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

Executives

Dennis Barber – Investor Relations

Edward Muller - Chairman and Chief Executive Officer

J. William Holden III – Chief Financial Officer

Robert Gaudette – Chief Commercial Officer

Gary Garcia – Treasurer

Analysts

Brandon Blossman – Tudor, Pickering, Holt & Co.

Ameet Thakkar – Bank of America/Merrill Lynch

Keith Stanley – Deutsche Bank

Steven Burd – Morgan Stanley

Ali Agha – SunTrust Robinson Humphrey

Robert Howard – Prospector Partners

Brian Chin – Citigroup

Greg Orrill - Barclays Capital

Mark Barnett - Morningstar

Julian Horn-Smith – UBS

Brian Russo - Ladenburg Thalmann

Paul Patterson - Glenrock Associates

Brian Taddeo - Gleacher & Company

GenOn Energy, Inc. (GEN) 1Q 2012 Earnings Call May 10, 2012 9:00 AM ET

Operator

Greetings. Welcome to the GenOn Energy first quarter 2012 earnings conference call. (Operator instructions) It's now my pleasure to introduce your host, Dennis Barber with GenOn Energy. Thank you, sir.

Dennis Barber

Thank you, Dan, and good morning everyone. Thank you for participating in GenOn's conference call. Leading the call this morning are Ed Muller, our Chairman and CEO and Bill Holden, our Chief Financial Officer. Following our prepared remarks, we will have a question and answer session. Also in the room and available to answer questions are Rob Gaudette, our Chief Commercial Officer and Gary Garcia, the Treasurer. The earnings release as well as the slide presentation we're using today is available on our website at www.GenOn.com in the in the investor relations section. A replay of the call will also be available on the website approximately two hours after the call.

Turning to Slide 2, any projections or forward-looking statements made today are based on our current expectations, and are subject to the Safe Harbors contained in this slide. Actual results may differ materially from our projections or forward looking statements as a result of many factors, including those described in this slide and in our SEC filings. We're also using several non-GAAP measures to provide additional insight into operating results and guidance, and reconciliations of the non-GAAP measures to GAAP figures are also available on the website. I'll now turn the call over to Ed.

Edward Muller

Thanks, Dennis. And good morning everyone. I'll start on Slide 4, and address some highlights of how our operations are doing. There are things that affect our business that are largely out of our control, like the economy, weather, natural gas prices. There are other things that are squarely under our control, like operations, and I am pleased to report that we are operating well.

First, the construction of Marsh Landing in Northern California continues to remain on schedule to be completed by mid-2013, and the project remains on budget. During more than a year of construction, and with about 500 construction workers currently on the site, we have not had a single OSHA-reportable safety incident.

Second, our existing fleet is running well. One metric that we use to judge our performance is Total Margin Capture Factor. This is a measure of the percentage that we earned of the gross margin that we could have earned. We achieved a TMCF of 93% in the first quarter, which is very good.

Another metric that we use to judge ourselves is our safety performance. We operate large pieces of equipment with lots of moving parts and lots of heat. In the first quarter, our safety performance was very good. We did not have a single OSHA lost time incident. We had six OSHA reportable incidents. Note that I didn't say "only six," though as a matter of industry statistics, "only" would be appropriate. I didn't say "only" because each of those six incidents involved an injury to an employee of GenOn, and no injury is acceptable.

A third metric we use to judge ourselves is our environmental performance. In the first quarter, our environmental performance was very good. We had four environmental incidents. Note again that I didn't say "only four," though again, as a matter of industry statistics, "only" would be very appropriate. I didn't say "only" because no environmental incident is acceptable.

Turning to Slide 5, we've laid out our updated guidance for adjusted EBITDA for 2012 and 2013. As you can see, we've increased our guidance slightly for both years. Bill Holden will provide more of the details shortly.

Turning to Slide 6, we show our hedges as of April 9th, both for the fleet, and for our baseload coal. For our baseload coal, we're fully hedged for this year, heavily hedged for next year, and less hedged, but nevertheless somewhat hedged, from 2014 through 2016. You should expect us to continue to maintain that general profile.

On Slide 7, we lay out statistics on our operational performance through the first quarter. As I said a few minutes ago, our safety and environmental performance in the first quarter were very good. In fact, both were in the top decile for our industry.

On Slide 8, we lay out the deactivation of PJM that we announced last quarter. We do not expect the deactivations or dates to change, except for unit four at Elrama and unit one at Niles. At the request of PJM, we'll operate those two units under RMR arrangements from June 1st, 2012, to October 1st, 2012.

Turning to Slide 9, we continue to expect higher earnings from price increases resulting from industry retirement, which will more than offset reduced earnings from GenOn unit deactivations. A good example of why we expect those higher earnings is shown by what will be happening to the reserve margin in PJM as a result of the retirements resulting from MAPS and other environmental rules.

