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Edited Transcript of HIFR earnings conference call or presentation 1-Aug-18 3:00pm GMT

Q2 2018 InfraREIT Inc Earnings Call

Dallas Aug 1, 2018 (Thomson StreetEvents) -- Edited Transcript of InfraREIT Inc earnings conference call or presentation Wednesday, August 1, 2018 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brant Meleski

InfraREIT, Inc. (REIT) - Senior VP & CFO

* Brook Wootton

InfraREIT, Inc. (REIT) - VP, IR

* David A. Campbell

InfraREIT, Inc. (REIT) - CEO, President & Director

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Conference Call Participants

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* Durgesh Chopra

Evercore ISI Institutional Equities, Research Division - Associate

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Presentation

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Operator [1]

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Good morning, and welcome to the InfraREIT Second Quarter 2018 Earnings Conference Call. (Operator Instructions)

Please note, this event is being recorded. I would now like to turn the conference over to Brook Wootton, Vice President of Investor Relations. Please go ahead.

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Brook Wootton, InfraREIT, Inc. (REIT) - VP, IR [2]

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Thanks, Austin. Good morning, and welcome to InfraREIT's 2018 second quarter earnings conference call. Joining me today are David Campbell, Chief Executive Officer; and Brant Meleski, our Chief Financial Officer.

Before we begin, I would like to make everyone aware of certain language contained in our safe harbor statement. The company cautions that certain statements made during this call are forward-looking and are subject to various risks and uncertainties. Actual results may differ materially from our projections and expectations. These risks and uncertainties are discussed in our reports filed with the SEC. Our forward-looking statements represent our outlook only as of today. We disclaim any obligation to update these statements, except as maybe required by law.

In addition, during this conference call, we'll make reference to certain non-GAAP financial measures. A reconciliation of these non-GAAP financial measures are available on the Investor Relations section of our website.

I would now like to turn the call over to David Campbell.

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David A. Campbell, InfraREIT, Inc. (REIT) - CEO, President & Director [3]

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Thanks, Brook, and thank you to everyone joining the call this morning. I'll open today with highlights from the second quarter, followed by comments about InfraREIT's corporate structure review and Hunt's product development activities. And I'll then hand it over to Brant for a discussion of our financial performance and capital expenditure forecast.

I'd like to direct your attention to the supplemental slides that we posted to our website this morning. Turning to Slide 2. We are pleased to report solid results for the second quarter. Lease revenue increased 18%, driven by additional assets under lease and by the change in the allocation of the total rent components between base and percentage rent for 2018. Our net income for the quarter was $23.9 million compared to $10.1 million in the prior year, the $13.8 million increase was primarily due to higher lease revenue and a net $4.4 million settlement related to franchise taxes.

Regarding the latter issue in the second quarter, we reached a settlement with the State of Texas, concluding that no franchise taxes were owed on lease income, for all tax years through 2017. As a result, the accrued liability for the tangible taxes penalties and interest was removed from our balance sheet, and recognized as an income tax benefit on our income statement. We continue to invest to support the infrastructure needs in West Texas in the Panhandle. During the second quarter, our total capital expenditures equaled $17 million.

Now turning to Slide 3, as we discussed on our prior calls, our Board of Directors completed it's initial review of the company's REIT status and has directed management to pursue alternatives that would involve InfraREIT terminating its REIT status and opting for a traditional C-corporation structure. We refer to this as a de-REIT alternative. De-REIT alternatives could involve combining SDTS and Sharyland, terminating our leases and negotiating with Hunt regarding other arrangements currently in place between the company and Hunt.

In tandem with the pursuit of de-REIT alternatives, our Conflicts Committee will also continue to monitor Hunt 13D filings regarding Hunt's intentions with respect to InfraREIT. It is possible that de-REIT alternatives could include transactions that might be proposed as a result of the efforts described in Hunt's 13D filings. At the present time, our Board of Directors has not set a specific timeline for evaluating and selecting a de-REIT alternative. We do not plan to provide further updates on the status of de-REIT alternatives, and if any agreement is reached or Hunt's further updates with 13D, we will provide additional information at that time.

We will file our next rate case by July 1, 2020, using a 2019 test year. The corporate structure that we have in place will be evaluated as part of that rate case. We are committed to our core strategy of growing our transmission business and supporting renewables expansion in the Panhandle and load growth in West Texas, and our goal is to have a corporate structure in place, that will best support that strategy.

Turn to Slide 5. An important element of InfraREIT's growth strategy is the potential acquisition of transmission projects developed by Hunt, our development partner. Hunt developed and constructed the Cross Valley and Golden Spread transmission lines, both of which were energized in 2016 and are currently operating. Other projects that Hunt is currently pursuing include generation interconnections in the Texas Panhandle, Lubbock Power & Light's integration into ERCOT and a couple of projects outside of Texas.

