Duke Energy Corporation
Q2 2009 Earnings Call Transcript

Published: 4 Aug 2009

[Operator:]

Good day, everyone, and welcome to the Duke Energy Second Quarter Earnings Conference Call. As a reminder, today's conference is being recorded. At this time for opening remarks, I'd like to turn the call over to Mr. Bill Currens, General Manager, Investor Relations. Please go ahead, sir.

[Bill Currens:]

Good morning, and welcome to Duke Energy's second quarter 2009 earnings review. Leading our discussion today are Jim Rogers, Chairman, President, and Chief Executive Officer, and Lynn Good, Group Executive and Chief Financial Officer. Jim will begin today's presentation by providing a general overview of the quarter's results. Then Lynn will provide more detail and context around the quarterly results for each of our businesses, including an update on our sales volumes, as well as our credit and liquidity positions. Jim will close with updates on our operational performance, regulatory initiatives, and our wind energy business. Following those prepared remarks we will open the lines for your questions. Before we begin let me take a moment to remind you that some of the things we will discuss today concern future company performance and include forward looking statements within the meanings of the securities laws. Actual results may materially differ from those discussed in these forward looking statements. You should refer to the additional information contained in Duke Energy's 2008 Form 10-K filed with the SEC and our other SEC filings concerning factors that could cause those results to be different than contemplated in today's discussion. In addition, today's discussion includes certain non-GAAP financial measures as defined under SEC Regulation G. A reconciliation of those measures to the most-directly comparable GAAP measures is available on our investor relations [Author ID1

[James E. Rogers:]

Thank you, Bill. Good morning, everyone. Thank you for joining us today and thank you for your interest and investment in Duke Energy. In our news release this morning we announced adjusted diluted earnings per share of $0.26 for the second quarter of 2009 versus $0.27 in the second quarter of 2008. Our results for the quarter were slightly better than street consensus. Finally through the first half of the year we are slightly ahead of our internal plan on an adjusted diluted basis. I am pleased with our results through the first half of '09, especially in these very challenging times. Our operational performance and cost management efforts largely offset the impact of lower industrial sales volumes. All of this is a tribute to our employees and I am very proud of their performance in the first half of this year. The second half of the year looks to be just as challenging as the first half as we anticipate continued softness in our volume sales when compared to last year. Achievement of our employee incentive target of $1.20 EPS on an adjusted diluted basis will required continued focus on what we can control, especially our cost management efforts. Of course, as we look forward, we are assuming normal weather for the remainder of '09, and as you all know so well, the third quarter is normally the largest contributor to our annual sales. As part of her discussion, Lynn will give you an in-depth look at our retail and industrial sales volumes and our thoughts on the economy. She will also comment on the results of a survey of our leading industrial customers. Before I turn it over to Lynn, let me take a moment to thank David Hauser for his 35 years of service to Duke Energy, most recently as our CFO. As you all know, last month David moved on to become CEO of FairPoint Communications here in Charlotte. We thank David for his leadership and integrity and his contribution to Duke Energy's success, and we wish him the best of luck in his new assignment. Also, let me introduce Lynn Good who succeeded David as CFO. Lynn became our Treasurer when the merger closed in 2006. She has led our commercial businesses for the last 18 months. This seamless transition is evidence of the great bench strength we have in our senior management team. Let me now ask Lynn to provide more details on the quarter.

[Lynn J. Good:]

Thanks, Jim, and good morning, everyone. Let me begin our financial discussion with our largest segment, U.[Author ID1

[James E. Rogers:]

Thank you, Lynn. As I did last quarter, I will quickly run through some of the fundamentals supporting our second quarter results including our operational performance and regulatory initiatives which will set the stage for future growth. As you can see from this slide, our strong focus on cost management, especially of our O&M expenses, is not compromising our operational performance. Our fossil generation fleet continue to perform at a high level in most of our key metrics. Our nuclear fleet set records for the most generation and the highest capacity factors for the first six months of 2009. As I said when we started this call, we appreciate our employees' strong focus on operational excellence during these challenging times. Continuing these efforts will be important as we look forward to the remainder of 2009. Finally,[Author ID1

[Operator:]

Thank you. (Operator's Instructions) We'll hear first from Paul Ridzon with Keybanc.

[Paul Ridzon:]

Could you elaborate a little bit more about shopping in Ohio and can you just review the numbers of what you've lost? And then if there's any flavor as to who it is that's coming in and winning this load, just (inaudible) that profile do their own generation or are they more marketers?