PJM is forecasting that instead of a high reserve margin in 2015 of 25%, the reserve margin will come down to 16%. Reducing the reserve margin means less supply to meet demand. Reducing supply, inexorably, means higher prices. That is good news for a supplier like GenOn.

With that, I'll turn things over to Bill Holden to walk you through the numbers.

J. William Holden III

Thanks, Ed, and good morning. Starting on 5/11, adjusted EBITDA for the quarter was $101 million, a decrease of $104 million from Q1 last year. Adjusted EBITDA was down principally because of lower adjusted energy gross margins and lower contracted and capacity revenue, partially offset by higher realized value of hedges.

The $147 million reduction in energy gross margins for the quarter reflect lower energy gross margins from generations, principally in PJM, and a lower contribution from energy market.

The $57 million reduction in contracted and capacity revenue for the quarter principally resulted from lower capacity revenues in PJM. The $16 million lower adjusted operating and other expenses for the quarter resulted primarily from merger-related cost savings.

Slide 12 summarizes debt and liquidity for GenOn at March 31st, 2012. Total debt outstanding was approximately $4.2 billion. Total cash and cash equivalence was just over $1.7 billion, with just under $1.6 billion held at GenOn or its subsidiaries other than GenOn Mid-Atlantic REMA.

Including availability and other revolving credit facilities total, available liquidity was just over $2.2 billion, and funds on deposit at March 31st were just under $600 million.

Slide 13 provides details around our updated guidance for 2012 and 2013. First, as noted on the slide, our guidance is based on forward commodity prices as of April 9th, 2012. As Ed described we are raising our adjusted EBITDA guidance slightly, to $446 million for 2012, and to $669 million for 2013. I'll provide additional detail on adjusted gross margins, and a comparison to our prior guidance for 2012 and 2013, on the next few slides.

Starting with adjusted EBITDA, and deducting cash interest paid and income taxes paid, and adjusting for working capital and other changes in cash, arrived at adjusted net cash used in operating activities of $113 million expected for 2012, and adjusted net cash provided by operating activities of $280 million projected for 2013.

Deducting projected capital expenditures to be paid from cash for each year arrives at adjusted free cash flow deficits of $312 million projected for 2012, and $14 million for 2013. As noted on the slide, capital expenditure to be paid from cash exclude the amounts for Marsh Landing that will be funded by project Finance Debt, and the remaining Maryland Healthy Air Act capital expenditures that will be paid from funds on deposit.

Adjusting for the Marsh Landing working capital and equity contributions and payment of merger-related costs results in adjusted free cash flow deficits, excluding these items, of $333 million projected for 2012, and $82 million projected for 2013.

Finally, hedge gross margin, which includes energy gross margin that is hedged, plus contracted and capacity revenues for which prices have been set is approximately $1.38 billion in 2012, or about 88% of 2012 adjusted gross margins and $1.4 billion in 2013, or about 79% of projected 2013 adjusted gross margins.

Deducting the full year forecast for adjusted operating and other expenses arrived at hedge-adjusted EBITDA of $266 million for 2012 and $294 million for 2013.

Turning to Slide 14, this slide presents the components of adjusted gross margin that are contained in our guidance for 2012 and 2013. Contracted and capacity, the lower bar, comprises a little over half of our projected gross margin for 2012 and 2013.

Prices have already been set for over 95% of these amounts in both years. The increase of $151 million from 2012 to 2013 is driven primarily by higher RPM auction prices in 2013. The increase of $196 million in Energy from 2012 to 2013 results from higher market prices and higher generation. And finally the decrease of $129 million in realized value and hedges from 2012 to 2013 is driven principally by a lower hedge percentage of our expected generation in 2013 as compared to 2012, partially offset by higher hedge margins.

Slide 15 reconciles our previous adjusted EBITDA guidance to our updated guidance. Our updated 2012 guidance is $6 million higher than our previous suggested EBITDA guidance for 2012. This increase reflects an increase in the projected realized value hedges and lower than expected operating and other expenses. These items were partially offset by lower energy gross margin related to market pricing generation changes and a lower than expected contribution from energy markets.

Our updated guidance for 2012 is $4 million higher than our previous suggested EBITDA guidance. This increase is primarily driven by $53 million increase related to market price and generation changes, reflecting power and natural gas prices, which was largely offset by the increase in realized value hedges.

Turning to Slide 16, this slide shows sensitivity throughout our guidance. The guidance for both years is based on commodity prices at April 9th, 2012. The NYMEX natural gas price and the Market Implied Heat Rates are for the period of May through December. At $1 per million Btu move in the price of natural gas for the balance of 2012 is estimated to result in a $47 million change in adjusted EBITDA for 2012, while a change of 500 Btu per kilowatt hour and Market Implied Heat Rates for the balance of the year is estimated to result in a $12 million change in adjusted EBITDA for 2012.

For 2013, a $1 per million BTU move in the price of natural gas is estimated to result in a $151 million change in adjusted EBITDA, while a change of 500 BTUs per kilowatt hour in marketed by heat rates is estimated to result in a $47 million change in adjusted EBITDA for 2013.

