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Enersis S.A. (NYSE:ENI)

Q2 2008 Earnings Call

August 1, 2008 11:00 am ET

Executives

Susana Rey - Head of IR

Alfredo Ergas - CFO

Analysts

Diego Celedon - Santander Investment

Henry Cobbe - Nevsky Capital

Operator

Good day, ladies and gentlemen, and welcome to the Second Quarter 2008 Enersis S.A ADS Earnings Call. Before we begin today's call, I would like to ready today's disclaimer. This conference call contains statements that could constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements appear in a number of places in this announcement and include statements regarding the intent, belief or current expectations of Enersis and it's management, with respect to, among other things: (1) Enersis’ business plans; (2) Enersis’ cost-reduction plans; (3) trends affecting Enersis’ financial condition or results of operations, including market trends in the electricity sector in Chile or elsewhere; (4) supervision and regulation of the electricity sector in Chile or elsewhere; and (5) the future effect of any changes in the laws and regulations applicable to Enersis’ or its affiliates.

Such forward-looking statements are not guarantees of future performance and involve risks and uncertainties. Actual results may differ materially from those in the forward-looking statements as a result of various factors. These factors include a decline in the equity capital markets of the United States or Chile, an increase in the market rates of interest in the United States or elsewhere, adverse decisions by government regulators in Chile or elsewhere and other factors described in Enersis’ Annual Report Form 20-F. Readers are cautioned not to place undue reliance on those forward-looking statements, which state only as of their dates. Enersis undertakes no obligation to release publicly the result of any revisions to these forward-looking statements.

At this time, all the participants are in a listen-only mode. And we'll be conducting question-and-answer towards the end of today's conference. (Operator Instructions). As a reminder today's conference is being recorded.

And I will now like to turn the presentation over to Mr. Alfredo Ergas. Please proceed.

Alfredo Ergas

Good morning. Welcome and thank you very much for participating today in our conference call. To review the performance of the Enersis Group for the first half ended June 30, 2008. My name is Alfredo Ergas, CFO of the company and with me today are Mr. Ricardo Alvial, Director of Risk and IR and Ms. Susana Rey, Head of Investor Relations.

Considering that most of you have already read our press release containing a full detail of our financial statements during this conference call. I will focus on the more comprehensive perspective of our second quarter activity. As always and for your convenience, the press release is also available in our web page. The most important achievement during the first semester 2008, compared to the first semester of the last year, where operating revenues increased 29%, operating income improved 19%. Non-operating income decreased by 18%.

Net income increased more than 2.3 times, EBITDA increased more than $235 million, or 14%. Interest coverage improved from 4.3 times to 5.1 times. ROE measured as unrealized operating income over assets grows 4.3% to 10.2%. The net cash flow originated in operating activities increased 75%.

In addition to these positive variations, another important economic issue for the group was the new investment grade category received by Peru and Brazil during the second quarter of this year. This is important event because at the present the cash flow originated in fee of our five operating countries have been recognized and has been more predictable, stable and less risk.

Now, let's talk about main operating considerations. Our activity during the second quarter reflected more than US$1 billion increase sales of energy and power, and an additional US $100 million corresponding to other operating revenues. In this respect, it is important to highlight that during May and June, heavy rains begun feeding the main Chilean reservoir boosting hydro generation and lowering cost in the central, interconnected system. This positive scenario was adequately perceived by the markets very improving expectation for electric utilities, particularly those with significant hydro capacity.

This new normalized scenario in addition to our sound commercial policy should contribute to maintaining better results during the rest of the year. This condition will also supported by an additional $386,000 new distribution segment customers, as a results of the natural growth in our concession area.

In order to meet the growing demand, all generation companies increased their production as follows. Columbia by 8.9%, Peru by 4%. In addition to this positive change in operations, non-operating income was improved, mainly due to a lower other non-operating costs related to a smaller loss in Endesa and Codensa resulting from applying the famous Technical Bulletin 64.

