Evergy, Inc.
Q2 2020 Earnings Call Transcript

Published: 10 Aug 2020

[Operator:]

Good morning, ladies and gentlemen and welcome to the Q2 2020 Evergy Incorporated Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to hand the conference over to your host, Ms. Lori Wright.

[Lori Wright:]

Thank you. Good morning, everyone and welcome to Evergy’s second quarter call. Thank you for joining us this morning. Today’s discussion will include forward-looking information. Slide 2 and the disclosure in our SEC filings containing list of some of the factors that could cause future results to differ materially from our expectations and include additional information on non-GAAP financial measures. The releases issued this morning along with today’s webcast slides and supplemental financial information for the quarter, are available on the main page of our website at investors.evergy.com. On the call today we have Terry Bassham, Evergy’s President and Chief Executive Officer; and Tony Somma, Executive Vice President and Chief Financial Officer. Other members of management are with us and will be available during the question-and-answer portion of the call. I will now turn the call over to Terry.

[Terry Bassham:]

Thanks, Lori, and good morning, everybody. We’ve got a lot of positive news to discuss today, including our new sustainability transformation plan and solid second quarter results. So our new plan sets the stage for significant value creation and a strong future for Evergy and our stakeholders. We’ll begin today’s call with a deeper dive into the STP and its benefits, then move to the quarter and your questions. Turning first to Slide 4, as you know, earlier this year, the Board established a new Strategic Review & Operations Committee to evaluate and recommend ways to enhance value for our shareholders and all of the company’s stakeholders. Among the options considered were a potential strategic combination and a modified improved stand-alone operating plan and strategy. Both the committee and the Board, as a whole, were well advised in these efforts with each retaining independent financial advisers and consultants to assist in the review. The work over the past 4 months has been extensive. The committee and our financial advisers engaged with a number of third parties who may have been interested in a combination. We also took a fresh look at each element of our operating plan, including our investment priorities, our opportunities for cost savings and operating efficiencies and how and where we allocate capital. Throughout the review, we were focused on 3 core objectives

[Tony Somma:]

Thanks, Terry. Good morning, everyone. I’ll start with Slide 17. We reported second quarter 2020 GAAP earnings of $0.59 per share compared to $0.57 per share in the second quarter of 2019. The increase in EPS is primarily due to warmer weather, lower operation and maintenance expense and fewer shares outstanding, partially offset by the negative impacts of COVID-19 and the income tax legislation in Kansas. As Terry mentioned, effective January 1, 2021, public electric utilities in Kansas will become income tax exempt. As a result, in June, we booked $13.8 million of income tax expense from the impact of revaluation of deferred income tax assets and liabilities not recovered in rates from non-regulated operations and from the difference in the statutory tax rates recovered through rates and the consolidated income tax rate. While we plan to file for a change in income tax expense reflecting the rates effective January 1, 2021, the new law allows for Kansas Utilities to recover in a regulatory account, any over or under collection of income tax expense as a result of a change in state or federal law. Moving on to adjusted non-GAAP earnings, which were $0.68 per share compared to $0.58 per share in the same period a year ago. As shown in the chart on Slide 16, adjusted EPS was driven higher primarily due to favorable weather, lower O&M and fewer shares outstanding and was partially offset by lower weather-normalized sales primarily due to COVID-19, which we estimate cost us about $0.08. Turning to weather, compared to last year, we estimate weather favorably impacted earnings by $0.10 in the quarter. And compared to normal, we estimate earnings were helped by about $0.06. Moving on to Slide 18, I’ll touch on year-to-date results. Year-to-date GAAP earnings were $202 million or $0.89 per share compared to $239 million or $0.96 per share in the same period last year. Adjusted earnings were $248 million or $1.09 per share compared to year-to-date 2019 adjusted earnings of $251 million or $1.01 per share. Primary drivers compared to last year include lower sales primarily due to COVID-19, which we estimate cost us about $0.09, higher depreciation expense and increase in interest expense, partially offset by lower O&M expense and fewer shares outstanding. Our team continues its focus on operational efficiency to lower operating costs and exceed our savings targets. In the second quarter, we reduced our adjusted O&M by $25 million and through the first half of the year by $62 million. That equates to more than a 10% reduction in adjusted operating costs for the first 6 months of operations in 2020 as compared to last year. As far as merger savings go, we remained ahead of schedule and expect to exceed our initial 2020 merger savings target. These savings were gained without sacrificing operating capabilities, and we recently announced another voluntary exit program for our employees. As for weather compared to last year, we estimate weather was $0.02 unfavorable year-to-date and compared to normal, we estimate earnings were flat. On Slide 19, I’ll give you some details on the sales impact from COVID-19. Commercial industrial sales declined, reached a trough in April and started to improve in May and June, all the while being partially offset by increased residential usage driven by folks staying at home. These trends are consistent with what we observed as businesses started to reopen throughout the quarter. For the second quarter and compared to the same period last year, our estimated weather-normalized total retail sales were about 7% lower, residential sales were up about 5%, while commercial and industrial sales declined 13% and 12%, respectively. We remain optimistic in terms of our local economy suddenly reopening, however, it’s hard for us to predict if the situation will continue to improve or take a step back depending on the future impacts of the virus. Moving on to Slide 20 in our latest financial activities and liquidity, as you may recall, we announced on April 2 that Evergy Kansas Central issued $500 million of 30-year first mortgage bonds at 3.54%. Proceeds were used to redeem $250 million of 5.1% of bonds that matured midyear. In May, Evergy Metro issued $400 million of 10-year mortgage bonds at 2.25%. This financing activity allowed us to pay down short-term debt at very attractive longer term rates and further bolster our liquidity position. We ended June with total liquidity of approximately $2 billion and do not expect new issuances or refinancing activity throughout the remainder of the year. As Terry discussed, we were able to fund our new plan without any new equity issuances and maintaining a solid investment-grade profile. Now wrapping up on Slide 21, for reasons we stated on our year-end call, we did not issue any earnings guidance for 2020. Accordingly, now we are issuing 2020 GAAP EPS guidance of $2.66 to $2.86 and adjusted EPS guidance of $2.90 to $3.10. we are still expecting a decline in year-over-year weather-normalized sales. Our outlook assumes a slow and steady recovery throughout the third quarter and fourth quarter. Some of the additional drivers would include a reduction of 8% to 1% adjusted O&M expense compared to 2019, depreciation expense around $20 million to $30 million higher than last year. COLI proceeds of $20 million and we received roughly about $4 million through the end of June and an effective tax rate of 13% to 15%. I will now turn the call back to Terry.