[Lynn J. Good:]

Good morning, Paul, this is Lynn[Author ID1

[Paul Ridzon:]

Okay, so 20% of your industrials have switched, 5% of your residential, 6% commercial — is that —

[Lynn J. Good:]

Yes.

[Paul Ridzon:]

Okay. Thank you very much.

[Operator:]

We'll take our next question from Paul Patterson of Glenrock Associates.

[Paul Patterson:]

Good morning. I wanted to sort of follow [Author ID1

[Lynn J. Good:]

On the residential aggregation response--[Author ID1

[Paul Patterson:]

Okay. When we're talking about the customers that have left, how much has Duke gotten of those? Just looking at slide eight and the numbers you just went over with Paul, how much of that, just roughly speaking — you talk about 10% of retail load has switched, how much has switched to you, I guess, if you follow me?

[Lynn J. Good:]

It's a good question, Paul. We're not going to comment on how much has switched to us.

[Paul Patterson:]

Okay. And then in terms of looking at other areas, I mean if there is loads[Author ID1

[Lynn J. Good:]

At this point we are focused on Ohio and have not expanded our aspirations beyond Ohio.

[Paul Patterson:]

Okay, great. Thanks a lot.

[Operator:]

We'll take our next question from Greg Gordon with Morgan Stanley.

[Greg Gordon:]

Thank you, good morning. So just to your disclosures on your year-to-date and expected sales, I thought they were pretty clear, but just to reiterate, looking at the slides on pages five and six you're basically telling us to expect year-over-year declines in industrial in Q3 and Q4, but then on a weather-normalized basis you expect stable residential sales [Author ID1

[Lynn J. Good:]

Greg, we're expecting at this point that industrial will be flat to the first half, and we're looking back actually to the last half of '08 as a reasonable proxy of what we expect on residential and commercial.

[Greg Gordon:]

Okay. So flat for the first half means down relative to the comparable quarters in the prior year?

[James E. Rogers:]

That's correct.

[Greg Gordon:]

I just wanted to be sure I understood that. And that comment on residential, does that factor in how weak July has been or should we weather adjust off of that sort of flat base for July?

[Lynn J. Good:]

What we have talked about were weather-normalized volumes, not adjusted for weather.

[Greg Gordon:]

Okay. That's clear, thanks. On international, you said that National Methanol had historically been 25%-30% of EBIT. You're now saying that you'd expect it to be 20% of '09 EBIT so basically it's a smaller percentage of a lower base, correct?

[Lynn J. Good:]

That's correct.

[Greg Gordon:]

Okay, great. [Author ID1

[Lynn J. Good:]

No. Greg, we update depreciation studies typically as others in the industry will do periodically. Our pace is every three to five years and we updated the study effective the first of '09 and so you're seeing that lesser depreciation as a result of that study.

[Greg Gordon:]

Okay. So that impacted first quarter '09 and second quarter '09 and is this a reasonable run rate, sort of $14 million a quarter?

[Lynn J. Good:]

I think that's reasonable. We're expecting 50 for all of '09.

[Greg Gordon:]

Okay. And is that lower depreciation rate factored into the rate filings in the Carolinas?

[Lynn J. Good:]

Yes. It is.

[Greg Gordon:]

Okay. My last question was another tack on the questions that have already been asked.[Author ID1

[Lynn J. Good:]

I think the maximum based on what we've seen, Greg, would be in the $0.02-$0.03 range on an annual basis without any mitigation from wins by our retail arm or offsetting impact of our participation in the auction.

[Greg Gordon:]

Thank you very much.

[Operator:]

We'll take our next question from Michael Lapides with Goldman Sachs.

[Michael Lapides:]

Good morning. Just real quick, can you refresh or go over again, the commentary about capital spending, and is it just an '09 CapEx that you're looking at or are you looking at beyond that and what parts of the business are you focused on?

[Lynn J. Good:]

Sure. You know, Michael, we are looking at '09 at this point and have been focused on what we call ongoing capital maintenance, customer additions, as well as some discretionary spending. We're targeting a reduction of 200-300 in '09 and really are looking at it in the context of preserving resources as we see some challenges on our volumes and usage. In terms of expectations as we go forward, we'll be looking at capital spending in connection with our annual planning[Author ID1

[Michael Lapides:]

Got it, okay. One question and I hate to do this and I don't mean to beat a dead horse here — on Ohio, I just want to think about pricing for a second, less volume. The FirstEnergy option price, low 60s per megawatt hour, if I remember correctly your ESP price is also in the low 60s per megawatt hour. Can you walk us through kind of the economic differences between what's included in the low 60s in each of those two jurisdictions, meaning how much of that is just generation versus how much of that is generation T&[Author ID1

[Lynn J. Good:]

I believe those are just generation. The $[Author ID1

[Michael Lapides:]

Got it, okay. Sounds good — we'll follow up offline.