Now let me briefly look at economic and business environment country-by-country. I think the rest of America and Chile is under inflationary pressures and there is a considerably concerns of regarding the need to apply every measure available to contain it. In fact the Central Bank has increased their nominal interest rates currently at 7.25% in an effort to control prices increase. The government has announced that it will reduce expansion of public expenditures and review the fiscal policies in order to focus on more profitable social programs.

On the other hand, the range has approached that of a normal year covering higher hydroelctrical generation. This has allowed for a reduction in generation cost in addition to a better mix of productions. Although, reservoir have increased their levels, they continue to be lower than historical average. More than 50% of the energy generated today in Chile has come from hydro facilities while thermal production has decreased by around 20% to 30%.

In this new scenario, only the most efficient coal fired power plants are providing their energy to the Chilean system, as well as few other gas-fired power plants subject to availability to Argentina's Royal Gas.

In that respect it is important to highlight that we continue working as scheduled on the LNG plant located in Central Chile in order to meet the growing needs of system more safely. Hopefully some of the power plants will start receiving this [regasified] natural gas this coming year. With respect to our generation operating results they increased 17%, representing an increase of 40%.

In addition to greater sales volume a higher note price and spot price contribute to high revenues. The price hike resulted from a note price average from $130 per megawatt and spot prices with a range of $260 per megawatt. This however was more than offset by a 57% increase in operating costs related to higher fuel costs incurred by thermal generation given the increased price of oil. In this context the commercial policy applied by our subsidiary Endesa Chile allows us to become a net seller in the spot market.

In this context of higher availability of idle recourses our subsidiary Chilectra believes that one of the measure applied by the government to reduce consumption, let's say 10% of reduction in tension could be lifted and is currently under review. The tariff revision process in this division continues as scheduled and authorities will publish the new diary by the end of October.

Our subsidiary Chilectra recorded a 6.7% increase in operating revenues mainly due to higher selling prices and energy. During the period physical sales recorded a 3.1% decrease impacted by the energy saving plant, launched by the government of Chile. Before going it was partial offset by lower sales and administration expenses.

Let's move to Brazil. On April 30, Standard & Poor's awarded 'Investment Grade' status in Brazil foreign currency denominated debt as a clear information of the important progress achieved. The macro economy management and as a specially improvement in external sovereign ratios. Additionally on May 29, Sovereign Desk of Fitch upgraded the country and its debt is now ranked as investment grade.

This means that the Brazilian economy has attained international recognition as a sovereign country. Brazil has thus become a part of the group of countries as Chile, Colombia and Peru that are better positioned against capital markets. For [any of you], some of the arguments taken in account by Fitch such as economic strength and political stability constitute better perspective for our existing and future business in that country.

Like most of the countries in the region Brazil has also faced inflationary pressures during the first half of the year, with a concession forecast in the range of 6% for 2008. Generally speaking Brazil is much better positioned than a few years ago and we are carefully analyzing the best opportunities there. We can highlight that additional 200,000 new customers who will benefit of our distribution business in both Ceará and Rio de Janeiro.

The Brazil resolve of our subsidiary Cachoeira [Ottawa] in the generation business reported an 169% increase in operating income as a result of an reduction in energy contracted and energy sales at higher prices to its customers.

CIEN recorded an operating profit essentially resulting from the energy transmitted to Argentina in May and June. On the distribution side Ampla booked a 32% higher operating income and that result mainly related to a better energy sales margin, three, from the better mix of customers additionally Ampla reduced its energy losses by two percentage point. This is a very good news for the company and a surprise.

Coelce, however reported a 20% increase in operating income mainly attributable to higher sales margin. Offset by the downturn of tariff prices in April 2007. A very important aspect to consider regarding the subsidiary are the energy losses which dropped by one percentage point during the period from 13 to 12.

In Argentina, pricing inflation around the globe and particularly in the region is generating stress for central banker. In Argentina in particularly for monetary policy maker inflation constitute to be the country's prime concern. Recent forecast expect prices to rise by 25% to 30% this year. However, in order to maintain good service quality, our group is keeping the maintenance CapEx program as required to provide a stable and reliable service to all of our customers.