Notice that the natural gas sensitivities assume Market Implied Heat Rates and generation volumes are held constant, while the Market Implied Heat Rate sensitivities assume fuel price and generation volumes are held constant. Sensitivities are greater in 2013 because we are less hedged in 2013 than in 2012.

Turning to Slide 17, this slide presents a breakdown of our projected capital expenditures for 2012 and 2013. We expect our normalized maintenance capital expenditures to drop from approximately $115M per year to approximately $110M per year after the plant deactivations planned for 2012 through 2015.

Total projected cost for compliance with the Maryland Healthy Air Act remains at $1.674 billion, the remaining $83 million is expected to be paid this year. As I noted earlier, the funds for satisfying the remaining payment are held as restricted cash at GenOn Mid-Atlantic, and have been moved from Cash and Cash Equivalents to Funds on Deposit on the Balance Sheet.

Other environmental expenditures are estimated at $64 million this year and $124 million for 2013. These expenditures principally relate to environmental projects at Kanema, Kendall, Sayreville and Warner.

Construction expenditures include the estimated amount for the construction of our Marsh Landing generating facility, which will commence operations in mid-2013. Other construction expenditures are primarily related to the completion of the (inaudible) project in our Morgantown plant. And with that, I'll turn the call back over to Ed, and he'll wrap up and open the call for your questions, Ed.

Edward Muller

Thanks, Bill I'll turn to slide 18 to sum up. As we announced in February, as the result of MAPS and other environmental regulations, we expect to deactivate 3,140 megawatts of generating capacity because our forecasted returns on investment necessary to comply with the regulations are insufficient.

For units that we will not be deactivating, we expect in accordance with those investment criteria, to invest between approximately $611 million and $750 million over the next ten years for major environmental controls. That range is slightly higher than the range we gave last quarter. The current range reflects further refinements of our forecasts for the controls.

Overall, we continue to expect higher earnings from price increases resulting from industry retirements will more than offset reduced earnings from GenOn unit deactivations. Now, Dan, we're ready to take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Brandon Blossman of Tudor Pickering Holt. Caller, please proceed with your question.

Brandon Blossman – Tudor, Pickering, Holt & Co.

Good morning, guys.

Edward Muller

Good morning, Brandon, how are you?

Brandon Blossman – Tudor, Pickering, Holt & Co.

I'm good, how are you?

Edward Muller

Fine.

Brandon Blossman – Tudor, Pickering, Holt & Co.

Well, not a whole lot of new news this quarter. I think that's as neutral of a press release as possible, so that's actually probably good news in the current circumstances. A question around Q1 baseload output and hedging, really: was Q1 the total output on the coal fire generation? Was that about what you were expecting, or lower?

Edward Muller

Rob, do you want to take that?

Rob Gaudette

Brandon, when we look at our expectations, we run a market-based simulation, so back when we did our last guidance we were already seeing the compressed dark spread. Our estimates already account for lower gas prices. If you recall, last quarter's weather was record-type warm, so we saw a little bit more of a reduced run on our coal units, but nothing that the markets weren't really telling us to begin with. Does that answer your question?

Brandon Blossman – Tudor, Pickering, Holt & Co.

It does, and I guess just a couple follow-ons: one, were you out buying back hedges, or were you essentially buying power to cover hedges and not generating, or were you truly hedged at the level that you generated at?

Ed Muller

Brandon, we're happy to disclose, as we do, our aggregate level of hedges, but our actual hedging activity, when we're in and out in the market, we're not going to disclose for competitive reasons.

Brandon Blossman – Tudor, Pickering, Holt & Co.

Fair enough, Ed. I guess the takeaway here is that the hedges were working quite well, you came in pretty much exactly where you expected to, and no reason to not expect that in the future.

Ed Muller

I think that is very much the point, and that has been consistently our approach; we hedge regularly, the profile remains the same, and I think we do it very well.

Brandon Blossman – Tudor, Pickering, Holt & Co.

Thanks. Thanks, guys. Thanks, Rob.

Rob Gaudette

Thank you.

Operator

Our next question comes from Ameet Thakkar of Bank of America/Merrill Lynch. Caller, please proceed with your question.

Ameet Thakkar - Bank of America/Merrill Lynch

Hi, guys.

Edward Muller

Good morning.

Ameet Thakkar - Bank of America/Merrill Lynch

I guess just a quick follow-up question that I guess Brandon's questions before on the run-times for your coal assets. Could you actually tell us what the capacity factors were for the first quarter in 2012 for your PJM West and PJM East coal units?

Edward Muller

Hang on a second. Let us ponder for a minute.

J. William Holden III

Sorry about that. I've found it. If you look overall, think about our coal plants in two buckets. When you look at last quarter, we had some coal plants where capacity factors were down in the 30 percentile range, or even lower, where market forces were keeping these units off consistently. But then you have in the second bucket units that you expect to run more and be more proficient in even these tough times. Units like a Morgan Town unit, or Keystone, or Econoline, and those capacity factors were in the 50 to 70 range, depending on the unit.