[Operator:]

We'll take our next question from Brian Chin with Citi.

[Brian Chin:]

Hi, good morning. Any impact from FirstEnergy's move into PJM to you guys in Ohio?

[Lynn J. Good:]

We're evaluating that at this point, Brian. A very recent announcement, as you know, I think FirstEnergy has highlighted a number of reasons why they think it fits better with their business. We do have assets in both MISO and PJM and routinely analyze the impact of the RTO selection on our business, but at this point don't have any further comments to make.

[Brian Chin:]

Okay. And then back to the industrial volume topic, when you guys say that you expect to see industrial recovery in '11, is that a recovery to levels akin to what we saw in 2007 so that in '10 you're expecting to see a gradual ramp up back to then after flat stabilization in the second half of this year, or can you just help me define what you mean by recovery in '11?

[Lynn J. Good:]

Brian, I don't think we've gotten that specific in our analysis at this point. At what point we'll return to '07 or '06 — I think we'll learn more each quarter and how quickly the rebound occurs. We still expect '10 to be a bit sluggish.

[Brian Chin:]

And then lastly on this industrial question, are you getting that forecast or developing that view based on specific commentary that you're getting from your wholesale customer base or industrial customer base, and what anecdotes are they giving you, or is that solely a topdown macro forecast on your part?

[Lynn J. Good:]

We're actually interviewing customers, Brian, in all of our jurisdictions, talking with them about reduction plans in '09 and into '10. And as I shared, the preponderates[Author ID1

[Brian Chin:]

Great. Thanks a lot.

[Operator:]

We'll take our next question from Paul Fremont with Jeffries.

[Paul Fremont:]

Thank you. Two questions, first of all, I think for other you had originally been guiding to -250 for the year and through the first half you're only at -87. Does that mean that you're going to come in for the year materially better than your guidance in other? And then the other question is with respect to the New Source Review lawsuit, the North Carolina court, I guess is expected to issue a decision at some point after the case was demanded back to them. Can you give us a sense of what you think the timing of that might be?

[Lynn J. Good:]

Let me comment on other just for a moment. We are running ahead due to lower governance costs and our cost management efforts, but haven't put a specific number on how much we would expect to under run. But governance and shared service costs are certainly something we're very focused on controlling in '09.

[James E. Rogers:]

And, Paul, with respect to the New Source Review case in the Carolinas, it's not clear to us when the court will rule.

[Paul Fremont:]

So I mean in terms of other at least, is there anything you can tell us about sort of the back half of the year?

[Lynn J. Good:]

Not at this point. Paul, I think I would really focus on the $150 million of targeted O&M reductions across the business that I spoke about. I think that would be the best way to think about it.

[Paul Fremont:]

And how much of that so far has shown up in other?

[Lynn J. Good:]

I'm not going to comment on how much. It's kind of across the business in other, in FE&G, in commercial, international — I don't have a specific number for other.

[Paul Fremont:]

Thank you.

[Operator:]

We'll go next to Nathan Judge with Atlantic Equities.

[Nathan Judge:]

Good morning. Wanted to ask on the Carolina rate case, and I apologize if you've addressed this already, but it appears that demand continues to be more sluggish than what you expected at the beginning of the year and perhaps when you filed your rate case in North Carolina. Do you plan to go back and update your demand forecast and potentially what could that be relative to what you expected?

[James E. Rogers:]

I think in the course of the — two ways to think about this, Nathan. One is we'll probably work hard to negotiate a settlement in the case and I think that's going to be our top priority. We work hard in every jurisdiction on every regulatory filing to resolve it to negotiation. Secondly, we'll have an opportunity to update the demand in the course of the proceeding if we find ourselves on our way into a hearing with respect to this case.

[Nathan Judge:]

And I suppose that type of settlement date would be around after the public hearing in September, is that a way to think about it or is it later in the year?

[James E. Rogers:]

I think it's after the public hearings.

[Nathan Judge:]

Okay, Jim, on a broader higher level just with regard to the environmental legislation facing the Senate, what do you think needs to change in the current proposed bills in order for it to pass the Senate?