[Terry Bassham:]

Thank you, Tony. Now we will be happy to take your questions.

[Operator:]

[Operator Instructions] Your first question comes from Shahriar Pourreza from Guggenheim Partners.

[Shahriar Pourreza:]

Good morning, Terry and Tony. How you are doing?

[Terry Bassham:]

Good morning. Good.

[Tony Somma:]

Good morning.

[Shahriar Pourreza:]

So a couple of questions here. First, it’s obviously a very robust plan you have put out there. Has there even been any partial varying with Missouri and Kansas? If you had any sort of conversations with the commissions? Obviously, you have a 5-year base rate phase in Kansas and conversations we have had with both commissions in the past seems to center on them wanting a fully embedded regulatory process in place before enacting plans like this. So what’s the right podium to seek recovery? The timing of when you think you will seek recovery? And what sort of gives you the sense that the plan is going to be palatable for them? And any sense on the bill impact on this plan?

[Terry Bassham:]

Yes. So first of all, Shahriar, yes, we have been talking to our regulators. Recall, in particular, on the Kansas side that the investigation, if you will, with the request by the staff to setup the docket was specifically addressing these issues. And if you recall, we actually supported confidential sharing of information with the staff only, but we have been talking to them along with this kind of dialog for several weeks. And in fact, they have made it clear that they don’t have a preference for a strategic versus stand-alone plan to evaluate both. And in general, and going through the materials that have obviously been worked on by the SROC and the board, they have made it clear that their filing was addressing – the original filing was addressing the concern over the public information that was in the Elliott letter and outlined their concerns there. We are very confident that the STP was prepared with those points in mind, and that we will have them involved in what’s expected to be a very good stakeholder process to discuss all of these issues. We think the STP will meet each of their concerns going forward. What the process look like, we have talked about a stakeholder process that would involve the kind of things you mentioned, the regulators might want, which is long-term energy plan as a base for that conversation, but now obviously, we have the STP as well to discuss. We are excited about the opportunity that it provides us for not only additional O&M activity to drive costs, but also investment in things that will drive better reliability and more certainty for customers and also provide us with ability to move forward with our decarbonization efforts and that stakeholder process will provide us with a lot of support when we go to work on regulatory and legislative support for that. And finally, I think your last question was bill impact. I think we – we believe that the bill impact will be very low and in fact, in Kansas, in particular, less than inflation. Could be slightly higher in Missouri simply because of the PISA piece of it, but it would be again lesser as well.

[Tony Somma:]

This is Tony, Shahriar. We are under the PISA cap.

[Terry Bassham:]

Yes, certainly under the PISA caps.