At the end of the day, when you think about capacity factors and additions of price, overall natural gas prices, it's also locational. If you think about it, a unit that is extremely important for a particular part of the grid is going to have a capacity factor higher than others regardless of the price signals that we may see through the quarter. Does that help?

Ameet Thakkar - Bank of America/Merrill Lynch

Okay. I mean to the extent you had the units that were running at I guess 30% or lower for a capacity factor, I was wondering if you could provide us any color on where your coal inventory situation lies right now and do you anticipate or have you engaged in any sort of forced burns.

Edward Muller

As you would expect, we have large coal inventories, but we have not engaged in any forced burns.

Ameet Thakkar - Bank of America/Merrill Lynch

Okay.

Edward Muller

Nor do we anticipate any.

Ameet Thakkar - Bank of America/Merrill Lynch

Just finally, one last question, it looks like your projected volumes for 2013 are up a couple of terawatt hours, but you gross margin in your updated 2013 guidance was only up $7 million. I was wondering if you could kind of help us understand why it wasn't up more given a pretty decent uptick in the projected volumes you were showing here?

J. William Holden III

In my adjusted gross margin, I assume you are referring to the total adjusted gross margin, which is net of the value of the hedges.

Ameet Thakkar - Bank of America/Merrill Lynch

Yes.

J. William Holden III

One of the dynamics we're seeing is as we've seen lower run times in 2012, we're deferring coal burns to 2013. As you'll recall, much of the coal that we have under contract is at prices that are above current markets. As we defer those coal burns into 2013 that is having a corresponding negative effect on the realized value of hedges in '13.

Ameet Thakkar - Bank of America/Merrill Lynch

Okay. But that's not really the effect of any sorts of penalties that you're incurring from deferring those tons, is it?

J. William Holden III

It's just the timing of the burn . . .

Ameet Thakkar - Bank of America/Merrill Lynch

OK. I got you. That makes sense. Thank you very much.

Operator

Our next question comes from Keith Stanley of Deutsche Bank. Caller, please proceed with your question.

Keith Stanley - Deutsche Bank

Can you provide any comments on any conversations you may have had with PJM about the Avon Lake plant specifically and potential reliability impacts of retiring that facility seem like deactivation of the plant is still scheduled on time in April 2015. Secondly, is it your understanding that PJM assumed Avon Lake is deactivated on time in April 2015 in their updated planning parameters for the auction?

Edward Muller

Well, a couple of things; first, we are not going to comment on what PJM assumes. That is for PJM to do. You are correct in your assumption that we expect the deactivation date for Avon Lake to be as we indicated last quarter and that is in April of 2015. I think there is not much that I can add beyond that.

Keith Stanley - Deutsche Bank

I guess transmission upgrades and other things they are working on are expected to address the situation as it relates to that plant?

Edward Muller

Again, PJM has the oversight for the entire system. We know what we know about our plants and obviously we are a participant in the market but I think your questions really are more appropriately put to PJM than to us.

Keith Stanley - Deutsche Bank

Okay, one follow-up; how should we think about the 2014 notes at this point based on your current financial outlook and environmental CapEx expectations? Should we assume that you use cash on hand to repay that debt?

J. William Holden III

Yes, our planning assumption is that we are going to refinance those notes and so that is what we are expecting to do.

Keith Stanley - Deutsche Bank

Okay, thank you.

Operator

Our next question comes from Steven Burd of Morgan Stanley. Caller, please proceed with your question.

Steven Burd - Morgan Stanley

Asked and answered. Thanks very much.

Operator

Our next question comes from Ali Agha of SunTrust. Caller, please proceed with your question.

Ali Agha - SunTrust Robinson Humphrey

Thank you, good morning.

Edward Muller

Good morning Ali.

Ali Agha - SunTrust Robinson Humphrey

Good morning. Ed, going back to the comments you have made a few times regarding your retirement that you expect that pricing should be better and offset the impact from retirements, related to that should we assume that that implies to capacity pricing as well when you are making that comment and can you remind us, as I look at the numbers, is there a big difference between your fleet post-retirement today versus the fleet capacity that was cleared in last year's PJM capacity auction? It appears to me there is not that big of a difference between the cleared capacity and what is going to be non-retired going forward. Am I correct in that thinking?

Edward Muller

Well, let me take it two pieces Ali; first, your assumption that the price increases include capacity price increases as we look forward is correct. That is a significant component of what we foresee, so yes.

As to what we cleared, in any auction, we don't say what we cleared, and haven't, and won't. Among other reasons for competitive reasons. We are active in the market after each auction. It's not material or information that we've disclosed and we're not going to disclose it.

