WGL Holdings' (WGL) CEO Terry McCallister on F2Q 2014 Results - Earnings Call Transcript

| About: WGL Holdings, (WGL)

WGL Holdings, Inc. (NYSE:WGL)

F2Q 2014 Earnings Conference Call

May 8, 2014 10:30 ET


Douglas Bonawitz - Head, Investor Relations

Terry McCallister - Chairman and Chief Executive Officer

Vince Ammann - Vice President and Chief Financial Officer

Adrian Chapman - President and Chief Operating Officer

Harry Warren - President, Washington Gas Energy Services

Gautam Chandra - Vice President, Strategy and Business Development


Mark Barnett - Morningstar

Matthew Levison - Matthew Levison and Associates


Good morning and welcome to the WGL Holdings Incorporated Second Quarter Fiscal Year 2014 Earnings Conference Call.

At this time, I would like to inform you that this conference is being recorded and that all participants are in a listen-only mode. We will open the conference call for questions and answers after the presentation. The call will be made available for rebroadcast today at 1:30 PM Eastern Time running through May 15, 2014. You may access the replay by dialing 1-855-859-2056 and entering pin number 35781827. If you do not have a copy of the earnings release, you can obtain one at www.wglholdings.com.

I will now turn the conference over to Doug Bonawitz. Please go ahead.

Douglas Bonawitz - Head, Investor Relations

Good morning, everyone, and thank you for joining our call. This morning’s comments will reference the slide presentation on our website that you can access by going to www.wglholdings.com clicking on the Investor Relations’ tab, and then choosing Events & Webcasts from the drop-down menu. The slide presentation highlights results for our second quarter of fiscal year 2014 and the drivers of those results. A reconciliation of our operating earnings with results reported in accordance with Generally Accepted Accounting Principles is provided as an attachment to our press release and is available in the quarterly results section of our website.

This morning, Terry McCallister, our Chairman and Chief Executive Officer will provide some opening comments and a brief recap of our second quarter fiscal year 2014 consolidated results. Following that Vince Ammann, Vice President and Chief Financial Officer will review the major items that led to the second quarter results. Also on this morning’s call is Adrian Chapman, President and Chief Operating Officer who will discuss key issues affecting our business and the status of some of our key initiatives. In addition, Harry Warren, President of Washington Gas Energy Services; and Gautam Chandra, Vice President of Strategy and Business Development are also with us this morning available to answer your questions.

Finally, we encourage everyone to review our most recent Form 10-K filed with the Securities and Exchange Commission for a more complete discussion of the risks and uncertainties that can cause actual results to vary materially from the forward-looking statements made this morning.

And with that, I would like to turn the call over to Terry McCallister.

Terry McCallister - Chairman and Chief Executive Officer

Thanks, Doug, and good morning everyone. I am happy to discuss with you today our second quarter operating earnings. Our non-GAAP operating earnings for the second quarter, shown on slide 3 in our presentation, were $95.5 million or $1.84 per share, up from $90.7 million or $1.75 per share in the second quarter of 2013.

On a non-GAAP basis, consolidated operating earnings for the first six months were $146.9 million or $2.83 per share. This compares to $149.6 million in the prior year or $2.89 per share. The increase in operating earnings in the second quarter was driven by an exceptional result in our regulated utility and midstream segments, as shown on slide three. These results reflect the strength of our core utility business and the ability of our midstream group to generate significant earnings upside in the times of energy price volatility.

Our utility customer base continued to grow, as average active customer meters increased by approximately 13,000 meters year-over-year for the second quarter of fiscal year 2014. This is the largest year-over-year increase in customer meters in over seven years and follows strong first quarter meter growth. We continue to see encouraging signs of economic growth in our service territory and success on our marketing strategies. Our regulated utility and its customers also benefited from strong asset optimization results in the quarter. In addition, we saw positive earnings impact in the segment from the most recent rate case in Maryland and when considering the challenges and associated costs generated by the severity of this last winter from disciplined cost control.