The Public Utility Commission of Texas, or PUCT, authorized Lubbock Power & Light's move into the -- from the Southwest power pool into ERCOT, in March of this year. LP&L and Sharyland will build the required transmission interconnection and work jointly to determine which portions of the new transmission lines and substations would be built by each party.

The initial project estimate for the entire construction program that will be split between the two parties is $364 million. Of the CapEx that will be allocated to Sharyland, we expect that less than $10 million will be funded by InfraREIT as footprint CapEx.

The remainder of Sharyland's allocated CapEx is expected to be funded by Hunt. Currently, the LP&L project team is preparing the CCN applications, the first of which Sharyland plans to file in September, targeting a completion date for the overall project of June 2021.

Sharyland's proposal for the South Plains reinforcement project, which ERCOT reviewed in 2017, included new transmission lines and the addition of a third synchronous condenser to our Panhandle system. The South Plains project is being rescoped, given the significant geographic overlaps with what has already been approved, as part of LP&L's integration plan. Sharyland expects to advance the revised proposal, including the third and potentially a fourth synchronous condenser for consideration by ERCOT in 2019. As is the case with the two condensers that are currently operating on our system, these new additions would enhance export capacity and grid stability in ERCOT's Panhandle system. If approved, the new condensers will be funded by InfraREIT as footprint CapEx.

Previously given the relatively advanced stage of the South Plains review and the potential system benefits of additional synchronous condensers, we had expected the third condenser to be considered this year by ERCOT rather than 2019. Brant will describe the impact of this timing shift to our footprint CapEx forecast. Recently, Hunt ahs also seen increasing activity by renewables developers in the Panhandle region, likely reflecting the combination of stronger ERCOT price signals and recently completed or approved transmission projects, such as LP&L. Most of these potential generation interconnections would be ROFO projects, which could also include some incremental footprint CapEx.

Outside of Texas, Hunt is advancing the Southline project, Southern Arizona, New Mexico, and with all key federal and state permits now in hand, current efforts are focused on discussions with potential partners in the project, commercial counterparties for offtake agreements and with the EPC contract regarding cost estimates.

We expect to have the opportunity to engage in discussions with Hunt regarding the potential acquisition of these projects, both inside and outside of Texas. And over the long term, the expected load growth in West Texas and the ongoing expansion of renewables in the Panhandle will continue to drive transmission grid infrastructure needs in ERCOT, which both InfraREIT and Hunt hope to support.

In summary, we will continue to advance our strategy of meeting the infrastructure and reliability needs of the ERCOT transmission grid.

I will now turn the call over to Brant.

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Brant Meleski, InfraREIT, Inc. (REIT) - Senior VP & CFO [4]

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Thank you, David. Let me begin with details of our key financial metrics for the second quarter, which are summarized on Slide 7.

Lease revenue increased to $47.8 million, up 18% over last year. Net income came in at $23.9 million, an increase of approximately $13.8 million over 2017. Our earnings per share increased to $0.39 and our non-GAAP EPS increased to $0.29.

Slide 8 covers the same metrics for the 6-month period ending June 30, 2018. For that period, lease revenues grew 17%, while net income increased to $41.7 million. Lease revenues grew in line with our expectations. Net income was higher than expected, primarily due to the impact of the Texas franchise tax settlement. Earnings per share grew from $0.35 to $0.69 for the period. Non-GAAP EPS increased from $0.18 to $0.58 per share compared to last year.

Turning to Slide 9. Several factors led to non-GAAP net income increasing to $17.5 million for the quarter. Lease revenue increased $7.4 million due to two drivers: first, we expect 2018 lease revenue to be comprised of approximately 95% fixed rent relative to 87% fixed rent during 2017. This is due to the Permian lease, which was renewed in December and the new assets acquired as part of last falls asset exchange transaction with Oncor being priced at 100% fixed rent. This means a larger portion of our revenue will be recognized across all 4 quarters of 2018 and the percentage rent recognized only in the third and fourth quarters will be lower than 2017.

Based on this intra-year shift, we expect a larger portion of our 2018 earnings to be recognized in the first and second quarters, relative to 2017. The second driver of our increase in lease revenue during the quarter was related to the addition of assets under lease. Additionally, depreciation decreased $1 million when compared to last year due to the transmission assets we acquired in the asset exchange transaction, having a longer useful life and a lower depreciation rate than the distribution assets we transferred.

Other income net increased $400,000 due to the recognition of AFUDC equity during the second quarter of 2018 that we did not recognize in the second quarter of 2017. These positive factors were offset by a $1 million increase in interest expense, a $2.4 million reduction in our base rent adjustment and a $400,000 increase in G&A expenses. The increase in G&A expense was primarily due to InfraREIT's continued review of its de-REIT alternatives and other expenses, partially offset by decreased management fees.