Ali Agha - SunTrust Robinson Humphrey

Fair enough, but I guess just clarifying that point then. Fair to say that overall you're looking at the implication, not just of your retirements, but all retirements, etc. Overall, you should be better off looking forward from a revenue or margin perspective, even factoring in your retirements than you would be without that.

Edward Muller

That is correct. The fact that we're looking at of course is our gross margin, our adjusted EBITDA. Revenue is nice . . .

Ali Agha - SunTrust Robinson Humphrey

Yes.

Edward Muller

. . . but volume is vanity and profit is pride.

Ali Agha - SunTrust Robinson Humphrey

Well said. Also, the contract and capacity bucket that you have, and you show us in your appendix for 2013 and 14, I think it's Slide 22. Is that bucket pretty much complete for 13 and 14? Or are there other contracts that could add to that as well?

Edward Muller

Bill?

J. William Holden III

For 2013 you can look at the difference between what we show on Slide 14 for contracted and capacity, and what we show on Slide 22. You can see that virtually all of the contract capacity in 13 is already in the fixed category. We haven't given guidance beyond that, so I wouldn't want to comment on '14.

Ali Agha - SunTrust Robinson Humphrey

Then Ed, coming back to you, as you're looking at the strategic landscape out there and you look at, and we've talked in the past about value creation from synergies, etc. There are a fair amount of utilities out there which have pretty large merchant assets as well. So in terms of value creation, does it make sense for GenOn to be looking at that merchant capacity that may be embedded in utility portfolios? Or in your mind value creation is primarily coming from merchant to merchant kind of combinations?

Edward Muller

I think this, Ali, I don't want to, and won't address any specific example, but I think the basic concept of value creation through combining merchant fleets is very much the case. We have proven it and demonstrated it by the creation of GenOn where we took two merchant companies, very similar portfolios, and combined them and said we would take out savings. Initially, we said $150 million and we ultimately took out $160 million and we did it frankly without a hitch.

It's a lot of work. I worry that we made it look easy. It's not easy, but it can be done, and we did it, and I think that concept can occur again and create the same kind of value. So if you take 160 million and put whatever multiple you think is appropriate on it and we save that money every year forever, it'd be a multiple of 7 or 8. You can see a big wad of value way in excess of a billion dollars was created, and I think that can be created by any combination of merchant companies, however they are owned.

Ali Agha - SunTrust Robinson Humphrey

OK. And last question. Do you feel that your thinking in that matter is shared by folks in the industry?

Edward Muller

Well, again, I don't want to be speaking for others, but I think it is fair to say that no one would say that they are shocked by that concept. I think in general people understand that, yes.

Ali Agha - SunTrust Robinson Humphrey

Thank you.

Operator

Our next question comes from Robert Howard of Prospector Partners. Caller, please proceed with your question.

Robert Howard - Prospector Partners

Good morning.

Edward Muller

Good morning, Rob.

Robert Howard - Prospector Partners

Hi. I wanted to ask one thing. Have you had any thoughts on the whole coal to gas switching situation out there? Is it really maxed out? Could more happen? If, God forbid, gas went to one dollar, would that make even more or are there too many constraints in PJM to keep things from happening? Just thoughts on your feel for what's happening in that area.

Edward Muller

Well, I don't think we can give you a specific of could there more and what happens at particular gas prices. I think, though, your question addressed what is an important factor, and that is location of assets and what's overall available in the marketplace. We are, even with what has occurred, north of 40% of the electricity being generated in this country is still coming from coal fire generation, and you can't just eliminate all that and think that there's enough other generating capacity out in the system to run it, gas or otherwise. So there are natural constraints, and you'll recall earlier Rob Gaudette talked about how some of the coal units operated because they were needed for reliability in the system, regardless of what the prices were.

Robert Howard - Prospector Partners

And just looking in the appendix and showing Slide 24, just the significant increase in generation from your intermediate peaking plants in Eastern PJM, can we look at that and essentially say, hey, that's an example of coal to gas switching taking place?

Edward Muller

It is. That's correct.

Robert Howard - Prospector Partners

And when you guys talked about the difference in generation volumes, I guess you were talking about contracting (inaudible) spreads and that being a big factor. But do you have any thoughts on the weather? If we'd had more of a normal, even a real winter, how might that have impacted things? I guess it would be better, but is there any kind of more color you could give to that?

Edward Muller

Well, I can't give you a number on it. I think you have these basic concepts. If we had, had a more normal, or even better, a frigidly cold winter, more gas would have been consumed for heating, for example, and would tend to have caused gas prices to be higher. That's better. And if it were colder in general, electricity demand would be up, so that would be better. Now putting numbers to it is more than we're going to do right now, but there's no question that a cold winter would have improved things on a variety of fronts.

Robert Howard - Prospector Partners

Then on slide 16, the 2013 sensitivity to natural gas, looking back at the slides from your last call, and it went from 137 last quarter to 151. I'm just wondering if there's anything in particular driving the change there?

Edward Muller

I missed part of the question. Bill, did you get it?