On the regulatory front, we received conditional approvals to implement our revised accelerated pipe replacement plan in the District of Columbia and we also received the final order regarding our STRIDE plan in Maryland. Adrian will talk more about these developments shortly.

Non-GAAP operating earnings for the non-utility businesses as a whole were lower during the second quarter than last year. As we had forecasted in both November and February, our non-utility results this quarter were negatively affected by cost and margin pressures on the electric side of our retail energy marketing business, and these cost pressures intensified during the extremely cold weather this quarter. We believe we are making progress, however, in our efforts to return margins to more normal levels of business. Cold weather patterns also help drive higher results for the gas side of our retail energy marketing business, as well as higher refills from our midstream business. Vince will discuss these developments in more detail in a few minutes.

I remain confident in our ability not just to achieve, but to exceed our goal from 2014. With second quarter financial performance overall coming in better than our internal target, we are raising our consolidated earnings outlook by $0.25 per share to a range of $2.40 to $2.60.

I’m now going to turn the call over to Vince who will review our second quarter results by segment as well as our updated guidance for 2014.

Vince Ammann - Vice President and Chief Financial Officer

Thank you, Terry. I’d first like to mention that reconciliations of our GAAP net income to non-GAAP operating earnings can be found in the earnings release that is available on our website. As is our standard practice, I will be referencing non-GAAP operating earnings in my comments.

Turning first to our utilities segment, operating earnings for the second quarter of fiscal year 2014 were $1.79 per share, $0.22 above the same period last year. The drivers of this change are detailed on slide five. As Terry mentioned, we continue to add new meters. The addition of approximately 13,000 average active customer meters improved operating earnings by $0.05 per share. While non-GAAP adjustment to earnings for weather related usage, other non-weather related usage in the District of Columbia added $0.03 to earnings. Higher asset optimization revenues added $0.11 to earnings. Please note that increased storage revenues from asset optimization will also add to our fiscal year 2015 results.

Approximately $4 million to $5 million in pretax storage earnings through March 31 have been deferred until the next fiscal year and will therefore benefit the utility earnings in the fiscal year 2015. Revenues from new rates in Maryland improved earnings by $0.04 per share, miscellaneous items increased earnings by $0.02 per share. Partially offsetting these items, higher operating maintenance expense decreased earnings by $0.03 per share.

Next, I’ll move to Retail Energy Marketing segment. For the second quarter, Retail Energy-Marketing business had a non-GAAP operating loss of $0.07 per share compared to the operating earnings of $0.22 per share for the same period of the prior year. The primary driver of the decrease as detailed on Slide 6 was well electric gas margins offset by higher gas gross margin. As we noted at the onset of the fiscal year, lower electric margins were anticipated throughout this year due a combination of higher PJM capacity charges, through most the year higher cost for PJM ancillary services and lower electric unit margins from large commercial customers. All of those factors continue through the year-end decline in operating earnings.

Of course, the sustained period of extremely cold weather and its dramatic and unprecedented effect on PJM power prices, also contributed significantly through the year-over-year decline. Both at the higher PJM capacity charges will continue to remain at which point new lower capacity charges will take effect. This will improve margin recognition in the summer months. Higher PJM ancillary costs have been incorporated into our pricing model and will result an improved margins as existing contracts expire or are renewed.

At the end of the second quarter the retail energy-marketing business served 181,000 electric accounts compared to a 183,000 accounts a year earlier. In the natural gas business compared to the prior year overall gross margins were higher and slightly lower volumes. Higher gas unit margins were driven by portfolio optimization activity during the extremely cold winter period and the accounting recognition of hedge pay-offs under gas margins.

Majority of our hedge benefits are allocated to the gas portfolio in the winter months, since that’s when most of our exposure typically live and to the electric portfolio into summer months. Retail energy-marketing business served 165,000 gas accounts compared to 171,000 a year earlier. The account losses were among both residential and commercial accounts.

