of all the water pipeline in this country will be deemed poor, very poor or beyond life. 44%. Now, as I’ll mention in a minute that’s actually an opportunity for companies like American Water, both in the capital investment but also in the acquisition of distressed systems. So, infrastructure, capital deployment in water is very different from electricity and gas and that we don’t have big projects. And I remember, Dan Ford in the 90s, I’ll never forget this, came out with was a sine wave of investment for the electric utility industry. Do you still have that chart? I still remember it and he talks about there’s a flood of investment in generating facilities or large transmission projects and then you have big rate increases and then you kind of come down for a few years and it was almost a perfect sine wave that he drew out over a decade long.

In water, we’re pretty much even and the reason is we have years and decades of investment we need to make. You can’t do all of the water infrastructure changes or water supply changes in just two to three to four years. And we -- last year, we spent 1.2 billion for example, that was maybe 70 projects. So, if we have a couple of projects with their budget issues or there are permitting issues, then we can just pull forward other projects. So, the capital deployment is much smoother and it’s also much more predictable. The third thing that’s different about water is pretty basic. People drink what we serve, in the water side, not the waste water side, until we recycle it. But, we are a service and a product that people ingest, and that has a whole host of health issues around it that’s different from the other utility services. So, those are the ways that we’re different.

So, the water supply -- the water issues, water challenges, and I would say U.S. but many of you I know are from other countries, these challenge is all over the world. I mean, the fact of the matter is every 20 seconds a child dies from water borne illness in this world. It’s hard to believe that where we live in industrialized countries that every 20 seconds a child, every 10 seconds someone dies but every 20 seconds a child dies in the world because of water borne illness. So, the challenges facing us in the United States and I would say across Europe and other industrialized nations; number one is the water supply as I mentioned. And we’re starting to see much more acceptance of water recycling and reuse not just for irrigation or HVAC cooling but even the idea in some parts of California of what has been referred to lovingly in the past as toilet to tap. People are much more comfortable with toilet [indiscernible] than they are toilet to tap but recycling uses make that water as clean or cleaner than probably a lot of what you’re getting in bottled water, to be honest with you. So part of it is water supply issues. We’re building a desalination facility on the Monterey peninsula because of the problems with the underground wells, aquifers as well as the surface waters.

The second big challenge facing the country is the infrastructure that I mentioned. How are we going to replace infrastructure? In the United States, we are replacing pipe at 0.25% which basically says we think pipe will last 250 years before we replace it. It won’t last 250 years. American Water with 2.5 times better than that but to say you replacing pipe on a 100-year schedule may not be -- it’s not something to brag about but it’s 2.5 times better than the rest of the country is doing and we’re limiting it only because of the impact on customer bills.

The third issue and one that has gotten the most attention recently is water quality issues. And water quality issues are a big deal. We give you some statistics, and I am not here to scare you. But the fact of the matter is there are 50 plus million chemicals that have been identified right now. The EPA in the United States regulates 90 of those. Every 2.6 seconds, there is a new evolution of a new chemical prototype that’s coming into being either through combination planned or not planned. Now, what’s interesting is it took 33 years for the first 30 million chemicals to be registered, the last 10 million chemicals to be registered occurred over nine months. So, we’re seeing a universe of chemicals out there that we’re going to have to deal with especially when it comes to water. Also in microbes, bacteria, viruses, protozoa, there is about 1,400 of those that have been identified that’s having an impact on drinking water. So, our universe of what we deal with is not just lead in plant or across the country, it’s dealing with how do we ensure an evolving sector, especially where chemicals with agriculture run off and chemical disposals into water waste and how do you take control of that and ensure that the water is safe.

So, those are the big challenges facing water in the country. So with that, if you can just advance to next slide, this is only other slide I have. So, what does that mean for American Water? So, if you are an investor in American Water or you’re looking at investing in American Water, what does this mean in terms of our company and how we’re positioned?