J. William Holden III

. . . the higher sensitivity for '13? Is that what the question is, that the 100 . . .

Robert Howard - Prospector Partners

Yeah, exactly. Yeah, it went from 137 last quarter and now this quarter you're showing 151 for natural gas.

J. William Holden III

Yeah. I think, Rob, that has to do with the fact that the heat rates have expanded, that the sensitivity basically increases a little bit because of that.

Robert Gaudette

That's correct.

Robert Howard - Prospector Partners

OK. And then lastly, Slide 17, just the maintenance CapEx estimate went up in 2013 from 128, I think, to 142. Is anything happening?

Robert Gaudette

Yeah, that has to do with some (inaudible) payments that we have that just shifted from one year to the next. They shifted a little bit from '12 to '13 based upon our run times.

Robert Howard - Prospector Partners

OK. Great. Thanks, guys.

Operator

Our next question comes from Brian Chin with Citigroup. Caller, please proceed with your question.

Brian Chin - Citigroup

Hi, good morning.

Edward Muller

Good morning, Brian.

Brian Chin - Citigroup

Going back to some of the earlier questions on excess coal, so there's no expectation of forced coal burns. But I do see in the 10-Q you have a new blurb in there talking about how you've given force majeure notices to some of the respective coal contracts. Can you just talk about whether that had a financial impact on the quarter that we may want to not include in future periods?

Edward Muller

It does not have a financial impact. We have given force majeure because our coal piles are full at some of the stations, and when that occurs, there's no room and it's not safe to make the piles bigger. But, as we have told those coal suppliers, we intend to take the volumes, and take them at the contracted prices which as Bill indicated are largely above market prices. We will absolutely honor that. We just can't physically take it right now.

Brian Chin - Citigroup

So how does that work. If the inventories are full, you're not gonna do forced coal burns and there's no financial impact. What am I missing, here?

Edward Muller

Well, we will burn off the coal. We're coming into the summer, for example. Normally, we would be building the pile going into the summer because we would have burned it off going into the winter, and we didn't. So now we'll be burning it going into the summer, and then we'll take more coal.

Brian Chin - 2013 Citigroup

Got it, got it, OK. And then, I apologize if this is something that you've said in the past, but I think it would just be helpful to remind myself. The CapEx outlook that you give, on environmental CapEx, that is based on the forward market curves as they are, or is that based on a proprietary point of view?

Edward Muller

That is based on what we expect prices to be, and what we expect some of the environmental rules to be that are not yet in place as we go forward. You'll notice that for that range we have given of $611 to $750M approximately, that covers the next ten years, and there are various assumptions that we have, both about what will be happening in the price environment, but also what will be happening in various rule-making.

Brian Chin - Citigroup

Last question on this. Would it be fair to say that if we took the forward curve assumptions as they are, that the CapEx outlook would be below the bottom end of the ranges you've given out, or would it be at the bottom end?

J. William Holden III

Let me make sure I've got the question. You're referring to the environmental CapEx.

Brian Chin - Citigroup

Correct.

J. William Holden III

And so if we took forward curves as they are today, we invest the same amounts in environmental expenditures as the range we've given. And I think what we've said in the past is that if there's not an improvement in capacity prices then we would expect to invest less.

Brian Chin - Citigroup

Got, it, great. Thank you.

Operator

Our next question comes from Greg Orrill of Barclays Capital. Caller, please proceed with your question.

Greg Orrill - Barclays Capital

Thanks, appreciate it. Regarding the appeal to the PJM capacity auction results from an unnamed participant about bidding behavior, can you comment on what you expect out of that process and whether it will delay the results of the auction?

Edward Muller

Let me make sure everybody is on the same page. Some unnamed market participant sought approval from the market monitor for PJM, for what their level of pricing would have to be under the must-offer rules, and the market monitor did not agree with what was proposed.

PJM overruled the market monitor and the market monitor has brought an action before the Federal Energy Regulatory Commission to enforce his view of how this should be done, and we, GenOn have filed in FERC in support of the market monitor. This has all happened right in the midst. The auction is underway right now.

As to the timing and how all this will play out, we're not sure. We are sure that we remain committed to competitive markets being the right way for things to operate and that having various subsidies as at least two states have tried to do, is inconsistent with competitive markets and inconsistent with the proper functioning of competitive markets.

Greg Orrill - Barclays Capital

And you expect the results next Friday?

Edward Muller

The current auction is underway as we speak. It closes at the end of the week, tomorrow, and the results are scheduled by PJM, to be released a week from tomorrow. Whether that schedule will be the schedule, I don't know. In some of the pleadings to FERC there are suggestions of a different schedule.

Greg Orrill - Barclays Capital

Thank you.

Operator

Our next question comes from Mark Barnett of Morningstar. Please proceed with your question.

Mark Barnett - Morningstar

Good morning.