Next, I’ll move to the Commercial Energy Systems segment. For the second quarter, the Commercial Energy Systems business had earnings of $0.03 per share compared to earnings of $0.01 per share for the same quarter last year. Earnings in this segment were driven by higher revenues from commercial solar projects, partially offset by less project work for government customers.

Commercial Energy Systems segment continues to add new solar energy projects to its portfolio. As of March 31, we have over 55 megawatt installed solar capacity. These projects represent over $195 million in capital investment and we continue to see a robust pipeline of future solar projects. We have an additional 9 megawatt currently under contract or in construction.

During the second quarter, our commercial solar assets generated 12,460 megawatt hours of clean solar electricity. Our alternative energy investments such as American Solar Direct, Skyline Innovations, and Echo also reported within the Commercial Energy Systems. These ventures now represent $100 million in capital investments since inception. Earnings for this segment are somewhat seasonal in nature and while our earnings are modest year to-date, we are on track to meet our original earnings forecast for this segment.

Finally, I’ll move to the Midstream Energy Services business. After adjustments to reflect storage in inventory valued at current market prices, the Midstream Energy Services business had non-GAAP operating earnings of $0.14 per share compared to a loss of $0.04 per share for the same period of the prior fiscal year. The increase primarily reflects favorable storage and transportation spreads as a result of cold weather. The extreme weather during the second quarter created significant volatility in the natural gas prices and provided opportunities for Midstream to generate attractive margins from its portfolio of low cost storage and transportation assets. Please note that our year-over-year results in the Midstream Energy Services segment include an initial charge for development expenses of approximately $4 million related to our investment in the Central Penn Pipeline project.

Finally, I will update fiscal year 2014 earnings guidance where we are increasing our consolidated non-GAAP operating earnings estimate. As shown on slide seven, we are forecasting non-GAAP earnings in a range of $2.40 to $2.60 per share. This is a $0.25 increase and the midpoint of the previously published guidance.

As noted earlier, we have a portfolio of businesses that performed well during a challenging quarter. With a full year excellent results at our utility and midstream businesses will offset weakness on the electric side of our Retail Energy Marketing business. We expect the retail and electric business will be profitable in fiscal year 2014, but less so than previous years.

I’ll now turn the call over to Adrian for his comments.

Adrian Chapman - President and Chief Operating Officer

Thank you, Vince, and good morning, everyone. I’m pleased to provide you with an update on our operations and regulatory initiatives. In the District of Columbia, the Public Service Commission issued an order on March 31 conditionally approving our proposal for an expanded, accelerated pipeline replacement plan. This approval was contingent on the submission of an implementation plan and other information by April 30. The plan would increase our spending on replacements in the District of Columbia to approximately $110 million over a five-year period. We have submitted the requested information and participated in collaborative discussions led by the PSC staff. An expedited evidentiary hearing will be conducted in the near future to address the proposed cost recovery method.

We anticipate based on the Commission’s order conditionally approving our plan and its stated intention to fast track this phase of the proceeding, that a final order will be issued in the early (indiscernible). Pending that final order, the program will begin to positively impact earnings fully in 2015 as construction resources are put in place over the balance of this fiscal year. Also in the District of Columbia, you may recall that in November, Washington Gas filed an application for approval of a weather normalization adjustment, or WNA. The WNA will be similar to mechanisms we already have in place at Maryland and Virginia and will provide an adjustment for changes in usage due to weather. Comments and replies have been filed regarding the application and we await a final ruling from the Commission on whether we’ll decide the issue in this proceeding or await a fully litigated base rate case.

