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Edited Transcript of EE earnings conference call or presentation 27-Feb-18 4:30pm GMT

Q4 2017 El Paso Electric Co Earnings Call

EL PASO Feb 28, 2018 (Thomson StreetEvents) -- Edited Transcript of El Paso Electric Co earnings conference call or presentation Tuesday, February 27, 2018 at 4:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Lisa Budtke

El Paso Electric Company - Director of Treasury Services and IR

* Mary E. Kipp

El Paso Electric Company - CEO, President & Director

* Nathan T. Hirschi

El Paso Electric Company - CFO and SVP

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Presentation

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Operator [1]

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Good day, and welcome to the El Paso Electric Company Fourth Quarter 2017 Earnings Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Lisa Budtke. Please go ahead.

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Lisa Budtke, El Paso Electric Company - Director of Treasury Services and IR [2]

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Thank you, Tracey. Good morning, everyone. Thank you for joining the El Paso Electric's Fourth Quarter 2017 Earnings Call.

My name is Lisa Budtke, and I'm the Director of Treasury Services and Investor Relations. On the call today are CEO, Mary Kipp; CFO, Nathan Hirschi; and other members of senior management.

You should have a copy of our press release and today's presentation; and if you do not, you can obtain them from our website on the Investor Relations page.

We currently anticipate that our 2017 Form 10-K will be filed with the Securities and Exchange Commission on or before Thursday, March 1, 2018. We would also like to inform you that we will be attending the Bank of America Merrill Lynch Power, Gas and Solar Leaders Conference on February 28 in Boston and the Williams West Coast Utilities Conference on March 21 in Las Vegas. Please refer to our website for all upcoming Investor Relations events.

A replay of today's call will be available shortly after our call ends and will run through March 13, 2018. The details as they relate to the replay are disclosed in our press release.

For forward-looking statements, on Slide 2 of our presentation, you can see our safe harbor provisions.

In summary, our comments and answers to your questions may include forward-looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks and other factors which may cause the company's actual results in future periods to differ materially from those expressed here. Any such statement is qualified by reference to the risk factors discussed in the company's SEC filings. Our 10-K and other SEC filings contain our forward-looking safe harbor statements and also lay out the risk factors that should be considered. These filings may be obtained upon request from the company on our website or from the SEC. The company cautions that the risk factors discussed in these filings are not exhaustive, and we do not undertake to update any forward-looking statement that may be made from time to time by or on behalf of the company. These statements, especially those made during the question-and-answer section of the call, are subject to risk and uncertainties and are difficult to predict.

Now I'll turn the call over to Mary.

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Mary E. Kipp, El Paso Electric Company - CEO, President & Director [3]

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Thanks, Lisa, and good morning, everyone. I will start on Slide 3 of the presentation by highlighting some of our 2017 accomplishments.

We are pleased to have ended the year on a positive note when the Public Utility Commission of Texas issued a final order approving the unopposed settlement in our 2017 Texas rate case. The order provides, among other things, for an annual nonfuel base rate increase of $14.5 million, a return on equity of 9.65% and a determination that all new plant placed into service was prudent and used and useful and therefore included in rate base.

As part of the negotiated settlement, the new rates became effective in January 2018, including a surcharge for rates relating back to consumption on and after July 18, 2017.

We were also able to implement new rates and revise our rate structure for new customers with private distributed generation systems behind their meter, which will help to limit inter and intra-class subsidies. This is an initiative that we previously sought to include as part of our 2015 Texas rate case, and we are pleased to have moved in a positive direction for all our customers by working together with our interveners, including the solar groups, to reach a compromise.

Additionally, we proactively included a mechanism to provide the tax savings benefits for the reduction in the federal statutory income tax rate as part of the negotiated settlement in our case.

We currently anticipate issuing credits to our Texas customers in the first half of 2018. Another benefit of the final order in our Texas rate case was the establishment of baseline revenue requirements for transmission and distribution infrastructure costs.

The establishment of the baseline allows us to file for the recovery of T&D investments outside the full rate case proceeding to help reduce regulatory lag. We are able to file an application for transmission and distribution cost recovery after January 1, 2019.

In 2017, we also filed a request to reduce our existing Texas fixed fuel factor by 19% to reflect lower estimated fuel and purchased power costs. The decrease to the fixed fuel factor became effective on November 1, 2017. The filing affects the fuel portion of rates for Texas retail customers and does not affect nonfuel base rates.

