Steven Lant - Chairman, President, Chief Executive Officer
Chris Capone - Executive Vice President, Chief Financial Officer
Kim Wright - Vice President of Accounting and Controller
Stacey Renner - Treasurer
Maurice May - Power Insights
Barry Abramson - GAMCO Investors
CH Energy Group, Inc. (CHG) Q2 2008 Earnings Call July 28, 2008 2:00 PM ET
Ladies and gentlemen thank you for standing by, and welcome to the CH Energy Group Second Quarter Conference Call. At this time all participants are in listen-only mode later we’ll conduct a question-and-answer session. [Operator instructions]. As a reminder the call is being recorded.
I would now like to turn the conference over to our host Mr. Steven Lant, please go ahead.
Steven Lant - Chairman, President, Chief Executive Officer
Good afternoon and welcome to our quarterly conference call. With me today are Chris Capone, Executive Vice President and CFO, Kim Wright, Vice President of Accounting and Controller and Stacy Renner, Treasurer. Kim Wright was recently promoted to become CH Energy Group’s Vice President of Accounting and Controller and we welcome her to our team. Following my introductory remarks, Kim Wright, will review our second quarter 2008 results by business segment. Then, Chris Capone will discuss our outlook for 2008 including our revised earnings guidance.
I’d now like to ask Stacey Renner to review our cautionary statement regarding reliance on forward-looking statements. Stacey?
Stacey Renner - Treasurer
Thank you, Steve. I’d first like to remind listeners that the presentation slides for this conference call and our supplemental second quarter financial information are available in the Investor Relations Section of our website at www.chenergygroup.com. I refer you now to the paragraph on forward-looking statements at the bottom of this morning’s press release. If you’re following along with the presentation slides, please reference page 3.
During this conference call presentation and in the question-and-answer session to follow, CH Energy Group participants may discuss management’s intentions, beliefs, expectations, projections or make other statements that are not historical in nature. Please note these forward-looking statements are subject to assumptions, risks and uncertainties that could cause actual results to differ materially from the forward-looking statements.
These risks are discussed in more detail in our filing on Form 10-K for the year ended December 31, 2007 under the section labeled risk factors and as updated in subsequent 10-Q filings. Those filings are available in the Investor Relations Section of our website at the link for SEC filings.
And, now I’ll return the call to Steve Lant.
Steven Lant – Chairman, President, Chief Executive Officer
Thank you, Stacey. Our earnings per share for the second quarter of 2008 were $0.11 versus $0.33 for the second quarter of 2007. Central Hudson’s earnings contribution for the quarter was $0.25 versus $0.32 last year. The $0.07 decline was due entirely to weather, both fewer degree days and more storms, although there were other variations that Kim will cover in detail momentarily.
Because of the seasonal nature of its business, Griffith typically looses money in the second quarter, but in 2008, our loss expanded from $0.09 in 2007 to $0.17 in 2008. This result was driven primarily by fewer degree days, higher reserves for uncollectible accounts, which were due to higher product prices and higher heating bills last winter and price induced conservation, another ramification of higher prices.
Our results for our other business in investment segment were down $0.07 from $0.10 in 2007 to $0.03 in 2008. The primary drivers here were additional margin compression for ethanol, reducing returns from our ethanol partnership and lower interest income. These results are obviously disappointing and we are taking steps to turn these trends to the positive. However, I expect it will take 6 to 12 months for these steps to have the desired result.
First and foremost, is absolutely clear that we need to increase delivery rates for electric and gas service to bring our revenues inline with our costs. We intend to file a rate case this week, but it will take an 11 month period to work through the regulatory process that New York State has established for a rate case. We will issue a press release later this week, detailing the amount of the proposed increase and the reasons behind it. As we mentioned on prior calls, we have been pursuing other ideas with our regulators to address the revenue shortfalls we are experiencing under our current rate plan. I’m very disappointed in the response we received, which boiled down amounts to -- a deal is a deal. At this point, we shifted our focus to our upcoming rate proceeding but with a heightened awareness of the risks that a multiyear settlement may pose.