Turning to Slide 10. Our non-GAAP net income for 6 months ended June 30, 2018, was $35.3 million. The increase in our non-GAAP net income was largely driven by the $13.5 million increase in lease revenue, depreciation decreased $2.1 million when compared to last year, and other income net increased $1.1 million due to the recognition of AFUDC equity during 2018 that we did not recognize during 2017. These positive factors were offset by a $1.9 million increase in interest expense, a $3.4 million reduction in our base rent adjustment and a $600,000 increase in G&A expenses. Our increase in G&A expense was primarily due to InfraREIT's continued review of its de-REIT alternatives, evaluation of the impact of the Tax Cuts and Jobs Act and asset exchange transaction expenses, offset in part by decreased management fees.

On Slide 11, we'll address our guidance. Our 2018 EPS is projected in the range of $1.36 to $1.46. This range was updated and increased to reflect the impact of the Texas franchise tax settlement and related costs. We are maintaining our 2018 non-GAAP EPS guidance, which is estimated in the range of $1.22 to $1.32. The difference between non-GAAP EPS and EPS is due to adjustments related to straight-line rent, expenses associated with the asset exchange transaction completed in November of 2017, professional service fees related to the Texas franchise tax settlement and the removal of the accrued liabilities for taxes, penalties and interest related to the franchise tax settlement.

Additionally, InfraREIT expects to maintain the company's current quarterly cash dividend of $0.25 per share or $1 per share annualized through 2018. These forecasted amounts assume both that we maintain our REIT status and that Sharyland continues to make its existing lease payments as scheduled throughout 2018.

Slide 12 highlights our projected footprint capital expenditures. 2018 and 2020 are unchanged, though we are adjusting our 2019 footprint capital expenditure estimate. Our expected range for 2018 is $50 million to $80 million, while our expected range for 2019 is $10 million to $30 million, and 2020 is $10 million to $50 million.

Our capital expenditure dollars are tied to the expansion of generation interconnections, renewable development, improvements in reliability and congestion relief. Relative to last quarter, the reduction in forecast for 2019 is due to a delay in the anticipated timing for the third synchronous condenser.

On Slide 13, I'd like to point out that our growth and financing strategy has remained consistent since our IPO. Our strategy is to grow our dividends per share through investments in Footprint Project and acquisitions of regulated assets. We also expect to fund our footprint capital expenditures through the end of 2020 without issuing additional equity, while continuing to target our consolidated credit metrics of 60% debt-to-total capitalization and 12% adjusted FFO to debt.

Thank you, again, for your interest in InfraREIT and participating in our call today. We will now open the call to questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Greg Gordon with Evercore.

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Durgesh Chopra, Evercore ISI Institutional Equities, Research Division - Associate [2]

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It's Durgesh on for Greg. So I just wanted to go back to the 13D filing and just a little bit of clarification on that, in terms of the update on that front. So can you comment on whether you have received an offer yet or not?

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Brant Meleski, InfraREIT, Inc. (REIT) - Senior VP & CFO [3]

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We're not commenting on whether we have received an offer. The 13D filing, obviously, was by Hunt and wasn't a company filing, though that we issued a release on the date of 13D filings and the Conflicts Committee will carefully consider any proposal that is received. But we're not planning to provide any further comment or updates at this time. If an agreement is reached or Hunt further updates its 13D, I will provide additional information at that time, but beyond that we're not going to be providing additional updates.

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Durgesh Chopra, Evercore ISI Institutional Equities, Research Division - Associate [4]

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Okay, and then just the de-REIT. Just to be clear, the evaluation of a de-REIT process is a sort of a independent process, which will be carried -- is being carried out, regardless of the Hunt's 13D, right?

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David A. Campbell, InfraREIT, Inc. (REIT) - CEO, President & Director [5]

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I think that's an accurate way to describe that. I view those efforts as being in parallel, so the board directed management to pursue a de-REIT alternative. So that evaluation is underway. Hunt, we noted and say that Hunt agreed with that determination by the board. And in parallel, Hunt made its announcement of 13D filing. And as I note in my remarks, it's possible that a proposal relating to the activities described in Hunt's 13D could represent a de-REIT alternative that is ultimately selected or might not, but those efforts are in parallel, so you described it accurately.

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Operator [6]

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(Operator Instructions) And at this time, I'm showing no further questions, I would like to turn the floor back to David Campbell for any closing remarks.

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David A. Campbell, InfraREIT, Inc. (REIT) - CEO, President & Director [7]

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Great. Thanks, Austin. Thank you for your participation in the call this morning, and for your interest in InfraREIT. Have a great day.

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Operator [8]

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The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.