We also issued an all-source request for proposal for resources in June of 2017. The RFP will assist us as we prepare to meet the needs of our growing service territory and as we evaluate the potential retirement or life extension of older units. The resulting resources will be vital as we continue to experience consistent customer growth that exceeds the national average.

Continuing on Slide 4. Last May, our Board of Directors approved an increase to the annual cash dividend of $0.10 per share or approximately 8%. We remain committed to move towards our goal of achieving an annual 55% to 65% dividend payout ratio by the year 2020.

One of the biggest accomplishments in 2017 was the addition of the Texas Community Solar Facility to our fleet of generation resources. This solar facility is the largest utility-owned community solar facility in Texas and its output was fully subscribed within 1 month of accepting applications.

The addition of affordable large-scale solar projects to our mix of generation has been an important objective for our company. The Holloman Air Force Base solar project is another example of the company's commitment to implement clean and cost-effective energy alternative.

In 2017, we began construction of the 5-megawatt Holloman Air Force Base solar project, which will help the Air Force meet its renewable and energy security goals. I'm also happy to report that over 3,000 devices have been registered for our demand response pilot program, which was implemented in 2017. Through the program, we can evaluate the effectiveness of using smart thermostats to reduce peak demand.

Lastly, I want to highlight that El Paso Electric received the 2017 Local Employer of Excellence Award by the Workforce Solutions Borderplex, which was given for the substantial work our employees have done in the community.

As a major employer in the region, I feel it's vital to ensure that our community thrives and provides opportunities for students and professionals. That is why I'm extremely proud of our employees' efforts to participate in the Workforce Solutions Borderplex team program and their efforts to work with local universities to offer internships.

Moving to Slide 5. I will share our primary objectives for 2018. In 2018, we will continue to evaluate the bids submitted in response to our all-source RFP issued in 2017. As we evolve with the increasing demand and changing preferences of our customers, we will work diligently to select the next round of resources that are clean, cost-effective and reliable. As part of the ongoing analysis, we will also evaluate the potential to retire/extend the lives of our current resources.

Another major objective for 2018 is preparing for our next general rate case in New Mexico. You may recall that the commission previously approved our motion to delay a rate case filing until a date no later than July 31, 2019.

Later this year, we also plan to publish our first sustainability report. That report will provide insight into the economic, environmental and social impacts of our daily operations. We have been working to create a comprehensive report that will encompass historical performance measures and also provide details on our sustainability challenges and strategies.

One of the pillars of our sustainability strategy is the identification of opportunities to expand cost-effective and reliable renewable energy resources. In addition to the other projects we have already mentioned, we intend to seek approval to begin construction of a 2-megawatt community solar facility in New Mexico and to expand our Texas Community Solar Program due to its popularity. We currently have a waiting list of about 1,000 customers in Texas who are not able to subscribe to the initial 3 megawatts of the Texas Community Solar Program output.

Another goal for 2018 is to engage with our regional stakeholders on smart community initiative, including the possible clarification of the law in Texas during the 2019 legislative session regarding deployment of advanced metering infrastructure in our service territory. This will allow us to take advantage of technology to enhance grid resiliency in operations. It will also allow the company to provide expanded customer services, such as smart pricing options, high-usage alert and online energy management.

Our ultimate goal in partnering with our regional stakeholders is to build upon recent economic development successes and to prepare our regional economy for the future.

Slide 6 details some of the economic successes that the region has benefited from in recent years.

El Paso's city leaders had the vision to place almost $500 million of Quality of Life Bonds on the ballot, and El Paso voters approved the issuance of the bonds in 2012. City leaders also teamed up with private investors to secure a Triple-A ballpark -- baseball franchise and financing for a state-of-the-art baseball stadium.

Land for the stadium was secured in Downtown El Paso and the multiplier effect quickly took hold as several downtown renovations were also announced. The positive momentum was evident and we began to hear of several national brands that announced their intent to enter the El Paso market.

Today, we have a vibrant El Paso economy. Our unemployment rate is at a 40-year low. Over 30,000 jobs have been created since 2010. The city has issued more than 200 downtown building improvement permits since the ballpark opened in 2014.

Nothing highlights the growth in our community better than the chart we provided on Slide 7. The chart demonstrates a pattern of consistent and continual growth in our service territory over the past 17 years. In fact, our native system peak load has grown by 67% since 2000. We have now set a new native peak record in 16 out of the past 17 years. Due to the sustained growth and the demands placed on our system, we have identified the need to plan for additional resources to be in place by the year 2023.