Secondly, we are reviewing Griffith’s operations looking for the best response to higher commodity cost and the customer conservation we’ve experienced. The response is under review include cost reductions, revenue enhancement opportunities and evaluating each of our products in market areas to determine which are the most attractive going forward. Some of these responses may begin to improve our results during the upcoming heating season. But, I don’t want to prejudge the outcome of our review at this preliminary stage.
Based on our results today and our revised projections, we’ve reluctantly concluded that we must revise our earnings guidance for 2008. Chris Capone will cover the changes by business unit and the reasons for the changes in just a moment.
I would like to conclude my remarks by assuring our investors that we are striving to turn our earnings trend to the positive as quickly as possible and then we expect to succeed despite the difficult business conditions that we were experiencing.
I will now turn the call over to Kim Wright, to review the quarter’s results in more detail. Kim?
Kimberly J. Wright – Vice President of Accounting and Controller
Thanks, Steve. Good afternoon everyone. As Steve mentioned, I will be reviewing our results for the second quarter and we will be covering pages five through eight of the PowerPoint presentation for those of you who are following along online. Beginning with our consolidated results as Steve mentioned our earnings were $0.22 lower this year than last year’s $0.33.
Moving to page 6, you can see that Central Hudson earned $0.25 in the second quarter of this year, $0.07 lower than last year's $0.32. However, when you take into account the impact of weather, $0.11 for lower sales volume and $0.05 for higher storm costs, our second quarter earnings were $0.09 higher than last year.
Looking at some of the details provided at the bottom half of page 6, you can see that the only significant item we had in our regulatory mechanisms and unusual events were billings to cable companies for the use of our poles. These billings covered five years of use and were done pursuant to an order from the PSC. These bills added $0.03 to our earnings. However, we do not expect any further impact like we’ve had this quarter.
Continuing down the page, you can see that the rate increases that took effect in July of 2007 increased earnings by $0.05. However, as expected, these additional revenues were needed to fund higher expenses, including higher taxes, interest expense, and carrying charges. As our customers struggle with the impacts of higher energy prices and weak economy, we saw the higher level of uncollectible accounts than we experienced in the first quarter continue into the second quarter, reducing earnings by $0.04. The primary driver of the $0.04 of weather normalized sales that you see toward the bottom of the page is an increase in the number of customers that we billed during the second quarter of this year.
Moving on to page 7, you can see Griffith’s earnings of $0.08 lower than last year. The biggest driver of the lower earnings was the impact of the weak economy and high energy prices. These factors are causing our customers to conserve, lowering sales volumes, reducing our earnings by $0.03.
In addition, these factors are making it more difficult for customers to pay, increasing our reserve for uncollectible accounts and reducing earnings by an additional $0.01. Our acquisitions are flat relative to last year due to the seasonality of the business. As we saw with Central Hudson, weather also had a negative impact on Griffith, reducing earnings by $0.02. We didn’t see the late winter cold weather in April, as we did last year.
And finally, higher operating and G&A costs reduced earnings by $0.03. This is primarily due to higher fuel costs and the timing of updating our vacation accrual.
Wrapping up on page 8, with our other businesses and investments, you can see that in total our earnings were $0.07 lower than last year, primarily due to tighter crush margins at our Cornhusker investment, as well as lower interest and investment income. The tighter crush margin reduces Cornhusker’s earnings by $0.03 relative to last year and because we have fully redeployed the holding company’s excess cash, our interest and investment income was $0.02 lower than last year.
Lyonsdale earnings were slightly lower as a result of the timing of their outages year-over-year with a portion of their annual spring outage occurring in the first quarter of last year versus the second quarter of 2008.
I will now turn the call over to Chris Capone for a discussion of our 2008 outlook and our revised guidance.
Chris Capone – Executive Vice President and Chief Financial Officer
Thanks Kim. Good afternoon, everybody. First, I would like to say that I along with the rest of the management team, I am very disappointed that we have to lower our guidance a second time this year. Energy markets continue to be volatile and prices continue their sharp upward climb in the second quarter and our current prices our customers at Central Hudson and Griffith are expected to manage their energy usage in response. And, as I have done in the past, I plan to go through some specifics for each of the business units and then we will follow that up with the question-and-answer period.