Little background, first of all, for those who aren’t familiar with the space. About 84% of all water in this country is provided by governmental institutes. It’s opposite in Europe. In Europe, it’s almost all privatized. But in the United States, about 84% of water is provided through governmental entities and 98% of waste water services are provided by governmental entities. That’s actually an opportunity for us as I’ll talk about in a minute. So, 98%, as I said of waste water is. So, when you look at that, the water IOU space in the country, the whole space is only about 28 billion market cap and we’re over half of that. So, we’re the largest water and waste water utility. The next in size is Aqua which is about 5.5, 5.6, and the others are very small, around 400 million to maybe 1.5 billion, something like that. So, you have a small universe.

Now, we take the responsibility of that very strongly, because unlike in the electric and gas we have FERC and federal economic regulation, the only really federal regulation we have is EPA. And that’s for water quality, which is fine. But there is not this aggregation like you have with EEI of people looking at dealing with the water supply issues that we have out there or all these issues I talked about. So, we have an R&D staff with about 20 scientists. We have a centralized engineering group along with our folks in all of our states that we serve our 16 regulated states. And we have a market-based business that touches about 40 of the states in the United States. And we take very seriously our role in finding answers to these problems.

So, let me talk about the investment thesis. So, the base of ours is the regulated business. And 4% to 6% of the 7% to 10% EPS growth guidance that we give is in the four areas, and the one I will talk about a little bit, I’ll talk about all of them, infrastructure replacement. We have in our plan to spend $6.4 billion in capital over the next five years from 2016 to 2020, about $5.5 billion of that is for the regulated assets and well over two thirds of that is for infrastructure replacement or asset renewal. So, we have a dedicated source. And in the majority of our states, we have a mechanism called the distribution system infrastructure charge that we don’t have to wait until a rate case to get approval to put that into the rate base. We can charge a surcharge during the year so that we have faster recovery of the capital dollars we spend which reduces regulatory lag.

Water supply solutions, I’ve mentioned that we’re doing all five. We have over 400 water treatment plants across the country; we serve the Northeast; we serve in some places in the South, the Mid West, all the way to California; we have a small wastewater in Hawaii. A water supply solutions we’re building a desalination facility on the Monterey peninsula in California in combination with the groundwater replenishment project where we’ll actually recycle and reuse water and that will then help the ag. We reached an agreement with six mayors on the peninsula, agricultural group, the environmental group; we basically have a signed agreement with 28 different parties in terms of supporting the Monterey water supply project as we’re reducing our withdrawal from the Carmel River back.

And also on water supply, we’re doing recycling and reuse. We at the Battery City Park, the Solaire Apartments, you must see those, and there’s a lot of greenery on the roofs. And we actually run that recycling, reuse for that partner complex and those commercial buildings through our market based business. Any Patriots fans in here? That’s going [indiscernible] New York. The Gillette Stadium, we actually -- that stadium in the Commercial Park, we run recycling and reuse facilities there at the Gillette Stadium also. So, that’s part of our market base outside the regulated. So, the whole water supply solutions is as important as well as infrastructure replacement.

Water quality assurance, this is the area of ensuring that the water is safe and clean. I will tell you that for companies like ours and any other water provider, if you don’t get this right, the rest of it doesn’t matter. We’ve got to make sure that what people ingest, what they put into their bodies is safe, and that is a big responsibility. So, we have a Central Lab in Illinois, we have labs in everyone of our plants, so we have a Central Lab in Illinois that not only tests our water as backup but also test some states. Some states have agreements with us, the actual states themselves to test their water for them. And we have a scientific staff of 20 PhDs and we’ve an engineering group; we’re doing a lot of work on water quality.

