Atlantic Power Corporation
Q2 2017 Earnings Call Transcript

Published: 4 Aug 2017

[Operator:]

Good morning, and welcome to the Atlantic Power Corporation Second Quarter 2017 Results and Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note that today's event is being recorded. I would now like to turn the conference over to Mr. Edward Vamenta, Director of Financial Planning and Analyst. Please go ahead.

[Edward Vamenta:]

Welcome, and thank you for joining us this morning. Our results for the three and six months ended June 30, 2017 were issued by press release yesterday afternoon and are available on our website www.atlanticpower.com and on our EDGAR and SEDAR. Management's prepared remarks and the accompanying presentation for today's call and webcast can be found in the Conference Call section of our website. A replay of today's call will be available on our website for a period of one year. Financial figures that we will be presenting are stated in U.S. dollars and are approximate, unless otherwise noted. Please be advised that this conference call and presentation will contain forward-looking statements. As discussed on the Company's safe harbor statement on Page 2 of today's presentation, these statements are not guarantees of future performance and involve certain risks and uncertainties that are more fully described in our various securities filings. Actual results may differ materially from such forward-looking statements. In addition, the financial results in the yesterday's press release and today's presentation include both GAAP and non-GAAP measures, including Project Adjusted EBITDA. For reconciliations of this measure to the most directly comparable GAAP financial measure to the extent that they are available without unreasonable effort, please refer to the press release, the appendix of today’s presentation or our quarterly report on Form 10-Q, all of which are available on our website. Now, I will turn the call over to Jim Moore, President and CEO of Atlantic Power.

[Jim Moore:]

Good morning. Thank you for joining us today. With me this morning are Terry Ronan, our CFO; Joe Cofelice, our EVP, Commercial Development; Dan Rorabaugh, our SVP of Asset Management; as well as several other members of the Atlantic Power management team. We had strong second quarter with project-adjusted EBITDA of $85.4 million and cash provided by operating activities of $50.9 million. These results keep us on track to achieve our 2017 guidance. Earlier this week, we issued a press release announcing new contracts for two of our San Diego facilities. As Ed indicated, our lengthy prepared remarks and the presentation for this call were posted on the website last night. I am going to read a few broad remarks on the sector, the business and then we’ll go to Q&A. Let me start with the bad news. First, we still have very low power prices. They have been falling significantly over the last two or three quarters, and that’s carrying values as seen by the non-cash impairments. We have taken over those last few quarters. Second of all, the poor supply-demand fundamentals for the power sector in the near team may here a bit. At the bottom of the cycle, it always feels like it’s different this time and there is always reasons to think it’s forever this time. If we decide that it is forever and you look to exit our business, prices are going to be based on those low curves and poor outlook. On the good news side of the balance sheet, we now have a long runway to run the business due to our strength in balance sheet and liquidity. Value enhancement can come from replacement in power prices, and that’s where we were years ago, but even a few quarters ago prices were much stronger. Fourth, opportunistic growth. We talked a little bit of our industrial -- focus, and we are also looking opportunistically, always looking opportunistically at different potential investments. So remember, we had $91 million cut in annual cost, overhead and interest expense, and that’s relative to an average adjusted cash flow from operating activities of around $110 million over the 2018-2022 period. So we have really been able to take costs out of the business to lengthen our runway and to carry meaningful cash flow to pay down debt, buy shares and do other things to grow the business. We are still grinding our corporate and O&M cost. Obviously, we won’t see the big drops like we had in corporate costs, where we were down over 50%. But as Dan points out, we are focused on cost and doing things more efficiently at our plants. It’s a process that’s ongoing. We have had some good early results, and we will keep working on that. As an example of staying on top of cost, as early as October, if interest rates are still low, we may be able to reprise the TLB again, and that would be a nice pickup. So the second thing I say, assets are now starting to shut down in some cases. we are getting too much supply built still, I think, because of low interest rates and some of the states moves -- hasn’t been helpful and seems like it’s commodities and power. People always retire supply slower than you think rationale economic actors acting on math would do, but we are starting to see some of that. When we do the bulk of our asset divestitures, the market was bubbly. The good news for us is we now have a stronger financial position with projected to grow over $100 million of discretionary capital at the corporate level by the end of the year and another $120 million of unused revolver capacity, and while that has occurred, prices are now starting to fall for assets. We haven’t been really interested in assets the last couple of years because we had really good things to do on our own balance sheet. If we looked at the last couple of years, solar prices at 6%, if you were going to buy assets, may be, and wind may be at 7% or 8%, mostly tax-driven investments. We picked up a couple million dollars of preferred this year and then had -- if you look at the dividend payment, the taxes on the dividend, it had about 11% cash return. So those things seems to be fairly delicate to us. However, with all the M&A activity and the utility sector shifting its focus, there is a lot of supply of assets coming on the market that ought to drive price down. I think we are seeing a little bit of that already. So while the management team has been focused on downside protection for the last 2.5 years, when we commenced 2.5 years ago cutting costs and reducing debt and focusing on intrinsic value per share rather than building the absolute size of the business, the markets, the sector, the IPP sector, seem to be pretty bullish on leverage, and in some areas like yieldcos on high growth. So we were a bit of a contrarian back than. Today it seems like the sector has shifted its focus to costs to delevering and to asset divestitures. So being contrarians and now being in a much stronger financial position, we will be monitoring those situations closely and keeping our eye on for places we can invest our capital externally. The only reason we focused internally on capital allocation so far, the returns are just better. So that’s not a relicious view. If returns are better externally, then we will shift our capital allocation over to external investment. So the [metal] model, we entered this job 2.5 years ago, I have been in this sector now since ’86, in energy since ’81, so getting a bit long into two, but I felt like this is something I have done before three or four times turn around a business. The [metal]model was to fix the business. There was obviously some overhead in cost and rationalization it has to occur, but three or four times in the past the model has been fixed and then growing. So I would say, at Atlantic Power, the fix is largely complete and we always want to use commodity cycles in a contrary manner to try to build and grow our IPP businesses. We're confident we'll have some opportunities over the next two or three years. We're focusing more on the industrial sector because we think there is a good value proposition for customers there, how have benefited from the lower power prices. We're always opportunistic. We're always turning over rocks. We're always comparing our internal and external returns on ways to deploy our capital. And I'd say lastly, having been involved in selling three IPP businesses, we're keeping our eye in M&A activity. So there is three times I was involved in selling IPP businesses, the market was very frothy. Segment was very bullish. We thought we were getting prices north of our intrinsic value or at the high end of our intrinsic value range. And today it doesn't strike me as an opportune time to be selling a business. When power prices are down 50%, a lot of the IPP companies’ shares were trading at all-time lows over the last year or two in different points. However, there is a lot of M&A news and rumors in the market, and we're driven by math. So we'll keep our eye on what happens there, and we’ll be driven by the data. The real value in the business as well, I think if we could use our financial improvement and the long runway we have now to continue to delever and then to play for higher power prices, when that happens, we can extend PPA and hedges and add to that terminal value at the back end of PPAs. And then in power price market such as today's, when the sectors decided to start divesting assets, we haven't seen anything keeping up to get excited about or to buy yet. But we're going to monitor that, and as more supply comes on the market, you would think prices would decline significantly. So we'll see if we get some opportunity there. Either way, either by play for higher power prices, continuing to roll intrinsic value internally with capital allocation or if we can pivot to something more robust on the growth front over the next two or three years, we always compare running the business value to what it would be worth to the shareholders if we sold it off and we'll just be driven by the numbers on our capital allocation and our strategic options. So with that, let me turn it over to questions and answers.