At Central Hudson, we reduced our guidance to $1.65 to $1.75 from the previous range of $1.80 to $1.90. This reduction in guidance, as Kim has mentioned, reflects an increase in uncollectibles, additional storms and milder weather. Now, assuming normal weather going forward, we feel a new guidance were in captures the projected customer response to higher prices during the remainder of 2008.
Now, as I have mentioned in previous calls, actual energy usage per customer is well below what was used to set the delivery rates in the current three year agreement. We estimate that residential electricity usages is about 5% to 6% below the usage embedded in the rate agreement and on the natural gas side, it is closer to approximately 10% below. Now the estimated full year earnings impact is roughly $0.50 per share. And it’s important to note that the new guidance range of $1.65 to $1.75 that does not really represent the true earnings ability of Central Hudson. The 2008 expected ROE in our electric business is projected to be about 8.5% again well below the 9.6 authorized allowed return in our current agreement. And on the gas side it’s closer to 4% again well below the 9.6%. This escalating gap is really one of the primary reasons we expect to file on Thursday for new rates to go into effect on July 1 of next year. Another critical driver for the filings to earn an adequate return on the capital that we are currently investing, as well as the additional amounts, we plan on investing in our T&D systems to provide our customers with the service, quality, and reliability they have come to expect.
Turning my comments over to Griffith, we lowered our guidance there to $0.10 to $0.20 per share from the prior guidance of $0.20 to $0.25 per share. The updated guidance incorporates the impact of additional conservation expectations given record high prices and an increase in the uncollectible reserves.
There has been a tempering of energy prices in recent weeks but price levels are still well above those in place at the end of the recent heating season. Customers have really yet to see the full increases in prices and we have incorporated into our new guidance what we believe their response will be to these higher prices. In our April call, I provided an estimated full year earnings impact from the conservation at that point of approximately $0.15 for the full year, but our new guidance reflects a full year estimate to closer to $0.25 per share.
Now Steve mentioned earlier we are into taking a comprehensive review of Griffith cost structure, the markets in which we operate the characteristics of the customers in those markets, and the mix of the products we deliver. We are looking at all these elements in light of the business environment Griffith is facing to determine which mix of markets, which mix of products and customers will help us earn an acceptable returns and contribute to overall corporate goals. At other check, where we house our Cornhusker ethanol investment, Lyonsdale, and our wind project, our guidance for this business unit is now $0.27 to $0.32 per share from the prior guidance range of $0.30 to $0.35 per share. We have adjusted the range primarily due to reduction in interest income with the portion of our excess liquidity was absorbed by Griffith in the former working capital.
At Cornhusker, corn and ethanol prices have been very volatile this year with corn approaching $7.50 a bushel and ethanol approaching $2.80 per gallon. However, both have declined notably from those peaks. The current crush margins are sufficient to cover variable cost and contribute modestly towards fixed costs. We continue to work with our investment partners to look for ways to link the price of corn to the price of ethanol through off-take agreements, which would limit the future volatility in crush margins. At Lyonsdale are 90 megawatt biomass plant in upstate New York, the facility continues to run very, very well. At Auburn, the project we announced at the end of last year, we continue to work with a city of Auburn towards constructing what is going to be a 3 megawatt bio gas electricity renewable energy plant and if everything goes as planed the project will contribute to earnings beginning in 2009.
We have approximately $45 million of latent debt capacity to grow our businesses and as we look at opportunities, we will be guided by what we believe are those opportunities that will best add to shareholder value including share buybacks, the risk adjusted rate of return on that use of our financial resources becomes more attractive than the other investments we can make.
To ramp up 2008 continues to be a challenging year as Steve mentioned, we are finalizing the upcoming rate filing, targeting this Thursday. We will continue to invest significant capital in our largest business units Central Hudson, which we believe, can contribute at the future earnings growth and we are also undertaking the comprehensive view of Griffith’s Strategy as I mentioned to determine how best to position ourselves under this higher oil price environment.