For example, while all of the press was about lead at Flint, I don’t know if you’re aware, but over the past three, four years, nine people died of Legionella in Flint. Legionella is on the rise. Most people remember it, in 1976, the course in Downtown Philadelphia, when the legionnaires were having their meeting there, and we’re seeing that it is continuing to be on the rise. So, we’re monitoring that, we’re following that. In the lead issue, our scientists who are working with other scientists were looking at things like -- we brought -- at dinner last night, we discussed the fact that we’re finding that partial lead replacement is maybe more dangerous than not replacing the pipe at all. So, if you can’t take it all that, what do you do? So, we’re exploring what are the different ways we can do to this and we’re -- we’re basically looking at our own plants and how we adapt those based on the latest scientific research.

One of the things we know about Flint, it’s not just the infrastructure, the fact of the matter is there’re lab service lines into customers’ homes all over the country without this problem, but you have corrosion inhibitors. And some people are saying that for a $100 a day in Flint, they say, he put a $100 of corrosion inhibitors a day into the system that they would not had the problem they have.

Now, I’ve mentioned that we’ve got a situation where more and more people are retiring that are experts in their field and utilities. These small to medium sized entities that basically provide water, what are they going to do with new people; will there be a lot of new people around; will they have the training as get more and more stringent water controls and water quality standards out there, a lot of those of those issues that we’re dealing with in the country today. And then O&M efficiency. This is a bright spot. We had a discussion with several investors in the past. And the thing is as we’re trying to put all this capital investment in the ground which is good and needed, how do you handle the increase in customer bills?

Well, we have a commitment to try to keep the impact on our customer bills at about the rate of inflation. We do not want rate shocks because as I told you, we have issues over several years or decades that we need to deal with. For us, it’s not one big project and then we’ll have relief. We have a need to deploy capital over a long period of time. How do we do that without impacting the customer bills or having rate shocks? So, what we’ve done is we’ve gone and we are doing everything we can to be as efficient in O&M to the point of actually our last several rate cases. We’re acting for less O&M dollars than the previous rate case years earlier.

And why is that important? So, with our average rate base, we have calculated an American water, for every dollar of O&M we can save, we can put $6 of capital in the ground without impacting the customer bills and oh, by the way, understanding utility rate making in this country, also if you’re not getting the dollar and revenue requirements for O&M which is basically a pass-through, you’re basically investing it or half of it if you have 50% equity for example, you get a return for shareholders. It’s actually better for shareholders and better for customers. So, we have a focus on doing our business more efficiently.

In New Jersey, it’s a great example. Last year, we had a rate case that was resolved. We have spent $775 million in three and a half years since our previous rate case for investment. We went in and asked for $90 million less in O&M than we had three and a half years earlier, making our business more efficient, finding ways we’re doing a lot of energy savings, chemical savings, those type of things, and that means that we’re able to put a $125 million of capital investment in the ground without impacting customer bills, overall. Regulators like that; customers like that; and it’s good for our shareholders. So, we think that’s a win-win. And while there’s a lot of low hanging fruit that’s gone, we think technology and automation will be the way going forward that we’ll be able to continue to be efficient and find ways to offset those capital costs. So, that’s the foundation. 4% to 6% of the 7% to 10% is in regulated investments. The 1% to 2% above that -- and by the way regulated acquisitions of 1% to 2% means that we add 30,000 to 60,000 new customers a year from acquisitions.

So, this is one of the growing areas, distressed systems. There are 52,000 governmental entities providing water in this country today and 17,000 providing wastewater. Over 95% of those serve 3,000 or less customers. It’s not the big cities that we worry about; it’s not the New Yorks or the DCs or Philadelphias or the San Franciscos or Las; they are big water systems that have a lot of resources. It’s the towns of 5,000, 15,000, 30,000, 50,000 that may not have the resources to keep up with what has to be done. They also many times have unfunded pension liabilities, they have schools that need to be built, roads that need to be built. So typically -- and also the EPA, a lot of them have consent decrees which mean violations of EPA standards. Some of them have those consent decrees that are over 10 years old and require tens if not hundreds of millions of dollars of investments. If they do, they’re going to have to increase their water bills or sewer bills that sometimes 30%, 50%, 70%. So they’re coming out saying maybe I should sell my assets, get money upfront, turn it over to utilities who can socialize it over the rate base in their states. And that is the compelling story behind why municipal systems want to sell their systems to companies like American Water.