Turning to Slide 8. We have determined that a total of 370 megawatts of additional resources will be needed by the summer of 2023. We are continuing to evaluate all the bids that were submitted in response to our RFP and analyze the potential retirement or life extension of older resources to determine the optimal mix of generation and resources that will power our region into the future.

Our capital expenditures plan, which we have summarized on Slide 17, may be subject to revision until a final decision is made and regulatory approvals are obtained.

If you'll now turn to Slide 9, Nathan will cover our fourth quarter and year-to-date financial results.

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Nathan T. Hirschi, El Paso Electric Company - CFO and SVP [4]

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Thanks, Mary. For the fourth quarter, we reported net income of $6.5 million or $0.16 per share compared to the fourth quarter of 2016 net income of $5.7 million or $0.14 per share.

For the year, we reported net income of $98.3 million or $2.42 per share compared to 2016 net income of $96 million -- $96.8 million or $2.39 per share.

As I will discuss in more detail, our improved overall financial results are largely due to rate relief we received during the fourth quarter.

Turning to Slide 10. I will now discuss the earnings drivers in the fourth quarter of 2017 compared to 2016. Starting with the positive earnings drivers, retail nonfuel base revenues increased by $0.14 per share, primarily driven by the base rate increase approved by the commission in the 2017 Texas rate case. Nonfuel base revenues included approximately $8.8 million of relate back revenues for the period from July 18, 2017 through December 31, 2017.

A decrease in the effective tax rate also increased earnings by $0.03 per share, which was primarily attributable to a reduction in Texas margin taxes resulting from a settlement with the Texas taxing authority.

Turning to the negative drivers. Earnings declined by $0.04 per share as a result of an increase in depreciation and amortization expense, which was primarily due to increases in plant closings.

Increased O&M expense at Palo Verde decreased earnings by $0.03 per share, primarily due to a nonrecurring reduction in employee pension and benefit expense in 2016.

Increased taxes other than income taxes resulted in a decline in earnings of $0.02 per share due to increased property taxes in Texas and Arizona and increased revenue-related taxes in Texas.

A decrease in wheeling revenue related to the expiration of a contract resulted in a decline of earnings of $0.02 per share.

Now turning to Slide 11. During the quarter, the average number of customers increased by 1.7% over the same period in 2016. Megawatt hour sales during the quarter remained relatively unchanged compared to the same period in prior year. While the company experienced a solid 1.7% increase in the average number of residential customers served, mild winter weather resulted in lower residential sales compared to the fourth quarter of 2016, which was also a mild quarter.

I will now discuss the impacts of weather in more detail on Slide 12. During the fourth quarter, El Paso experienced the mildest winter weather on record in over 70 years. Heating degree days for the fourth quarter were 23.9% below the 10-year average and served as a drag on revenues for the period. While the growth in the number of customers helped to partially offset the mild winter weather, it was not enough to completely close the gap on the impacts of record-setting mild winter weather.

Turning to Slide 13, I will briefly discuss our capital requirements and liquidity. On December 31, 2017, our liquidity was $183.4 million, which consisted of a cash balance of approximately $7 million plus borrowings available on our revolving credit facility.

Our cash capital expenditures in 2017 were $190.3 million, net of insurance proceeds.

In terms of cash dividend, our board declared a quarterly cash dividend of $0.335 per share payable on March 30, 2018, to shareholders of record as of the close of business on March 16, 2018.

As we continue to make progress on our current construction program, we are considering returning to the debt market in the first half of 2018 to issue long-term debt.

If you will now turn to Slide 14, I would like to walk through some of the anticipated impacts of the recently passed Tax Cuts and Jobs Act. The tax reform legislation that was passed in December of 2017 had minimal impact on the company's earnings for the quarter and year-to-date periods. However, as a result of the legislation, we reduced our accumulated deferred income tax liability to reflect the $298.9 million impact of the reduction in the federal income -- federal corporate tax rate. We offset this reduction by recording a net regulatory liability to reflect the future refunds of such amounts to customers.

In compliance with our 2017 Texas rate case, in January of 2018, we began to recognize a reduction in revenues in an amount that approximates the tax savings. We currently anticipate filing a refund tariff, which we will ask to be implemented in the first half of 2018. The refund tariff will be updated annually until base rates are implemented pursuant to our next general rate case filing in Texas.