[James E. Rogers:]

I think there's several things. I think that the first, as I mentioned in my comments, I think there's going to be more emphasis on cost containment. I believe that the ramp down of allowances from 2025 to 2030 — there will be a major push to extend that to 2040 to phase it out over a much longer period of time. I also believe that there'll be pressure with respect to the target in 2020. As you know, President Obama called for 14% below 2005, and the current legislation is 17% below 2005, so I think you'll see pressure on that in the Senate. And finally, I believe for legislation to pass in the Senate it needs to be more bipartisan than it was in the House. And what I mean by that is, is[Author ID1

[Nathan Judge:]

Thank you. And my final broad question, could you just update us on your view on mergers and acquisition? Is this the right time? Are you interested in that, and give us some of the recent developments — has that changed your view at all?

[James E. Rogers:]

I think that we're in a period where the PE band has always been narrow in our industry and it seems to be narrower today than historically so that from a math standpoint makes it more complicated. And I think everybody in the industry seems really, as I would say, internally focused, in terms of battening down the hatches, weathering the recession that we have, focused on legislation in Washington. So based on things that I hear, it seems to be a lot more internal focus now than ever before, and because of the narrow PE band, there seems to be less kind of underlying fundamental economics to drive any kind of consolidation. But I do believe, Nathan, in the long term, given the fact that our sector is going to fundamentally have to retire and replace very power plant between now and 2050, we're going to have huge capital expenditures with respect to Smart Grid, decarbonization, and meeting renewable portfolio standards, all of which translate into greater capital expenditure and higher prices.[Author ID1

[Nathan Judge:]

Thank you very much.

[Operator:]

Our final question comes from Hugh Wynn with Sanford Bernstein.

[Hugh Wynn:]

Hi, I had a question regarding the Carolinas rate cases. The slide 15 points out the test period is the year ending December 31, 2008, but that the rate increase probably would not go into effect until a full year later in early 2010. My question is, to what extent will the rate case take into account capital expenditures in 2009 and 2010 and cost increases over that period in setting your rate? Or is this purely a backward looking rate setting where your rates probably would result in an 11.5% ROE based off of 2008 costs, but may result in a lower ROE based on 2010 rate-based costs?

[Lynn J. Good:]

Hugh, that's a good question. We do have an opportunity to update the rate-based additions through September 30th of '09, so we will be making those adjustments as we move through the case.

[Hugh Wynn:]

Okay. How do you all feel about the reception of these proposed residential rate increases of 13.5% North Carolina, and 10% in South Carolina?

[James E. Rogers:]

Well I think they're a little more than that, but I will say that no one likes rate increases and no one likes them during an economic period that we're currently experiencing. But I think the important point is that we've made significant investments in generation and environmental controls, and we're in a place where getting recovery of those investments is critical in terms of going forward and we're working hard with community outreach to the various stakeholders in the states and we're working hard to control our costs. One of the things we did this year is there was no increase in compensation for our people other than those that were in unions and so as a consequence of that we've really worked hard to control our costs and to reach out to the various stakeholders. But at the end of the day we've made, and this is an important point that we make to all government officials, we've made significant investment on behalf of consumers in this state to maintain the reliability of the system and to clean up the environment. So my belief is that at the end of the day we'll succeed with respect to our proposals.

[Hugh Wynn:]

Thanks, Jim. Just real quick, could I get your view on the probability of CO2 regulation passing the Senate in this Congress, and if it fails what you think would be the probability of it passing subsequently?

[James E. Rogers:]

We have pushed hard for passage this year. I think with the way the (laughs) — I don't know how to say this exactly, but the way healthcare is going, I think that the probability of passage in the Senate is much lower than we anticipated several months ago. In all likelihood, the Senate is set — September 28th is the date to get markup done. I suspect that gets pushed depending on how health care plays out. So my bet is that nothing happens until the first quarter of next year, maybe the second quarter. But if nothing happens by then, we're into the election cycle and the probability of passage of legislation then is very low. So again, I think the goal line is to try to get legislation passed during this period of time. We've long believed that the passage of legislation during these tough economic times is the right time because Congress will be focused on the economics of the issues and that is very important from our consumers' perspective. So we continue to push, but I would remind you that it's hard to think back over congressional history where in any session of Congress, two major pieces of legislation were passed. So to the extent healthcare gets passed, the probability of climate passing falls. So again, more work to do as things unfold.

[Hugh Wynn:]

Thanks, Jim. I appreciate it.

[Operator:]

Ladies and gentlemen, that is all the time we have for questions today. I would like to turn the conference back over to Mr. Bill Currens for closing remarks.

[Bill Currens:]

Thank you. Before we end today, let me point out that with both rate cases in the Carolinas likely to be decided later this year, rather than have an analyst meeting in November, we will have one in February in New York City. This meeting will be after we have announced our 2009 fourth quarter and year-[Author ID1

[Operator:]

Ladies and gentlemen, that does conclude today's conference call. We'd like to thank you all for your participation.