In Maryland, the Public Service Commission issued an order on May 6 approving our STRIDE application with favorable modifications to an earlier proposed order issued by a public utility law judge on March 21. The commission approved our STRIDE plan with a January 1, 2014 start date and directed Washington Gas to file a revised list of calendar year 2014 projects within 30 days. Washington Gas plans to spend $200 million over initial five years of the program to expedite replacements and reinforcement of our system. The cost of these projects will be recovered through a STRIDE surcharge that will begin to positively impact revenue in the third quarter fiscal year 2014. We experienced severe winter weather this past winter and I’m pleased to report that we delivered gas to our firm customers on uninterrupted basis.

Weather resulted in substantial throughput increase, although normalized from a customer bill perspective for our Virginia and Maryland customers. As Vince noted, we incurred higher expense as a result of the impact of the weather on operation. However, the weather also provided us with enhanced pipeline asset optimization opportunities at the utility that will more than offset the impact of higher operating expenses and will also benefit customers through PSC endorsed sharing mechanisms to lower the cost of gas.

On a pre-tax basis through March 31, we have accrued roughly $29 million for our ratepayers versus $15 million for the same period last year. Our shareholders will benefit from approximately $20 million in pre-tax realized asset optimization margins during the same year. This winter demonstrated the need for additional infrastructure to transport natural gas from the supply areas to market areas in the Northeast and Mid-Atlantic.

We are currently analyzing the implications of the recent legislation enacted in Virginia that will allow local distribution companies to invest in gas reserves to realize longer term gas cost or reliability benefits for customers and to recover certain supply reliability focused infrastructure costs. We welcome any initiative that provides additional flexibility in securing low cost gas supplies for our customers and we will determine whether this will allow us to make further investments to benefit our customers in Virginia.

I’d like to now turn the call back to Terry for his closing comments.

Terry McCallister - Chairman and Chief Executive Officer

Thank you, Adrian. I am encouraged by our performance so far this fiscal year. We continue to expand day-to-day operations of our business and maintain our focus on safety customer service and reliability. We’ve also continued the steady execution of our long-term plan and we continue to explore new business opportunities. I’ll look forward to giving your further updates as the year progresses.

I’d now like to highlight two developments that occurred during the second quarter. In February, WGL Midstream announced an agreement with three other parties to create a company that will jointly develop and own together with Transco the Central Penn Line, a 177 mile pipeline originating in Susquehanna County, Pennsylvania and extending to Lancaster County, Pennsylvania. The Central Penn Line is the Greenfield pipeline segment of Transco’s recently announced Atlantic Sunrise Project. WGL Midstream will invest approximately $410 million. Project will be instrumental in addressing the challenge of transporting natural gas from an area with abundant supply to existing markets.

WGL Midstream also entered into an agreement with Capital Oil and Gas to purchase 500,000 dekatherms per day of natural gas over a 15-year term, which will provide WGL Midstream with low risk access to Marcellus supply. This transaction is WGL Midstream’s second significant investment in natural gas infrastructure in less than nine months and it will provide WGL Midstream with sustainable regulated earnings.

We continue to evaluate additional midstream opportunities similar to our Constitution pipeline, the Central Penn investments. The increased volatility in gas prices and intense demand pressure created by the extreme weather during the quarter elevates our strategy to invest in low cost storage and to provide infrastructure solutions to our midstream businesses to move gas from producing areas to customer market areas.

In March, we announced our first Bloom Energy Fuel Cell Project on the West Coast. The Washington Gas Energy Systems will own and operate a 2.6 megawatt Bloom Energy project, and sell all of the clean energy generated from natural gas and biogas to the Santa Clara County California, under a 20 year purchase power agreement. As of March 31, 1.8 megawatts is installed and operational at two of the four designated sites. Project when completed in the fourth quarter, will reduce the, the County’s carbon emissions by nearly 5 million pounds, each year.