Additionally, in New Mexico, we are required to file our next general rate case by July 2019. Nevertheless, we are working with the commission to evaluate possible approaches to begin passing the tax savings benefits along to our New Mexico customers.

Overall, the tax legislation is beneficial to our customers, yet it will have a negative impact on cash flows by approximately $26 million to $31 million during 2018, which is reflective of the anticipated reduction in our revenues due to reducing the federal tax rate from 35% to 21%.

In 2018, the discontinuation of bonus depreciation will decrease our tax deductions. So we will utilize our net operating loss carryforward 2 years earlier than anticipated. Accordingly, we anticipate making higher tax -- income tax payments in 2019 and 2020 than originally expected.

Even though we had a high level of net cash provided from operations in 2017, we anticipate that the new tax legislation will place a strain on our credit ratios, but we remain focused on credit quality and a healthy balance sheet.

Now turning to Slide 15, I will provide some details regarding some of the new financial accounting standards that were implemented in 2018. The new accounting standards that we have outlined on Slide 15 will impact the volatility of our earnings and/or the presentation of our financial results beginning in 2018.

The accounting standards dealing with financial instruments requires the changes in the fair value of equity securities owned by El Paso Electric will be immediately recognized in net income rather than in accumulated other comprehensive income as was reported prior to 2018. This will increase the volatility of our earnings as unrealized gains and losses on our nuclear decommissioning trust portfolio equity holdings will directly impact our earnings.

The accounting standard that pertains to the revenue from contracts with customers provides a single revenue recognition model regardless of industry. We do not anticipate that the adoption of this standard will change the timing or pattern of revenue recognition. However, our future disclosures will include a disaggregation of our operating revenues categorized principally by tariff and off-system sales.

The final accounting standard that will have a noticeable effect on 2018 relates to compensation and retirement benefits. This standard requires companies to present the service cost component of net periodic pension cost for pension and other retirement benefits in the same income statement line item as other employee compensation costs within operating income. The other components of net periodic pension costs, including investment earnings and interest expense, will be presented in other nonoperating income elements of the income statement.

Turning to Slide 16. We have initiated 2018 guidance with a range of $2.30 to $2.65 per share. The guidance range assumes normal operations and considers significant variables that may impact earnings, such as weather, expenses, capital expenditures, nuclear decommissioning trust gains or losses and the impact of the recently enacted tax reform legislation. The midpoint of guidance range assumes a 10-year average weather.

In 2018, we had a few items that need to be taken into consideration in addition to the changes for tax reform. For instance, in the second quarter of 2017, we recognized $5 million of Palo Verde performance awards, which contributed $0.08 per share. These awards are normally recognized every 3 years, so we will not have a corresponding benefit in 2018.

Furthermore, as discussed on Page 17 of the press release, in the fourth quarter of 2017, we recorded $4.8 million or $0.08 per share of relate back revenue, which related to the third quarter of 2017 for the period from July 18, 2017 through September 30, 2017. So in the third quarter of 2018, we should see a quarter-over-quarter increase for this amount and an equivalent decrease in the fourth quarter of 2018.

Also, as has been the case in recent years, due to the seasonality of our business, it is possible that we will again report a net loss in the first quarter of 2018.

Turning to Slide 17. To continue to support the economic growth in our community and to provide clean, safe, reliable and affordable services, we have revised our 5-year capital expenditures projections. On this chart, you will see that we plan to spend approximately $236 million in 2018. Over the next 5 years, we anticipate spending approximately $1.3 billion, which includes the initial cost for a 200 -- I'm sorry, 320-megawatt generating resource scheduled for completion in 2023.

These amounts are subject to revision as we're in the process of evaluating the bids submitted in response to the all-source request for proposal that we issued in June of 2017. The results of any necessary regulatory approvals could also change, accelerate or postpone the projects currently included in our estimates.

At this time, we'd like to open up the call for questions. And Tracey, maybe you could help us with that.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And there are no questions at this time. So I'd like to turn the conference back to Lisa Budtke for any additional or closing remarks.

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Lisa Budtke, El Paso Electric Company - Director of Treasury Services and IR [2]

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Thank you again for joining us on today's call, and we hope to see you in either Boston or Las Vegas. Please be safe.

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Operator [3]

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This does conclude today's conference. We thank you for your participation. You may now disconnect.