This year already, we reported on our second quarter earnings call that we have closed on 7,600 new connections. We have pending about an over 40,000 more for this year that we should close on. And so, we will definitely be on the high side of the 30,000 to 60,000 of those pending close this year that we’ve already got signed agreements. What’s that pending? Agreements done, we’ve won RFPs, signed agreements, we’re waiting for regulatory approval is what pending means.

So, this area in addition to distressed system, wastewater; remember I said 98% of the systems are governmental owned. That’s also actually where the big dollars are. Believe it or not, the bigger investment for capital is in the wastewater because it’s underground, people don’t like to talk about it and a lot of those systems are 50 to 60 years old. They’re not in EPA; they’re not meeting the EPA guideline. So, they need -- some of them now are given a short period of time to do an investment and they don’t have the money for it. So, we’re really focusing on waste water.

In the last three years, two thirds of our acquisitions have been in wastewater. And we have 3.3 million connected regulated customers, only 180,000 in wastewater. So, we’re already in all these communities where we serve water. So, the ability to buy the wastewater system and roll it in and get the efficiencies have already been present there are really good for us and we can be more compelling and offer a better price, which gets the fair value. One thing that we have in water, which we don’t have in other places because of these distress systems, six of our seven biggest states of the 16 [ph] have passed fair value legislation for distressed water systems. What that says is most utilities you look at the depreciated value, the book value, you need to think above that considered premium and you get into how much of that premium you can keep, or how much of it you have to give away and that you have to act [ph] in terms of public utility commissioners. For distressed water system, fair value says rather than paying a book value or depreciated value, we get to get appraisals and we pay the market value. So, any premium is above a market value not a book value. That is a huge deal with municipal assets that may have a book value that is one tenth to a third of what the actual market value of the assets are. So that’s a big deal. We’ve got that recently in about -- well, actually five of our states in the past two to three years. Illinois was the first state to do this by the way. But it is a big-big benefit in terms of acquiring municipal systems.

And in single paragraph, in those states where we buy system, we can roll it into the larger systems; they’re looking at maybe 1% increase instead of 30% for mandated capital improvements. So, it’s a really big sales ability for us and a competitive advantage for American Water because we have more people in states, more connections and a wider base to spread it over we can actually be a better competitive choice. And all of these systems are required -- most of them are required to do a request for proposal and have a competitive speed. Our sweet spot is aiming at 5,000 to 30,000.

And so, then the third area -- so that’s our regulated; so our regulated investment thesis is 5% to 8% from the regulated business. And as I talked about market base, one thing to keep in mind from a risk profile, we are about 90% -- 89% of our net income from regulated. We’ve said that it’ll not go above 15% to 20% non-regulated, because we’re at our core in regulated business. We’re interested in water and wastewater and water issues; we’re not interested in going outside of our area of expertise. And we believe our core competencies are water and wastewater, the whole one water cycle and regulatory relationships. So, we think that’s our strength and that’s the area we believe we have the best area to grow in.

And then you look those, the market base, they’re very related to our base business. Military services: We actually run the water and wastewater on 12 medium to large military bases across the United States. Those are competitively bid, but after their competitively bid, we have 50-year O&M contracts. And any capital projects needed on those bases during that time, we have ability to do. And capital projects use our actual capital, it’s working capital, because the way the department that’s in prefers to actually own the assets and pay for them themselves. But those are very regulated like. Once you win them, you got 50 years contract. So, you also can go in every two to three years, and if there’s inflation increases, new environmental laws, etc., you can actually change your O&M contract. So, you’re not bound with the initial contract if there’re changes in law or changes inflation.