As of June 2008, Costanera increased its operating result by 244% as a result of 36% better revenues, while operating cost increased 30%. More efficient management in terms of production and commercial policy an 11% increase in sales and higher average tariff have enabled Costanera to increase its operating results.

On other hand Chocon experienced a 83% decrease in its operating result due to a 50% drop in physical sales compared with the previous year conditioned by the Limay River water management action taken by the Argentine Energy Secretary, along with other lower hydrology in the area.

Edesur recorded a 32% decrease in its operating results in the first semester, this negative variation mostly explained by a lower average sales price offset by a 2% increase in the month and a 2% increase in the number of customers.

In Peru, Standard & Poor's decision to upgrade Peru (inaudible) with Peru has some of the best market economic indicator in Latin America. In fact Peru with an expected GDP growth rate 7% to 7.5% for 2008 should have the best performance among the large Latin American countries. Exports increased by 31% year, year in May.

As a result of this positive trade, Peru could present a current account surplus of around 3% over the GDP in this year in contrast to most Latin countries, Peru has one of the lowest inflation rates in the region; strong capital inflow, stellar export performance and prudent macroeconomic management were the main aspects taken in account by Standard & Poor and Fitch when granting the investment grade category.

Energy minister confirmed that although Peru is suffering a dry year most of the system can be efficiently supply with natural gas. In relation to potential scarcity of electrical supply the Chairman of the National Society of Mining Oil and Energy stated that Peru will not suffer from such trouble since generation from natural gas has overcome the initial predictions. He added that around 35% of total generation in Peru is based on Natural gas. Last May measured year-on-year gas production increased 55%. While the percentage of natural gas used for generation grew 74%.

Further more, (inaudible) record a 32% decrease in operating result mainly experienced by reducing sales to its spot market and 10% lower average prices. Additionally, the company had higher operating cost brought on by an increase in thermal generation with a decent view maintenance of the (inaudible).

Edelnor distribution recorded a 23% increase in operating income. Basically associated with a 8% increase in energy demand and better unit margin sales condition relate to sales to half-tension regulated clients.

In Colombia, the recent success of the government over terrorist activity has provided the country a better feeling of safeness in the population. Most forecasters expect that economic policy making would remain prudent trying to keep Colombia as an investment grade country. There is relative consensus the way GDP growth will be lower in keeping with the potential US recession.

However are still quite positive ranging from 7.5% in 2007 to 5% in 2008. Considering, it's export strategy added by higher commodity prices, it expected that Colombia will probably meet its external financing need without any major [fit]. Leading indicators are showing a slight deceleration for domestic demand during the first half of 2008. For instance the country demand growth for electricity increased 2.1%, while with our concession area, it reached 3.5%.

Overall, condition for our business are in good shape and we hope that authorities would solve some pending issues, so as to speed up the privatization of generation and distribution assets in Columbia. As part of our sustaining interest in increasing our market share.

Emgesa, operating result improved 30%, thanks to the high average sales price and prevailing in the market retail revenue on account of profitability and appreciation of the Columbian peso and a 9% increase in energy sales, due to the good hydrology during the period.

Codensa, our distribution company reported a 38% increase in its operating results mainly related to increased energy demand, which boosted physical sales by 5% and also due to a more than 1% bond reduction in energy losses, which improved to 7.7%. Another reason for this better outcome had to do with a better buy and sale margin.

Let me briefly discuss the details of some financial consideration for Enersis at a consolidated base. Interest coverage measured as EBITDA less extraordinary items, improved from 4.3 times to 5.1 times, ratio which confirmed the solid financials of the group. On the other hand, annualized ROEs reach [10.2%] possibly compared to 4.3%, one year ago and importantly mostly ratio refers to the liquidity provided by our business. During this period, the company recorded a 75% increase in cash flow origination from our operation.

Having analyzed the overall situation of each country as well as the business consideration, it will now take a couple of minutes to describe the main pending issues. Tariff revisions in Codensa in Columbia scheduled for first half of 2008 delayed. We do not have significant concern about it.

