Pepco Holdings Q1 2010 Earnings Call Transcript

| About: Pepco Holdings, (POM)
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Pepco Holdings (NYSE:POM) Q1 2010 Earnings Call May 7, 2010 9:00 AM ET


Donna Kinzel - Director of Investor Relations and Assistant Treasurer

Joseph Rigby - Chairman of the Board, Chief Executive Officer, President and Member of Executive Committee

David Velazquez - Executive Vice President of Power Delivery

Anthony Kamerick - Chief Financial Officer, Senior Vice President, Chief Financial Officer of Potomac Electric Power Company, Chief Financial Officer of Delmarva Power and Light Company, Chief Financial Officer of Atlantic City Electric Company, Senior Vice President of Potomac Electric Power Company and Senior Vice President of Delmarva Power and Light Company


Paul Patterson - Glenrock Associates

James Dobson - Wunderlich Securities Inc.


Good day, ladies and gentlemen, and welcome to the First Quarter 2010 Pepco Holdings, Inc. Earnings Conference Call. My name is Janeta, and I will be your operator for today. [Operator Instructions] I would now like to turn the conference over to your host for today, Ms. Donna Kinzel, Director of Investor Relations. Please proceed.

Donna Kinzel

Thank you, Janeta. Good morning, ladies and gentlemen. Welcome to the Pepco Holdings First Quarter 2010 Earnings Conference Call. The primary speakers on today's call are Joe Rigby, Chairman, President and Chief Executive Officer; and Tony Kamerick, Senior Vice President and Chief Financial Officer. Also available to answer your questions are Dave Velazquez, Executive Vice President, Power Delivery; Gary Morsches, President and Chief Executive Officer of Conectiv Energy; and John Huffman, President and Chief Executive Officer of Pepco Energy Services.

Before Joe begins, let me remind you that some of the comments made during today's conference call may be considered forward-looking statements. As such, they should be taken the context of the risks and uncertainties discussed in the Safe Harbor disclosures contained in our Securities and Exchange Commission filings.

Also please note that today's call will include a discussion of our results, excluding certain items that we feel are not representative of the company's ongoing business operations. These special items and their financial impact are described in our earnings release dated May 7, 2010. The earnings release can be found at Joe?

Joseph Rigby

Thanks, Donna, and good morning, ladies and gentlemen, and thank you for joining us today. Consolidated earnings for the quarter were $36 million compared to $45 million in the 2009 quarter. In the first quarter of last year, we recognized an $8 million after-tax gain when the District of Columbia Public Service Commission approved Pepco's customer sharing proposal for the remaining balance of the proceeds from the Mirant bankruptcy settlement. We view this as not being representative of the company's ongoing business operations. Excluding this gain, earnings for the first quarter of 2009 would have been $37 million.

Our first quarter results for this year include the impact of some of the worst winter storms on record in our service territories. In February, we were hit by two severe winter storms within days of each other that resulted in heavy snowfall, ice and high winds. In the days that followed the storms, we restored service to more than 500,000 customers or about one in every four of our electric customers. Extreme weather conditions and magnitude of the outages and downed power lines made restoration difficult and costly. An estimated $19 million of storm-related costs were capitalized in the first quarter for future rate-base recovery. In addition, our first quarter operating results reflect incremental storm restoration expenses that we estimate were approximately $9 million after tax or about $0.04 per share. Although included in our operating results, the cost of restoration is clearly above what we have historically experienced. Therefore, we view this level of expense as significantly higher than what would be expected in a typical year. Tony will discuss the financial results and our operating segment performance in more detail. But first, I'll address some topics of interest.

We continue to be very active on the regulatory front with three distribution base-rate cases currently pending, and a decision received on March 2 in Pepco's District of Columbia case. In the District, the commission approved a $20 million annual increase in Pepco's distribution base rates based on a 9.625 Return On Equity. The new rates were effective March 23.

The commission also authorized a change in depreciation rates that results in a $2 million reduction in pretax annual depreciation expense. While we view the general hearings to regulatory precedents in the commission’s order as a positive, we view the Return On Equity that was authorized as being inadequate. On March 23, Pepco filed with the commission a request for reconsideration of certain issues, including the level of ROE authorized in the commission’s order.