The second area is homeowner services. Here in New York for example, we have about 1.7 million contracts, about 800,000 customers. It started in our regulated business because people do realize if there is sewer line, basically had a break between the road and the house, it is their responsibility to pay for. And so, we started homeowner services as a way to better satisfy our regulated customers with the market based business. To this end, we’ve partnered with some cities to be the exclusive provider on deal, including New York all five boroughs. We have in the five boroughs of New York, a 30% take rate on our homeowner services warranties for water silver line. And overall, in our regulated areas, it’s anywhere from 15% to 22%, about 40% take rate. So, that’s a good business, very affiliated associated with what we do.

And the third order of business is contract services. We actually run systems for 41 municipalities across the country including for Seattle. We actually run the water treatment plant that serves about a third of the citizens of Seattle. We run the desalination facility in Tampa, Florida, where we’ve built the expertise and the person who is there for 10 years, we moved out to California to be head of the project of the desal plant we’re building, so that we have people out there who know exactly what we’re doing. And so, this area also has about 11 industrial customers, PepsiCo, Frito Lay who we provide water services. It’s a good strategic arm that helps us build recycling capabilities, the whole Gillette Stadium thing I mentioned, the Battery Park, complex that I mentioned. So, this is a good area for us that gives us expertise and helps us get known and also many times when we go in and run systems for cities, they may decide later to sell it and they know within there’s a comfort level with us.

So, that’s what that business is, all very affiliated. And the last thing I’ll talk about is our Keystone, last July, July 15th, we bought a water services company that provides services to the Utica and Marcellus, predominantly natural gas drilling in Pennsylvania, West Virginia and Ohio. It is a water services organization, it also -- we have Pennsylvania American Water. We were already providing raw water. It’s very important for us to make sure that the water supplies are very clean and sustainable. So, part of this is providing water supply that people can rely on; and our goal, 100% recycling of all this water. When we bought the company, we said we will not allow any participation in injecting the waste in of the wells. We don’t think in any of the deep wells that you hear about that are being -- a lot of discussion, does it called earthquakes, does it not, I’m not here to comment on that; I’m not a geologist, so I can’t say that, but I will tell you that for us, it’s that we don’t do that, we’re providing services for recycling. So, this is the investment thesis for American Water that’s driven specifically off all of those water challenges I mentioned. So, hopefully however much you know about the water industry, utilities or if you are a general utility investor, this will help look at similarities, the differences and the future and why we think the water industry is a pretty exciting place to be right now.

Daniel Ford

Thank you, Susan.

We have time for a couple of questions. We have some microphones in the room for anybody.

Question-and-Answer Session

Q - Unidentified Analyst

Hi Susan. I remember you from Southern Company back then. But you give a good presentation, good differentiation and good similarities but one of the areas where I find to be rather difference is the high PE ratio of your company versus utilities. How do you justify higher PE ratio.

Susan Story

When you think about PE ratio -- this is not a [ph] business. Well, first of all, one of the things I talked about was in terms of the differences in the utility sector, the differences in risk profile specifically on capital deployment. And one of the things is when you look at the need to invest capital, and as we do our EPS guidance, you’re looking at years if not decades of investments that we need that should be very smooth, should be very low risk, it’s multiple projects, that there’s problems with some projects we’re able to pull others forward. So, you have a very different capital deployment cycle.

The second thing that’s really important is that from a water quality standpoint, it’s one thing to say you don’t have a regulator or someone to say we don’t want you to build, we don’t want you to do. When it deals with a health issue like water, if we make a good case which we should, that should be our goal, people need safe water and clean water, they’re not going to risk water just like they’re not going to risk concern over a natural gas pipe that might explode. There is a real health safety issue around this. So, I think that’s the second issue.

The third issue is when you look at American Water, we have because of the 16 states regulated, we have a tremendous amount of diversity that helps us in terms of regulatory -- reducing regulatory risk and reducing weather risk. So, from a regulatory risk standpoint, if we had issues in one or two states, it’s not as difficult for us potentially as it is for someone who is basically isolated into one, two, three or four states. So that’s another issue that significantly reduces our risk. And I think the third thing is that -- we’ve been around for a 130 years, this is the 130th birthday of American Water and we’re so embedded in the communities. We have a very matrix business model where we have presidents in every state. We know those states. A lot of the acquisitions we do, not the large ones which tend to be very competitive but a lot of the acquisitions we do under about 2,000, people come to us and say would you help us out or public utility commissions come to us and say we’re still a lot better if you took this over.