In Edesur scheduled for February 2008 postponed. although some authorities have stated to the press that it will be taking place very soon. In Ampla March of 2009, the annual adjustment in March of 2008 was reported. In Codensa in April 2011, the annual adjustment in April 2008, results were 6.4% increase.

Thank you very much for your attention. Now I would like to return the call to operator for your question and thank you very much.

Question and Answer Session

Operator

(Operator Instructions) And the first question comes from the line of Diego Celedon from Santander Investment.

Diego Celedon - Santander Investment

Hi, good morning to everyone. Thanks for the call and congratulations on your results. My question relates to [sales tax] in Argentina. As you said we saw a couple of days ago that the Argentine government announced an increase in electricity prices. And I would like to ask you if you can clarify or if you have any idea so far of the magnitude of this tariff increase. Thanks.

Alfredo Ergas

Diego, thank you very much as you are very well informed we need to review -- give some information to the market in terms of there will be some changes for some clients if they have some consumption over 650 kilowatts and they would have different [scale on it] increase from 10% to 30% and depends in the consumption how it will be saving plan or increasing in their type. But at this point we haven't received an formal information coming from the government, so for this time I would like just to tell you that we are waiting to receive formal indications from the government. Then some action will be taken so then we can have an increased tariff, all of us we have been waiting for a long time. But at this time we cannot confirm any information.

Diego Celedon - Santander Investment

 

Okay thank you.

Operator

(Operator Instructions) And the next question comes from the line Henry Cobbe of Nevsky Capital.

.

Henry Cobbe - Nevsky Capital

 

Hi there thank you very much for the call, just a couple of questions if possible. First of all CIEN forgive my pronunciation, but the Brazilian transmission company. Didn’t fully understand how you are booking or occurring the revenues. They seem to be very lumpy from quarter-to-quarter, implied, $325 million for the first half of which $3 million was in the first quarter. It is playing just what that kind of, what is the regulatory revenue base per annum they should be getting at CIEN. And then the second question just on corporate activity and whether there is any progress in continuing to streamline your portfolio of assets and what your parent co. Endesa's intentions with regards to that portfolio of assets in Latin America?

Alfredo Ergas

Thank you for your question. First of all with CIEN, we are very happy that the response has been improved. The duration of that because we have improved due to a contract that allow us to bring energy from Brazil to Argentina, so for that we have recognized the income from the toll about that issue, but we haven't defined a strategy for a transmission line between Argentina and Brazil and the reason is that because we're still waiting for some definition from the government of Brazil and specifically from [Daniel] in terms of which kind of remuneration we can receive from our toll business between both countries. It's something that's really need to, to be defined, that's a national decision and then we can take some commercial decision at the CIEN level. Answer to your second question regarding our strategy?

Henry Cobbe - Nevsky Capital

Well, before we move on can you just give on what is the regulatory revenue base for the transmission assets because it's usually a very volatile number and I didn't really understand why it goes from $3 million one quarter to $300 million the next quarter and can you say as I fished on the regulatory revenue basis?

Alfredo Ergas

Yes, the thing is we've been able to sign a contract to bring energy from Brazil to Argentina.

Henry Cobbe - Nevsky Capital

Yeah, what's the value of the contract?

Alfredo Ergas

The value of, I don't have the detail of the value of the contract. I've just done a share with you that right now the operating revenues that we're going to show comparison from the last year to this year it gives from -- the operating revenue was 120 at the first six months of 2007 and then for this year has been $328 million. The detail of how much charge for each gigawatt with respect I don't have the information, I only have the added information about the operating revenues. And if you are taking into account those operating revenues, if you deduct the operating cost under gross profit, under selling and administrative expenses. That gives to you the operating income if you compare the last year with this year. Last year it was a loss of $2 million and this year has been a profit of $20 million so that's the reason why we'd receive that you say in a good path. But we cannot define today that what will be the situation for the future of CIEN just to give you the result until now.

Henry Cobbe - Nevsky Capital

Okay but my understanding is that Aneel sets a regulatory revenue base for the transmission companies and I am just interested to know what that revenue base is excluding the international transmission lines or is the core annual revenue base for this asset because the run rate quarter-on-quarter seen as very volatile and unpredictable which is unusual for a transmission company.