[Shahriar Pourreza:]

Got it. Perfect. That’s helpful. And then just – this is going to take some time for you guys to go through this process. Can you just maybe talk a little bit about the profile of that 6% to 8%? Should we assume it’s a little bit more back-end loaded as you seek recoveries? I mean, i.e., is the increase in that growth rate driven by the back half of ‘24? And then just on top of that, about $700 million of that capital growth opportunities is kind of predicated on LTEP spending, which may or may not transpire. So do you still feel that kind of with the plan you have, you have enough levers in place to sort of hit that 6% to 8% if the LTEP spending doesn’t really transpire?

[Tony Somma:]

Hey, Shahriar. So as far as the profile, the 6% to 8% is not going to be perfectly linear. As you mentioned, we have a little bit of back-end lift just from the rate case is going into effect. Missouri rates would go into effect starting probably January 1 of ‘23, Kansas, a year after that. So it’s not going to be perfectly linear. As far as the LTEP spending goes, if we are not able to effectuate spending on those assets, we have plenty in the future that we could pull forward, that we can spend money on of other investment opportunities, whether it be grid modernization and grid hardening, etcetera.

[Terry Bassham:]

Shahriar, we have talked about before having a backlog there, but certainly the process we have been through over the course of the last 3, 4 months has given us a lot more visual, if you will, to a 10-year plan of again modernizing the grid and upgrading the reliability and technology and customer focus programs.

[Shahriar Pourreza:]

Got it. Terrific guys. I will jump back in the queue and allow others to ask. Thanks guys.

[Operator:]

Your next question comes from Durgesh Chopra from Evercore ISI.

[Durgesh Chopra:]

Hey, good morning, team. Thanks for taking my question.

[Terry Bassham:]

Good morning.

[Durgesh Chopra:]

Maybe to the extent that you can comment on this, can you maybe provide us a little bit more color on the strategic review process? Did you actually receive offers of combination? And if you did, then ultimately you decided to go ahead with the stand-alone plan. I don’t know, I am not sure if you can actually comment on that or not, but just any color on that process would be appreciated?

[Terry Bassham:]

Yes. What I would tell you that the committee conducted a robust and comprehensive process. We had advisors for both the committee and for the company. And yes, we did engage with a number of third-parties. And without getting into a lot of the detail, in the end, the committee and the board both agreed that based on that work and that review that our stand-alone plan produced a better long-term shareholder return profile and that was absolutely the best way to move forward.

[Durgesh Chopra:]

Understood. Appreciate that. Appreciate that. And then maybe just real quick, and I will jump back in the queue. You mentioned a couple of additional opportunities, including renewable – on the renewable front outside of this current CapEx plan, what sort of – what should we – what are the timelines for those? What are the milestones that we should be looking out in terms of you getting approval for those kinds of expenditures?

[Terry Bassham:]

Yes. So I will let Kevin Bryant talk a minute about the opportunities. He worked on the – that portion of the SROC STP work.

[Kevin Bryant:]

Yes. So in terms of the opportunities, we laid out a slide in the deck that describes in more detail kind of grid mod. But it’s all the things you would expect, I mean, updating conductors, poles, circuit breakers, aging infrastructure. So timeline-wise, we also plan to file our integrated resource plan in the first quarter of next year. And so we also describe our long-term energy plan process that Terry mentioned, which is working with stakeholders through the balance of this year to build support and ultimately file that integrated resource plan, which will set the generation planning expectations for the foreseeable future. So that’s probably the biggest, most notable milestone timeline-wise I would point to you.

[Durgesh Chopra:]

Understood. Thanks guys. I will jump back in the queue. Thank you.

[Terry Bassham:]

Thank you.

[Operator:]

Your next question comes from Julien Dumoulin-Smith.

[Julien Dumoulin-Smith:]

Hey, good morning, everyone. Thanks for the time. I appreciate it.

[Terry Bassham:]

Good morning.

[Julien Dumoulin-Smith:]

Hey, howdie? Perhaps if I can jump in a little bit, I see a lot of discussion on distribution spending, etcetera. Can you talk a little bit more about coal retirements, securitization, specifically in the context of legislation in those states and how that might eventually fit into this plan, both in terms of incremental opportunities as well as to what extent that is already reflected or assumed in order to make those generation renewable investments that you have identified?

[Terry Bassham:]

Yes. I am going to ask Chuck Caisley, who leads our community regulatory legislative process. So Chuck?