Edward Muller

Morning

Mark Barnett - Morningstar

Quick question on the RMR discussions. I'm assuming there wouldn't be, regardless of what you eventually manage to do with that in 2012, I'm assuming there wouldn't be any incremental financial impact to your forecasts?

Edward Muller

We would not expect anything material. RMR arrangements are such that we would not expect to have losses and we would expect to have some gains, but nothing that would be material. I would note that the guidance we've just given does not include anything for these RMR arrangements.

Mark Barnett - Morningstar

OK. Thanks. Obviously, there's a couple of large, coal plants up for sell in the region. When we look at the Exelon force divestiture, how can we think about where that pricing might fall out with regards to other plants of similar size in the region or is that not going to be represented at all?

Edward Muller

What I don't know is the answer, what I do know is that under the rules imposed by the Department of Justice on Exelon Constellation and now Exelon to approve the merger, a variety of organizations, companies were precluded from being bidders for those Constellation coal plants and GenOn is one of the parties precluded. Presumably because of our large position in the Maryland market already. How this will go, we'll all find out.

Mark Barnett - Morningstar

All right, thanks for that.

Operator

The next question comes from Julian Horn-Smith from UBS. Caller, please proceed with your question.

Julian Horn-Smith – UBS

Edward Muller

Good morning, Julian.

Julian Horn-Smith – UBS

Excellent. First, in regards to the coal hedges, you kind of alluded to this before, but the uptake in '13-'14, if I understand correctly, that's basically just reflecting the delay in deliveries, correct?

J. William Holden III

Yeah, and let me make sure we're clear. When we display the burns for coal contracts that are currently above market, what that means is that the realized value of hedges, which would have seen a negative impact because of those coal burns, that effect has been shifted from '12 to '13. So it's actually tending to have a negative effect on the realized value of hedges so there's a corresponding reduction in adjusted gross margin in '13, and obviously, a similar benefit in '12 from not burning that coal.

Julian Horn-Smith – UBS

OK, great, and then perhaps more broadly in regards to your coal supplies, what are you seeing out there specific to your northern Appalachian products that you procure? I mean obviously we've seen trends, as quoted by NYMEX, but as you think about hedging '13, '14 obviously there's less need at this point, a lot more flexibility I would imagine at this point? And maybe perhaps specifically to the rail suppliers.

Robert Gaudette

I'll take it in two parts. On the coal side, prices, as you've seen, are down. And remember, we burn 90% northern Apps, so that's our primary market. Prices are down in the front as well as across the curve, what we're seeing is that the coal companies are dealing with the same struggles that coal firms are dealing with, and it's that there's not a lot of demand going on right now for their product.

As far as negotiating contracts and looking at things going forward, we're always out there, is there a tendency for them to be more interested in long term contracts? I'd say that there is some interest but it's nothing to write home about. But, we are not competing with a lot of export demand, so I expect that to help us as we look longer term to contract the coal. So in that part, does that help you?

Julian Horn-Smith – UBS

Absolutely, I really appreciate it. Actually, second part to the question here, we've heard some of your other peers here talking about cofiring their coal units with gas to help reduce their all-in cost of dispatch. Are you guys kind of seeing or having the ability to do comparable things?

Robert Gaudette

We have the ability to some extent, untested currently. We are looking at it for sure, and in some places it makes sense and I expect us to, if we can alter and make it work, we will, but we have some units that just don't have that capability. Those units also tend to be in locations where they're pretty important to the grid. To answer your question, we are exploring it. It's not at a point where it's a proven expectation yet, and it's not incorporated in our guidance.

Julian Horn-Smith – UBS

Any expectation in terms of providing an update, if you will.

Edward Muller

When and if we have something to say on it, we will. I think one thing that you should keep in mind on this is different fossil fuels burn at different temperatures. Plants that were designed to burn coal which have hundreds of miles of tubing in them, pipes, when you run them on gas they burn hotter.

You might think automatically that, that sounds great except that you can destroy your tubes. This is not as simple as just substituting one kind of fuel for another and thinking that all you need is to have a burner tip in there.

Julian Horn-Smith – UBS

Absolutely. No, I appreciate that. Alright, well thank you for the time this morning.

Operator

Our next question comes from Brian Russo of Ladenburg Thalmann. Caller, please proceed with your question.

Brian Russo - Ladenburg Thalmann

Morning.

Edward Muller

Morning Brian.

Brian Russo - Ladenburg Thalmann

Just curious, are you seeing any impact on margins or volumes to California assets due to the nuclear outage out there?

Edward Muller

Go ahead Rob.

Robert Gaudette

The way I would expect or recommend when you think about our California assets, except for Marsh Landing, most of the kit out there tends to be older higher heat. Coal units, or not coal, gas units. Sorry, it's early in the morning. Gas units. What we've seen because of the nuclear outage is that the heat rates in Q3 have increased for us and we are seeing slight up ticks when they have the opportunity.

I wouldn't call them material yet, but we continue to watch that and as we have the opportunity we'll take off some with hedges. The market overall has turned it up with this outage. There's a lot of uncertainty around that, so prices have tended to jump around for this Q3. That help?