The other thing I would say is that’s a little bit of a differentiator, we actually are very supportive of increased regulation. We partner with EPA. One thing I’ll give you a specific example. Before the Flint crisis hit the papers in January, there was a working group for two years on the lead and copper rule that had been working about what we need to do to make the lead and copper rule more stringent. Now, at Flint, if they just met the regulations they wouldn’t be in that situation. So, it’s not that the rules aren’t stringent enough. But, our director -- one of our directors in environmental was on that working group. And we actually supported the new rule or the new recommendations, it’s not a rule yet that came out saying we need to be more stringent; we need to find a way over years to replace all lead. So, we actually are on the side of increasing regulations, which is good for us because of our position as a leader on research and policy. Last year, our water quality of our drinking water was 13 times better than the national average. So, all of those things are a little bit a depreciator from the standard generic utility constructs.

Unidentified Analyst

Hi. I am looking at a table called incremental revenue requirements from your presentation you referred to about your efficiency increases. I mean, it’s very impressive how you’ve been able to really shrink to a negative or actually a benefit to customers, your efficiency -- your incremental efficiencies, going to negative 25% in ‘14, negative 17% this year. Do you see much more room to really get more efficient; is most of it coming from more recently acquired municipal water systems? And to what extent does technology such as intelligent grid implementation and so on? Is that part of that, or is that more maybe a revenue opportunity?

Susan Story

Great question. Before I direct my answer to that, the fact is that when we look at that that also included -- even more impressive when you realize that is absorbing labor increases and absorbing increased depreciation because of the increased capital that we’re deploying. In the past, it was more of the simple key -- some volume procurement. We’re getting a mindset with our employees about how can I do the business. We’re communicating with every employee out there. For every dollar going in and you say, you can put $6 on ground and our employees deal very strongly. They live in the communities with people and they tend to pay the water bill. So, they want to help do that. But I really think the bigger efficiency gains as you said are going to basically automation technology.

The water sector is far behind the electricity sector on intelligent grids. We are now the accolade of basically looking at things like the state of water treatment devices, we’re looking at dynamic pressure ratings, we’re looking flow monitors, we’re looking at AMI meters in water and we’re looking at connecting all of those. Now, think about this, every time we spot a crack before it goes into a main break, we save 10 times O&M money, a fix in that break. The ability to use acoustic monitoring which we’re currently doing to spot breaks before they fail saves us 10 times as much.

Energy, we have reduced our carbon footprint 26% since 2007. We actually joined the cap, the carbon cap group, and we reached our 2017 goal in 2014 to reduce by 25% our carbon footprint. We reduced our energy cost. We have 4 megawatts of solar installed at our water treatment plant. We have -- in the PJM territory we have pricing based on the time of the day. So we see increased cost savings in chemicals and power which is two of our top three costs with labor.

With the automation ability to be able -- and actually, there is one thing, automation helps us with efficiency but it also is going to help us with workforce planning. There aren’t enough people out there to take the jobs of all the utilities that need to replace retiring people. And we’re going to have to use technology along with training and education initiatives to get that workforce available. So, I think technology and automation is going to be key. We just hired a new Chief Technology and Innovation Officer at American Water. He worked at Florida Power & Light for many years with part of their AMI deployment. He has worked for private capital, private equity, he’s tremendous. His name is Radha Swaminathan and he is doing things for us in terms of customer facing technology that every employee in our company is very excited about.

Daniel Ford

With that, I think we’re out of time but we do have a breakout session in Liberty 5. And so, I’ll be thanking Susan right up. Thank you very much Susan.

Susan Story

Thank you.

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