[Chuck Caisley:]

Yes. I mean, securitization has been an issue that has been filed both in Missouri and in Kansas over the last couple of years. And we have been in conversation with multiple stakeholders over the last 6 months and believe that in the next year or so passing securitization would be something that is achievable in both states. And in fact, as recently as this morning and yesterday, we have had conversations with legislative leaders in both Missouri and Kansas that we believe that the stakeholder coalition exist to move that forward positively. Obviously, when you are talking about dealing with retiring coal assets, a mechanism for recovery on something like that would be a necessary precursor to be able to effectuate that part of the plan.

[Julien Dumoulin-Smith:]

Just to clarify, your current plan does not assume legislation/securitization in terms of what that would lead you for the slated CapEx here?

[Chuck Caisley:]

So on the very back end of the plan, it assumes a couple of year process to work through the securitization and ultimately regulatory processes. It does assume retirement of some coal in the back end of the plan and investment in renewables. I think it’s in the 2024 time period.

[Julien Dumoulin-Smith:]

Thanks for clarifying that. And if I can just clarify further on the EPS CAGR. How do you think about how ratable that is against that specific target? I know that there could be some lumpiness you obviously have some pretty ambitious O&M targets. I mean should we expect to see this ratably especially in the near years or do you think that this is more back end weighted?

[Tony Somma:]

Hey, good morning, Julien. This is Tony. As I said earlier, it’s not going to be perfectly linear. There will be a little bit lift on the back end simply because that’s when new rates are going to go into effect. In the interim period, we will rely on reducing our O&M that will improve our cash flows to help fund this – on this investment thesis.

[Julien Dumoulin-Smith:]

Okay, alright. I heard earlier about this. Thank you very much. I appreciate it.

[Operator:]

Your next question comes from Steve Fleishman with Wolfe Research.

[Steve Fleishman:]

Yes. Hey, good morning. I guess, first question on the strategic decision. Maybe you could give some color from the standpoint of you mentioned that you think this plan gave the best value. But how much was kind of the risk of approval of a third-party plan part of the decision making? So there is value, but there’s also risk. How much was at risk versus value?

[Terry Bassham:]

Well, obviously, Steve, probably the greater risk part of the process would have been on the bidder side. So obviously, they would look at their opportunity for success in making bids. In the end, as you look, it always affects both. But there is – certainly, we think the stand-alone plan as we presented today is less risky and more likely to be successful and create more value than a merger situation based on the information we gathered through the process we went through.

[Steve Fleishman:]

Okay. And then on the Kansas side, the review of the information that they asked for and the like as you have given this new stand-alone plan, is there any process that’s kind of expected after you give this to them in terms of kind of reviewing the stand-alone plan or is that just do you expect that they’re just going to take the information and kind of move on from that?

[Terry Bassham:]

So what I would expect is – I’m sorry. Did I interrupt you?

[Steve Fleishman:]

No, no. Thank you.

[Terry Bassham:]

No, what I would expect is, number one, as part of the investigation, we are required to provide a report once a decision is made. And so we will be filing a report in the coming weeks that outlines the outcome of the process. So they’ll receive that. And then what we expect is that the commission staff would participate with other parties in our stakeholder process that will be going through this plan as well as the long-term energy plan. And that’s where we would expect to be able to talk about that. And as I’ve said, obviously, they’ve already seen the information that the board and the SROC saw. So we certainly are in front of them from that perspective. And I think based on all that, we would expect to see through the fall a review and input from stakeholders. One of the opportunities here that I mentioned in my comments is the ability to move up decarbonization in our fleet. And although there needs to be some legislative regulatory work done there, we believe based on our conversations that both states have been supportive of that conversation. So we would continue to have that with them as well as it applies to ultimate approval of the rate case part or recovery parts of the STP.

[Steve Fleishman:]

Got it. And then one last question and I apologize to ask about the kind of ratability of the growth again. But – so year one of the growth 2020 is obviously well below the 6% to 8%, if you look at your 2020 guidance, I assume due to COVID. But just as – is it fair to say besides the year one, are the other years all generally in that 6% to 8% range? Just can you maybe give us some sense of the extent of the hockey stick, so to speak?

[Tony Somma:]

Hey, Steve, this is Tony. They’re may be on the lower end of the range in the first couple of years as we’re ramping up spending on the capital side and the offsets we would look to O&M to help obviously reduce that regulatory lag. And then on the back end, obviously, we’re filing rate cases. And so you’re going to get a bit of a lift for those rate cases going into effect in 2023 and 2024.

[Terry Bassham:]

I would not characterize it as a hockey stick, though.

[Steve Fleishman:]

Right. Okay. So it’s kind of the 6% to 8% and just maybe in the lower half the beginning and then upper half at the end or something like that roughly?