Pepco's distribution base rate case in Maryland is proceeding according to schedule. The filing seeks approval of an annual rate increase of approximately $32 million based on a request of Return On Equity of 10.75%. Hearings are scheduled to begin on Monday, May 10, and a decision is expected by the end of July 2010. Delmarva Power's electric distribution base rate case in Delaware, hearings are substantially complete. The filing seeks approval of an annual rate increase of approximately $26 million based on a 10.75% Return On Equity. As permitted by Delaware law, Delmarva Power put $2.5 million of its requested base-rate increase into effect in November 2009, subject to refund.

Delaware law also permits the full requested increase to go into effect seven months following the filing date of the case. Accordingly, Delmarva placed the remaining $23.7 million of its requested rate increase into effect on April 19 on a temporary basis subject to refund and pending final commission approval, which is expected in the third quarter of 2010.

Also in the Delaware case, all of the parties to the proceeding reached a settlement regarding the implementation of a decoupling mechanism for electric customers at the conclusion of the rate-case proceeding. Delmarva Power's application for the implementation of decoupling for gas customers is still pending.

On April 28, Atlantic City Electric entered into a settlement with all parties to its distribution base rate case in New Jersey. The settlement, which we consider to be fair and reasonable, provides for an annual rate increase of $20 million for service rendered on or after June 1, 2010. The stated Return On Equity is 10.3%. Earlier this week, the Administrative Law Judge issued an initial decision ordering the parties to comply with the settlement terms. The settlement agreement is subject to final review and approval by the Board of Public Utilities. The matter will be considered at the BPU’s next agenda meeting currently scheduled for May 12.

We continue to make very good progress on our Blueprint for the Future initiatives. Installation of advanced meters for our Delaware electric and gas customers has gone well. We currently expect to complete all the meter exchanges in Delaware, including commercial customers, by the end of the first quarter of 2011. We also remain on track to begin the deployment of meters to our customers in the District of Columbia in the fourth quarter of this year. As approved by the commissions in Delaware and the District, regulatory assets have been created to assure recovery of and a return on AMI-related costs between rate cases.

Another key component of our Blueprint for the Future initiative is the implementation of dynamic pricing for our customers. Recently, we made filings in the District of Columbia and Delaware requesting approval to implement dynamic pricing. The filings request approval to begin phasing in dynamic pricing in Delaware in 2011 and in the District in 2012.

Delmarva Power and Pepco have previously made filings in Maryland that are still pending. The plan would reward customers for lowering their energy use during times when energy demand is high and consequently, the cost of supplying power is higher. The proposed rate design was formulated from the experience gained from a Smart Meter Pilot Program in the District of Columbia, which demonstrated that the use of a financial reward to prompt customers to conserve during period of high energy prices was effective.

Last month, we signed agreements with the U.S. Department of Energy for three American Recovery and Reinvestment Act grants, formalizing the award of $168 million in federal stimulus funds to help finance the build-out of our Smart Grid projects in the District of Columbia, New Jersey and Pepco's Maryland service territory. The awards have allowed us to accelerate the building of advanced metering infrastructure, distribution automation and demand response technologies. We were also pleased to be awarded an additional $4 million in federal stimulus funds as part of the Smart Grid Workforce Training Grant. By accelerating the build-out of the Smart Grid, we can deliver the benefits of these technologies faster, allowing our customers to access timely usage information and make informed choices on energy use, lower their energy bills and experience improved system reliability.

Now I'll turn to our competitive businesses. The Pepco Energy Services, the profitable wind down of the Retail Energy Supply business that continues to be on track, and we are making good progress on our efforts to ramp up the Energy Services business. We will provide a detailed review of our Energy Services business at our Analyst Conference next week.

As we announced last month, we have entered into an agreement to sell Conectiv Energy's wholesale power generation assets to Calpine Corporation for $1.7 billion, including the market value of the fuel inventory at closing, which is estimated to be $50 million. The sale is expected to close by the end of June 2010. The sale does not include Conectiv Energy's load service supply contracts, energy hedging portfolio, certain tolling agreements and several other non-core assets. We expect to liquidate these remaining assets and contracts within the next 12 months.

The estimated proceeds associated with the sale of Calpine and the liquidation of the remaining contracts and assets combined with the return of collateral posted under the contracts is expected to result in funds of approximately $2 billion, or approximately $1.75 billion, net of $300 million of estimated taxes on the sale and liquidation of the assets. We expect to use $1.75 billion of net funds primarily for parent company debt reduction.