[Operator:]

We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Nelson Ng of RBC Capital Markets. Please go ahead.

[Nelson Ng:]

Great, thanks. Good morning, everyone. My first question is pretty quick is, I think -- obviously I am based in B.C., I was just wondering whether any of the B.C. wildfires has an impact on the facilities, particularly Williams Lake?

[Dan Rorabaugh:]

Yes. Hi, Nelson. This is Dan. Williams Lake was in its normal curtailment shutdown period for the summer, so we didn’t lose any generation revenues. Although people are safe, the plant and field power are safe, and they are making preparations for their normal schedule startup next Monday.

[Nelson Ng:]

Okay. Got it. And then I just had a few questions on the San Diego facilities. How straight forward or challenging will it to get the, I guess, retain the site usage and also to get the Utilities Commission’s approval for the PPA tolling agreement?

[Joe Cofelice:]

Thanks for the question, Nelson. This is Joe Cofelice. Good morning. With regard to the Navy process, we responding the second round of a solicitation in May and then they responded to us with some follow-up questions that we responded to on July 5, and so we are waiting to hear back from them. I mean it’s a process with the government and the Navy, so it’s not as open a discussion of dialogue as you would have, for example, at PPA-type negotiation. So unfortunate I can’t more than that. What I will say is that to extent that the Navy is looking for energy resiliency and capacity, which is what this process is about, we believe we are best situated to provide that. And so we feel good about it, but until we get there, anything can happen in the cycle of process. So that’s really all I can say about the Navy process. I think with San Diego, we are in this process with San Diego terminating a contract with them. We are putting in place a newer contract, which is lower cost for the rate payers, provides for much more market-responsive power plant. They are contracts that also help the utility need. It’s sort of the mandate to reduce its GHC by these plants by moving from essentially base load operation to combined cycle through dispatchable mode essentially help the utility achieve that. So here when you stake up all the pluses for this, it looks like it’s a very strong case. I can’t speak for San Diego Gas & Electric, but I have to think that they feel pretty good about it, we feel pretty good about it.

[Nelson Ng:]

So if for whatever reason if you are not successful with the Navy’s like energy, security and resiliency process, then I presume that makes if we came to site rates more difficult? Is that’s the complete process? I think there isn’t – like the relationship between the seven-year tolling agreement versus the Navy’s energy, security and resiliency process and I guess I saw in the resource adequacy contract. Could you just talk about the three contracts and whether they are kind of related in any way?