At this point I would like to turn it back over to Bonnie for the Q&A.
Thank you ladies and gentlemen. [Operator instructions]. One moment please for the first question. And we do have no questions right at this time, please continue.
Well Bonnie, this is the last step in our call, so why don’t wait another 30 seconds or so and see if any questions do come in.
We have the question from Maurice May with Power Insights. Please go ahead.
[inaudible] review at Griffith. Does it include not continuing to buy tuck-in acquisitions?
It really includes all of the expenditures and investments we could make, Maury, including under what terms if any we would make additional acquisitions.
Okay. And you mentioned you are looking at product mix. I thought most of the product that is sold was fuel oil for heating.
That is true. However, we do have substantial volumes of motor fuel business and lesser volumes of heavier oil products and propane and kerosene.
Yes, there, the lion’s share is home heating oil.
And, then you mentioned customer mix. Does mean you might commercial customers over residential, or vice versa, something like that?
We are really studying the profitability of different groups of customers and classes of customers to determine which we can serve most profitably. Again I don’t want to prejudge the answer to that question, even though we do have some preliminary information. We are kind of looking at all of the different classes of customer and the lines of business.
And then the final question on Griffith is, would you sell the whole operation or would you put it on the block?
Well, I think answer to that question, Maury, has to be is the same answer that would apply to any of our shareholders assets that is, if we thought that was the best thing to do to maximize shareholder value, we would consider it.
Okay. And then, moving over to the rate case, can you review for me the ROE trends in New York? I don’t follow any other utilities in New York, but I have heard some, about some disappointing ROEs. Can you give me the latest trends in New York State, please?
Sure. The last three cases that have been decided have all been at a 9.1% ROE level. One of them was a three year agreement and that had added to it a 30 basis point stayout premium, so the allowed ROE for the three year period is 9.4%. But that is the most recent information that we can point to and it is actually quite current, as current as a week ago, and most recent decision.
Okay. And you would file for, I think you’re at 45% equity in Central Hudson now. I think last time you filed for 47%. But you didn’t get it. Will you likely file for more equity this time and, you file on historic test year, don’t you?
We will file on future test here in New York. We have a historic year that is, is historical information, but it is bridged forward to a future test year of the first 12 months that the new rates would be effect.
Okay. So it would be the 12 months ended June 30, 2010.
Okay. So you do get the future test year. What about the equity component?
Well, in the current case we have the option to increase our equity ratio as high as 47%.
You do, okay.
But as far as the contents of our filing, I am going ask your indulgence for the three days we anticipate occurring between now and when we issue the press release which will fully describe our filing and all of the components that go into it.
Okay. And then my final question really has to do with the dividends rate. The dividend rate. The dividend rate is $2.16. I have always thought that regulated earnings supported dividend rates and not unregulated earnings. Your regulated earnings are now forecasted into the $1.65 to $1.75 range. I am just wondering whether the low utility earnings jeopardize is the current dividend rate at all?
Well, Maury. In our view, the answer is no, because we review this current level of earnings as being temporarily depressed from the level that we expect to occur in the future. Chris, in his remarks, quantified the amount that we are currently under in 2008, about $0.30 a share due to the fact that our sales are well below what was anticipated in the current rate settlement. We believe that issue will be reconciled in the new rate agreement or rate order, whichever is the outcome of the upcoming case. That, along with the rate-based growth that will be occurring in 2009 and into 2010 upon which the new rates will be based, will put our earnings well above the current dividend level on a projected basis.
Okay. And it would put utility earnings back to around the dividend level. So, utility earnings would cover the dividend?
We think above the dividend level.
Above the dividend level. Okay, great. Thank you, Steve.
Thank you, Maurice.
We have a question from Barry Abramson with GAMCO Investors. Please go ahead.
Good afternoon. Few questions just to fill in a few gaps. First question relates to slide number 15 when I -- in the web presentation that it shows the segment information and assets. And it shows that from a year ago the assets in Griffith have increased by around one-third more, but of course the earnings are down for the reasons that you explained. I am just wondering a couple of questions. One would be do you think that the value of Griffith’s assets could be something that you need to review for possible write-down to a more realistic value while you are doing this review of operations? So, should we consider the possibility of write-downs at Griffith? And then also, could you give a little more detail about customer account at Griffith, when you look at continuing customers, not customers that you’ve recently acquired, and are customers sticking with you? Are they moving away? Are they switching? Just some information about that would be helpful.