Sale of Conectiv Energy will reposition PHI as fundamentally a regulated utility company. We believe this sale provides many benefits to PHI and will clarify our strategic vision and value proposition. Upon the completion of the sale, approximately 90% to 95% of PHI's operating income will be generated by the regulated utility business. While Conectiv Energy has been an important component of PHI's energy mix, I believe this is the right strategic decision for PHI.

At this point, let me turn it over to Tony Kamerick. Tony?

Anthony Kamerick

Good morning, and thank you for joining us today. I'll recap our consolidated earnings, address our performance by operating segment and review our recent financing activity. We will then open the call up to your questions.

Consolidated earnings for the first quarter were $36 million or $0.16 per share compared to $45 million or $0.21 per share for the first quarter of last year. Excluding the special item related to the Mirant bankruptcy settlement, earnings for the 2009 quarter would have been $37 million or $0.17 per share. The net impact of several tax adjustments lowered earnings by $0.03 per share quarter-over-quarter.

For the first quarter, Power Delivery earnings were $0.09 per share compared to $0.19 per share for the 2009 period. Excluding the special item, earnings would have been $0.15 per share for the 2009 quarter. The tax adjustments that I just discussed decreased Power Delivery earnings by $0.05 per share as compared to the first quarter of last year. Another large factor that did decrease Power Delivery earnings period-over-period was higher operation and maintenance expense, which lowered Power Delivery earnings by $0.03 per share. Excluding the $0.04 per share of incremental storm restoration costs that Joe referred to, other O&M expense effectively decreased by about $0.01 per share quarter-over-quarter, largely due to lower regulatory and pension-related expenses.

Lower weather-related sales versus the prior period decreased earnings by $0.02 per share. Heating degree days were down by 5%. The impact of the sales decrease was more than offset by the impact of higher electric revenue driven by base-rate increases, decoupling adjustments and customer growth, which together increased earnings by $0.03 per share. Keep in mind that our distribution revenue in Maryland and the District of Columbia, which represent approximately 66% of total distribution revenue, is decoupled from consumption.

Conectiv Energy's first quarter earnings were $0.04 per share compared to $0.02 per share for the first quarter of last year. The increase in earnings due to higher capacity prices in PJM more than offset the effective economic fuel hedges that were adversely impacted by falling commodity prices. Given our decision to sell Conectiv Energy's power generation assets and exit the merchant power business, beginning in the second quarter, the results of Conectiv Energy will be accounted for as discontinued operations and the financial results of PHI for prior periods will be reclassified to reflect Conectiv Energy's results as discontinued operations. Pepco Energy Services’ first quarter earnings were $0.06 per share compared to $0.03 per share in the 2009 period. Higher-capacity revenue and lower-capacity charges associated with its generating facilities drove the earnings increase.

Now I'll turn to our recent financing activities starting with the activity at the parent company. On April 20, Pepco Holdings entered into a $450 million unsecured bridge loan facility. Two draws can be made under the facility at any time prior to or on June 1, 2010. We expect to draw on the facility to repay Pepco Holdings $200 million of 4%-notes due May 15, 2010, and $250 million of floating-rate notes due June 1, 2010. We will apply a portion of the proceeds from the sale of Conectiv Energy's power generation assets to repay the loans.

On March 9, Atlantic City Electric completed the sale of $23 million in tax-exempt bonds. The bonds bear interest at an annual fixed rate of 4.875% and are due on June 1, 2029. Atlantic City Electric repurchased the bonds in 2008 in response to the disruption in the municipal auction rate securities market. The proceeds of the sale reimbursed the company for the purchase price of the bonds.

On April 1, Delmarva Power completed the $78 million financing of 5.4% tax-exempt bonds due February 1, 2031. The proceeds from the sale of the bonds were used to re-fund a like amount of tax-exempt bonds, repurchased by Delmarva Power in 2008, again in response to the disruption in the municipal auction rate securities market. As the owner of the bonds, Delmarva Power received the proceeds from the bond re-funding to be used for general corporate purposes.

Now let me turn it back to Joe Rigby for some closing remarks.

Joseph Rigby

Thanks, Tony. In closing, I believe we have made very good progress on our growth initiatives and that we are well-positioned for longer-term earnings growth. We remain ahead of the curve on implementing the Smart Grid and we continue to demonstrate a strong competency in the regulatory arena, as well as leadership in identifying and addressing emerging regulatory issues. The sale of Conectiv Energy repositions PHI as fundamentally a regulated utility company and lowers capital and collateral requirements, strengthens our credit profile and supports our commitment to the current dividend.