[Joe Cofelice:]

Sure. I mean, they are related. I think the new power purchase agreement is contingent on site control, maintaining site control. It’s contingent on – yes, as we talk about CPUC approval. I think that when we talk about the amendment, the amendment is also subject to that provides for the termination of existing PPAs is also subject to CPUC approval, but that is not subject to site extension. So that amendment will be effective with just CPUC approval alone. And then the RA agreements, our contingent on CPUC approval, but obviously we have to be able to maintain site control to be able to operate under those agreements. And so they are related, but the amendments are different since that they only require CPUC approval to be effective.

[Nelson Ng:]

Okay, and then just one last question on San Diego project. So what’s the cost to convert the facilities from base load to dispatch and when do you think they’ll be incurred. I was just looking at the guidance and it shows about $5 million of CapEx for the year, for 2017, but I thought that might mostly relate to 2S?

[Jim Moore:]

Yeah. Well, in the case of San Diego, we will know more about the capital cost requirement when we completed the negotiations with the Navy. There has been a couple pieces of this. We certainly have a budgeted amount and we’ve estimated what the cost of energy, resiliency and security is and we’ve included that in our estimates, but that’s something that we will talk about later. Terry, do you want to add to that?

[Terry Ronan:]

Yeah, Nelson, I think we haven’t put our number on that, but can I show you that putting our proposal together included those costs in the proposal and we’re going to get a return on any money that we put into San Diego -- the money that we put into San Diego back plus a return on that investment. As far as 2017 CapEx goes, the $5 million is mostly more through this will be expensed.

[Nelson Ng:]

Okay got it. Thanks. I will get back in the queue. Thank you.

[Operator:]

Our next question comes from Jeremy Rosenfield of Industrial Alliance Securities. Please go ahead.

[Jeremy Rosenfield:]

Just a couple of more questions on the tolling agreement, just to confirm a couple of things

[Jim Moore:]

That’s correct.

[Jeremy Rosenfield:]

Okay. And then just to be clear on this financials that you had disclosed, the $6 million EBITDA estimate coming from the contracts with SDG&E, is that from SDG&E specifically or does that include both contracts, SDG&E and whatever you would get from the Navy? And how do you think about that?

[Terry Ronan:]

Yeah, I would say that the total EBITDA of $6 million for North Island Naval Station is the San Diego Gas & Electric PPA. There is no income from the Navy. We would get site control, they would get resiliency. There is no cash changing hand there.

[Jeremy Rosenfield:]

Right, okay. Would they pay for part of the investment required to convert the plant, or that’s still under negotiation?

[Jim Moore:]

We’re in a competitive process, so we are not going to comment on what we are proposing.

[Jeremy Rosenfield:]

Right, okay. I understand. And then I just one other question on this -- in terms of the term, the seven-year tolling agreement, was that more by SDG&E’s design? Was that something that Atlantic Power was pushing for? How did that come about?

[Joe Cofelice:]

Well, I think that the -- as I mentioned earlier in my previous answer, one of the things that we're accomplishing here for the utility is providing them GHC reduction, and it seems to be standard form throughout California that these agreements are seven years.

[Jeremy Rosenfield:]

Okay. So it was taken on the basis that other agreements that have already been made?

[Joe Cofelice:]

Well, a better way to quote it would be the we are POL for seven years, and so we went to the maximum number [indiscernible].

[Jeremy Rosenfield:]

Right. Well, that's what I was getting to. So it was your selection as of the maximum term rather than preferring to take a shorter term and having more potential risk but also potential value what the market is like for the plants after a certain specific period, right?

[Joe Cofelice:]

That's correct.

[Jeremy Rosenfield:]

Okay. I'll leave it there. Thank you.

[Jim Moore:]

Thanks, Jeremy.

[Operator:]

[Operator Instructions] Our next question comes from Sean Stewart of TD Securities. Please go ahead.

[Sean Stewart:]

Thanks. Good morning. Just one question. A question on Piedmont. May be you go through the thinking on resolving the air permit, which I guess is September, how that's going to clean up that asset status and thoughts on your decisions regarding that and ownership of that asset and remaining capital allocation, just a little bit of detail and your thinking about how that process is going to evolve?

[A –Unidentified Company Representative:]

Well, we're confident that air permit is going to be resolved some time during the month of September. It's not causing us to spend any more money. With the plant, it's just some reporting requirements that we had to beef up. But we have waited for to make a determination on capital allocation with respect to that project, and I think we’ve said for some time that we've got a number of options. We could potentially do a divestiture for the right price. We feel the plant’s operating well. We continue to run on [indiscernible] PPA that goes out to 2032. We could refinance it, partially refinance it, pay off the debt with cash. So those are all the kind of things that we're thinking about right now and have been thinking about for some time, waiting for some resolution on not only the air permit at Piedmont but also what's going to happen with San Diego as we look at this bucket of cash that we have and how we want to deploy it most effectively.

[Sean Stewart:]

Understood. Rest of my questions on California have been answered. So thanks very much.

[Jim Moore:]

Thanks, Sean.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Jim Moore for any closing remarks.

[Jim Moore:]

Well, thanks to everybody for joining us today, and we'll talk to you next quarter. Thank you.

[Operator:]

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.