Barry, let me take those two questions and I’d ask Chris and Kim to add into whatever I may say, since I am not a CPA, and Kim I know is. So, let’s start out with the write-down question. We do have substantial intangible assets on our balance sheet which under the accounting rules are subject to periodic review for impairment. We did that review last summer and had a substantial cushion against an impairment. We would plan on doing that review again this summer. We haven’t begun to do it yet, but it would be done before the third quarter is out. And other than saying we are planning to do it, I cannot prejudge the outcome of that analysis. There’s a lot that goes into it. There are many variables that the accounting literature and practice points you to. So, it is a little bit too complicated to kind of prejudge intuitively. Relative to customer count, the customers have grown to about 117,000 through acquisitions over the past year. We keep track of our monthly activity related to our marketing programs. There’s a certain amount of change in terms of customers moving away, customers leaving us for a variety of reasons, customers that we recruit to our customer base.
Over the last three years, we’ve had very good success in creating positive internal growth, and our goal is to continue that at about 1% a year. In recent months, we have lost a very few customers, not many, but at this point, it is hard to say just where we are going to turn out in 2008, because the primary season in which customers reconsider their oil heating relationship is in the early fall in the months just to come. So, at this point, I can’t say whether we will meet our 1% goal or fall a little bit short of it, I can tell you that we are doing a little less well than the same time last year, but not at the point that we are alarmed.
Regarding fuel switching, there obviously is opportunity for customers to use other fuels. We don’t see a whole lot of competition from natural gas just because of the location of our customer base. There is the potential for customers to substitute at least in part pellets or wood. We think there’s a little bit of that going on and that’s part of why the use per customer has come down some. But again that is more anecdotal than analytical at this point, and certainly that’s something we are going to be keeping our eye on in the upcoming heating season.
All right. Thank you. I just have one other follow up on a different question, different subject. You had mentioned that in early 2009 a small biogas to electricity project should begin to operate. Could you give us some rough estimate of what kind of annual earnings contribution that might make?
Yes. Hi Barry, it’s Chris Capone. Barry, when we looked at this type of investment, when we look at the city of Auburn being counterparty as well as the contracted nature of these assets, we haven’t disclosed publicly what we expect from it. But when you look at that type of an asset relative to say Central Hudson, it’s our expectation certainly should be that it would be in line from a risk adjusted standpoint. Again, it is somewhat higher risk than pure traditional T&D style investment. So it’s going to be above what we see as an appropriate return for the utilities, so call it low double digits as a frame of reference.
Okay. You are just saying it should earn a 10% roughly or better return?
Have you disclosed approximately how much of your, how much you invested in it?
We have not as of yet. It is going to be a project that’s again in the order of about $10 million. A portion of that will be equity. A portion of that will be debt. When we look at these kinds of projects, we tend to use a pretty reasonable, albeit little bit conservative cap structure, so you can presume going in it will be about half debt, half equity.
All right. Okay, very good. Thanks for answering my questions.
[Operator Instructions]. And, we do have no further questions right at this time. Please continue.
Okay. Thank you, Bonnie. Well, at this point, we would thank you all very much for your participation and Bonnie at the end of the call will remind everyone as to the arrangements for calling in later to hear a recording of this call. Thank you again. We look forward to hearing from you next quarter.
Ladies and gentlemen, this conference will be available for replay after 4:30 p.m. this afternoon until August 4th, 2008 at midnight. You may access the AT&T Executive Playback Service at any time by dialing 1-800-475-6701 and entering the access code 953864. Anyone internationally would call 1-320-365-3844 and again those numbers are 1-800-475-6701 and 1-320-365-3844 with the replay access code 953864. That does conclude the conference for today. Thank you for participating and using AT&T Executive Teleconference. You may now disconnect.