Alfredo Ergas

Yeah you are completely right as the logic for transmission asset is something that you are supposed to be able to predict them. The good part of this it is that Aneel is moving in time or trying to define how that will be remunerated in transmission speaking about the local market. But in the international market that means transmitting energy from Brazil to Argentina we have. We haven't received the clear definition and once we receive them we need to move those definitions to a commercial definition between companies in both countries. To that stage we haven't arrived yet.

Henry Cobbe - Nevsky Capital

Okay, so I am asking a straight forward question. I am asking what is Aneel regulated revenue base for CIEN?

Alfredo Ergas

We do not have until now.

Henry Cobbe - Nevsky Capital

Right

Alfredo Ergas

Okay.

Henry Cobbe - Nevsky Capital

And the second question was just on the, it was a strategic development for the group and how you see yourselves managing the portfolio of assets, and what is your parent company, what is Endesa's end game for Enersis?

Alfredo Ergas

Yeah, first of all, you have some questions for Endesa, I will recommend you to ask them directly. That it would be…

Henry Cobbe - Nevsky Capital

I don't have their phone number.

Alfredo Ergas

Yes. You have -- and also you can consult those number with our IM now -- investor department. But on the level of finances, I can confirm that we perceive that we have done the things very well here in South America. Our portfolio right now, between distribution and generation, and the countries where we operate has been a good performance. If you compare our situation with Latin America in the last years we think that we are being improved our EBITDA. This is a very -- it's a very good decision based on a good management.

I don't perceive at this stage that we will not enter to a new country. And what we are trying to do is to improve and take advantage of the assets that we have. We are in the business of energy and all the things that you can burn today are -- have been increased their price, as oil, coal. And in the generation part we are basically an hydro electrical facility. So, we have a special advantage in this scenario, in the world scenario.

So, we think that we will continue to take advantage of the current assets that we have and be very aware of what's happening in Brazil in terms of taking advantage if there is some opportunities. Today, our financials are very strong so we are in a position to be able to take advantage of some privatization or some opportunity that we may have in the future.

Henry Cobbe - Nevsky Capital

Okay. Could you just remind us what the dividend policy and gearing target is for Enersis in terms of (inaudible).

Alfredo Ergas

Our policy in terms of what?

Henry Cobbe - Nevsky Capital

The dividend and the net debt to EBITDA --

Alfredo Ergas

Okay. Today, the current one is 70%. And as you know, is something that need to be defined for the shareholders meeting, the second one -- one time in a year. But today, it's 70%, the dividend policy. And regarding to the EBITDA, the increased EBITDA, you can find in our press release. The increase of 13.9% compared six months '07 with six months '08.

Henry Cobbe - Nevsky Capital

And as of the target gearing ratio in terms of net debt to EBITDA, do you have a target leverage ratio?

Alfredo Ergas

No. We haven't disclosed any target in leverage or any target to increase the EBITDA. Semester by semester and quarter by quarter we are trying to improve it, but we do not have any kind of a commitment in terms of EBITDA or in terms of the dividend policy. (inaudible). The dividend policy for the shareholders and the EBITDA is only the result of -- or best effort in terms of managing our assets.

Henry Cobbe - Nevsky Capital

Okay. And final question. Just in terms of -- you mentioned the Brazilian investment opportunities. And I can think of a few examples that may be interesting. But are you also looking to buy in minority stakes of the assets you already own?

Alfredo Ergas

I cannot say that we are not considering those assets as opportunities, taking into account that currently we are -- manage those assets. So, it would be very logical perhaps to increase our participation in those. Nevertheless, we do not have any special plan for any special company today.

Henry Cobbe - Nevsky Capital

Okay. Thank you very much indeed.

Alfredo Ergas

Thank you.

Operator

(Operator Instructions) And I show no questions at this time, sir.

Alfredo Ergas

Okay. Thank you very much. And just let me remind you that our commitment to keep you properly informed. Should you have any concern in the future, do not hesitate to contact our Investor Relations department and they will be happy to assist you. Thank you very much and have a great weekend.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.

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