As we have previously announced, we will provide 2010 earnings guidance and an outlook for 2011 at our Analyst Conference scheduled for May 12 and 13 here in Washington D.C. At the conference, the executive team will provide a detailed review of our businesses. I hope the analysts on the call will be able to join us, and with that, we would like to open the call to your questions.

Question-and-Answer Session


[Operator Instructions] Your first question comes from the line of Jay Dobson with Wunderlich Securities.

James Dobson - Wunderlich Securities Inc.

Tony, I was hoping you could give us a little more detail on the adjustment you took for uncertain tax positions in the quarter?

Anthony Kamerick

Sure. There are actually some positive adjustments and some negative ones. The negative ones, Jay, had to do with some interest income we accrued in prior years related to some state tax positions. And we now find that there's a little more discretion at the state level to even pay interest. So we basically reversed the accruals.

James Dobson - Wunderlich Securities Inc.

So these aren't related to any of the cross-border [ph 32:10] or anything like that?

Anthony Kamerick

They’re not, no.

James Dobson - Wunderlich Securities Inc.

They’re not. Could you give us a little update on just where that stands?

Anthony Kamerick

There really isn't anything new on the cross-border [ph 32:22] lease situation. And the large share of the tax adjustments that I just talked about are… [Audio Gap].

James Dobson - Wunderlich Securities Inc.

And I'm sure you’ll go into detail on this next week, but maybe if you could, just give us a brief update on where we are on MAPP and the transmission expansion.

Anthony Kamerick

I think Dave Velazquez can probably respond to some of that right now.

David Velazquez

Yes, again, there's really no update there. Our PJM is continuing to go through their studies as part of their Regional Transmission Expansion Plan. There are pet [ph] process that concludes in June, at which point we'd expect that there’d be a kind of definitive statement from them as to the exact year that they would want MAPP to be in service. Currently it has an in-service date of 2014. As we've said before, I wouldn't be surprised if that gets delayed a year or two.

Joseph Rigby

Jay, this is Joe. One other thing that you may have seen in the media was we did announce what we hope would be a good resolution at the local level in terms of a route alternative. You might recall that on the Eastern shore, as you would expect, there were some concerns raised around the route, and we’ve worked very collaboratively with the local communities. And I think it was earlier this week we actually proposed an alternate. So I'm hopeful that as we get more clarity from PJM on timing, that we will have also advanced the ball a little bit in terms of the route itself.


[Operator Instructions] We have a question from the line of Paul Patterson with Glenrock Associates.

Paul Patterson - Glenrock Associates

There's this stuff about decoupling being repealed in Delaware. Could you just elaborate a little bit on that and if that has any impact on you guys or what's going on there?

Joseph Rigby

Paul, this is Joe. There's a legislator in Delaware who’s proposed legislation that decoupling not be, let's say, mandated through legislation and that it be determined via the commission. That, obviously, will go through the legislative process, but we're also on track with our distribution case wherein we would expect that the outcome he wants would in fact be determined by the commission. So I'm not concerned about this at this point, and I think it’ll be resolved in the proper form.

Anthony Kamerick

And I would just add that we do have a settlement on the decoupling process in Delaware at the moment.

Paul Patterson - Glenrock Associates

Did it pass the House then, the decoupling legislation? I saw some item that it actually passed the House.

Joseph Rigby

Yes, it got through committee, so it is in process. But my understanding is that what was proposed was that decoupling be determined by the commission, which is what we think it’s on track to be done.

Paul Patterson - Glenrock Associates

So I guess the sense that I get from reading this is that -- that he doesn't like it, I guess, is what -- I mean I guess that's what I mean. I'm just wondering is there a greater policy issue here? I mean, it just seems that there’s some -- I just am wondering if there's anything we should be thinking about here, I mean other than I guess giving more discretions in PSE. I just -- that's what it sort of seems. Maybe I’m misunderstanding it.

Joseph Rigby

I would just say that I'm obviously very respectful of the legislative process. I'm not concerned at this point relative to the issue that's in front of the commission right now.


At this time, there are no further questions. I would now like to turn the call back over to Joe Rigby for any closing remark.

Joseph Rigby

Thanks, operator, and again, I want to thank you all for joining us today and for your continued interest in PHI. And we're going to look forward to seeing as many of you as we can next week here in Washington. So have a great day.


Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

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