We are proud to partner with Bloom Energy in Santa Clara County, as we continue to invest in clean and reliable energy solutions, as part of our expanding diversified energy portfolio. These utility like distributed generation opportunities will complement our commercial solar portfolio of assets. We’re also pleased to report that Washington Gas recently received the highest ranking among utilities in Eastern region, according to the 2014 J.D. Power Gas Utility Business Customer Satisfaction study. Our overall customer satisfaction index score increased 50 points this year. This recognition illustrates the commitment and dedication of our employees to provide all of our customers with exceptional service.

Finally, we look forward to seeing many of you at the AGA Financial Forum in a few weeks. This concludes our prepared remarks and we’ll now be happy to answer your questions.

Question-and-Answer Session


The question and answers session will begin now. (Operator Instructions) And our first question comes from Mark Barnett with Morningstar. Your line is open.

Mark Barnett - Morningstar

Hey, good morning, everyone.

Terry McCallister

Good morning.

Vince Ammann

Good morning, Mark.

Mark Barnett - Morningstar

I think I missed a detail or two here. You mentioned an earnings deferral number for next year. Can you walk me through that briefly? I believe that was from utility, and just kind of how the mechanics work there?

Terry McCallister

Yes, sure, Mark. What I was referring to is the number was $4 million to $5 million of pretax earnings that we’ve deferred to 2015 as a result of our asset optimization activity this year. The mechanics of that is that in addition to using the available pipeline assets to create value for our shareholders and for our customers during the winter months when we didn’t need those assets, we also engaged in activities that decreased the cost of gas being put into storage that then gets recognized when the gas is used in the subsequent year. So, we don’t recognize the benefits to our customers or the benefits to our shareholders until the gas is used. So that’s the mechanics. So, we know what the profitability is when we created and yet we don’t recognize it until the gas is removed the next year.

Mark Barnett - Morningstar

Okay. I thought I heard $45 million and I thought of my goodness, that’s a large number.

Terry McCallister

That will be a great number. We haven’t been able to create that kind of number yet.

Mark Barnett - Morningstar

Haven’t had enough coffee this morning. One more quick question on the Virginia development. If you were to propose any kind of new mechanism or investment following the new law, is that going to require a full rate case or is that something you’re going to kind of go with on a case-by-case basis?

Adrian Chapman

This is Adrian and I’ll address that. I think it’s going to be in part both. So, we are going to have to get approval from the commission that the investment meets the standard of the law and then depending on the nature of the investment, if it’s particular to a gas reserve investment, then that’s going to be included in our purchase gas charge and therefore it won’t need a rate case. If it’s a physical investment in the infrastructure such as the new peaking facility or a transmission line or new gate station to serve a new community, then I think the legislation provides for a deferral and a full recognition in the next rate case. So it just depends on what the nature of that supply enhancement is.

Mark Barnett - Morningstar

Okay, alright. Great, thanks for that.


(Operator Instructions) Our next question comes from Matthew Levison with Matthew Levison and Associates. Your line is open.

Matthew Levison - Matthew Levison and Associates

Hi, good morning gentlemen. There was a reference to PJM charges for capacity and ancillary charges. What would a dollar figure be for the extent of those charges in the three-month and six-month periods?

Vince Ammann

Yes. Matthew, this is Vince. I’m not sure we’ve provided those details in any of the information we’ve furnished. So I’m not sure I can help you with that.

Matthew Levison - Matthew Levison and Associates

Okay. Well, that’s why I was asking. Thank you very much.


(Operator Instructions) Again, I would like to remind everyone that you can listen to a rebroadcast of this conference call at 1.30 PM Eastern Time today running through May 15, 2014. You may access the replay by dialing 1-855-859-2056 and entering pin number 35781827. If there are no further questions, I’ll turn the call back to Mr. Bonawitz for any closing or additional remarks.

Douglas Bonawitz - Head, Investor Relations

Okay. Thank you for joining us this morning. If you have any further questions, please don’t hesitate to give me a call at 202-624-6129. Thanks again and have a great day.


This concludes our conference call for today. Thank you for participating. All parties may disconnect now.

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