Brian Russo - Ladenburg Thalmann

Yes it does. That view, I guess, is incorporated into your guidance, right?

J. William Holden

Yes. The prices that we saw on April 9 are incorporated in the guidance.

Brian Russo - Ladenburg Thalmann

Thank you very much.

Operator

Our next question comes from Paul Patterson of Glenrock Associates. Caller, please proceed with your question.

Paul Patterson - Glenrock Associates

Good morning, guys.

Edward Muller

Good morning, Paul.

Paul Patterson - Glenrock Associates

I wanted to ask you sort of a bigger picture question, with respect to the MOPA rule discretion that we seem to see on the part of PJM, in terms of this most recent project X thing. Also, we seem to be seeing a lot of sort of what seems to be unsubsidized plans, whether it's Calpine Delaware, FirstEnergy in ATSI, LS Power New Jersey, and maybe others, coming forwards right now and committing capital. Do you have any sense as to where we are in the cycle, in terms of new build and wherever we are in the power cycle with this activity?

Edward Muller

Well, I think speaking as to where we are in the cycle given where prices are, we're somewhere on the low end of the cycle. Have we ended? Don't know. Are we about to take off? Don't know.

I do think that the examples you cited, which are uncontracted plant where people are committing capital, shows that the RPM market and PJM as structured as a competitive market is working. It shows that when it's working, the need for subsidies through state and arranged contracts doesn't exist. There is no need to be doing this. To be messing with a functioning market. That's what that establishes wherever we are in the cycle.

Paul Patterson - Glenrock Associates

Okay. But any sense in terms of how we should think about the cycle for, I mean the general cycle, I guess, in that we have new build shuttling up already, and margins are not so good, at least on the coal side. How should we think about that, I guess?

Edward Muller

Well, again, rather than giving you our view of exactly where we are in the cycle, I think this is reflective of the fact that we do not have necessarily, nor should we in a competitive market, have group think. People have different views on where we are at various points in various portions of the market. That's as it should be.

Paul Patterson - Glenrock Associates

Okay. I appreciate it, and my other questions have been answered. Thanks a lot.

Edward Muller

Sure, Paul.

Operator

Our next question comes from Brian Taddeo of Gleacher & Company. Caller, please proceed with your question.

Brian Taddeo - Gleacher & Company

Good morning. Thanks for all the info. A couple of questions, given all of the coal to gas switching you are seeing now, etc., can you give us an idea of the impact it's having on your operating costs per megawatt hour, as well as maintenance CapEx on the units given that they are cycling more.

J. William Holden III

Yeah. Brian, I don't have it on a dollar per megawatt hour basis. I think generally, first I'd say that the cost effect based on the prices that we saw at April 9th are embedded in the guidance. Generally, what that means is when we're running less, we're able to lengthen maintenance intervals and things like that. To the extent we have additional start-ups that also be included. And I would also note, we're seeing (inaudible) on the gas plant, so that's factored in as well.

Brian Taddeo - Gleacher & Company

Gotcha. Okay. Secondly, with regard to the increased environmental CapEx, the slight increase in 4Q, can you help clarify a little bit is that mainly higher material costs you're seeing? Is it that there's a tighter market now to have some of these projects done, so there's higher labor costs? Was there anything in there--I don't think there was any changes to the rules from the last time that would have impacted, but can you just provide any color you can as to what was the cause for the uptick?

J. William Holden III

I think that it's basically two things. One is we've continue to move forward on the environmental CapEx. This plan for the (inaudible) station. We've got greater certainty around that estimate, so we're giving a point estimate. We're no longer giving a range.

Second, the changes to the cost for the FTR's, the groups in the chalk point just reflect a refinement to the escalation assumption. Keep in mind that we're assuming that those expenditures take place in the 2018 to2021 timeframe so we've just adjusted the escalation assumptions for those FTR's.

Brian Taddeo - Gleacher & Company

In terms of your plan maintenance outage schedule for this year in 2Q or 4Q, are there any noticeable outages as compared to what there were last year or is it a standard year?

Edward Muller

There's nothing that is out of the ordinary. We are getting ready for the summer and having a number of units having outages and they vary based on plans that have been in place for a couple of years. Among other things for these outages, we frequently have to order long lead time items a year or more in advance. So nothing out of the ordinary.

Brian Taddeo - Gleacher & Company

Thank you very much.

Operator

It appears we have no further questions at this time. I would now like to turn the floor back to management for closing comments.

Dennis Barber

Well, thank you all for participating in our call this morning. A replay of this web cast will be available on our website in approximately two hours. Have a great day. You can disconnect.

Operator

This concludes today's teleconference. You may now disconnect your lines at this time and thank you for your participation.

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: GenOn Energy, Inc. CEO Discusses 1Q 2012 Results - Earnings Call Transcript
This Transcript
All Transcripts