[Tony Somma:]

Yes. That’s the trajectory, if you will.

[Steve Fleishman:]

Perfect. That’s helpful. Thank you.

[Terry Bassham:]

Thank you.

[Operator:]

Your next question comes from Michael Lapides with Goldman Sachs.

[Michael Lapides:]

Hey, guys. Thank you for taking my question, and congratulations on a good quarter. I have an easy one, which is when you think about where we are in the business for 2021, maybe ‘22, the biggest opportunities for O&M or G&A cost reduction or cost management are off of the level you’re going to hit in 2020. I don’t want to look back to 2018 that was a long time ago. I am going to use this year. Where do you think the biggest cost reduction opportunities for year one or year two of this plan really lie within the business?

[Tony Somma:]

Hey, good morning, Michael. This is Tony from the STP plan perspective, roughly 30% of the savings will come on the generation side, another 30% on the T&D side, about 20% coming from the G&A and then 10% from IT and 10% coming from monthly customer care. Those are kind of the approximate breakout percentages of O&M reduction.

[Michael Lapides:]

And that’s over the 5 years or is that in the next year or so? Is that...

[Tony Somma:]

That’s over the 5-year horizon.

[Michael Lapides:]

Okay. What about the first couple of years? Five years is a long time away where the world is going to change 10 times in five years. So I’m just trying to think about what happens in the next one or two?

[Tony Somma:]

Well, we’ll be executing on that plan, and I don’t know that in any particular period. One functional area is going to outdo the other as far as cost savings go. Part of the work over this process is that we’ve done a deep benchmarking and spent time reviewing those areas. So it gives us a lot of clarity around where those things would come from.

[Michael Lapides:]

Got it. And when you think about plant retirements, do you see material plant retirements in the next, call it, two years to three years or is that more kind of back end loaded?

[Terry Bassham:]

Yes. The plant retirements we will be talking about are obviously coal plants that address CO2 issues and that fits in with the discussion around securitization and regulatory processes that would support that process being moved up. So it would not be closures in the next couple of years.

[Michael Lapides:]

Got it. Thank you. And one last question and it’s a little just kind of detail-oriented stuff. Any plan regarding what you want the level of holding company debt versus operating company debt to look like over time and kind of where you are today versus where you would like to be?

[Tony Somma:]

So Michael, we would like to kind of stay around that 20% holding company debt compared to the total debt outstanding. It’s kind of a Moody’s metric and we’re a lot below that today.

[Michael Lapides:]

Got it. Thank you, Tony. Much appreciated. Thanks guys for taking the questions.

[Tony Somma:]

You’re welcome.

[Terry Bassham:]

Thank you.

[Operator:]

[Operator Instructions] Your next question comes from Paul Patterson with Glenrock Associates.

[Paul Patterson:]

Hey, good morning.

[Terry Bassham:]

Good morning, Paul.

[Paul Patterson:]

Just a few quick follow-ups. What was the gating factor that – I mean, obviously, you guys have always been looking at CapEx and modernizing the grid and opportunities in that area and what have you. But what was the gating factor that said, hey, we can do this and increase our earnings and everything? Was there any crucial factor, I guess, that sort of led you to this or could you give us a little bit more of a flavor as to what the strategic review did in terms of eliminating these opportunities for you?

[Terry Bassham:]

Yes. So there is no one single factor. Obviously, first and foremost, we have commitments we made under the merger approvals in both our states. And so that was a beginning spot that we’re absolutely going to be sure we could meet under any revised plan scenario. Secondly, we continue to work to make our cost to customers more competitive and continue to reduce when compared to our regional peers, that’s through our – again commitment around the freeze in the merger. And so those two things were extremely important. We also wanted though to be able to within that context to be able to drive additional investment, which would allow us; number one, to grow the business for shareholders’ benefit, but also begin to update the grid and decarbonize at a quicker pace. So I’m not giving you more than a several but they all had to fit together. And I think that was the key is if the work was how do we bring those together and do it in a fashion which improves upon our ability to invest our growth rate, but yet doesn’t raise rates for customers, as I said, above inflation in Kansas, takes advantage of PISA, which was there as a avenue that Missouri supports. And then when you put all that together to be able to see how that might compare to other options. And we were very confident that this STP is absolutely the better option in front of us today for long-term shareholder value.

[Paul Patterson:]

Okay. Fair enough. The inflation rate – so when we are talking about the customer impact in Kansas, we are expecting something in the neighborhood of what inflation is in that, what’s that? Is that 2%? Is that what you guys are looking at or is it something else?

[Terry Bassham:]

It’s kind of the CPI, Paul. I mean, in that zipcode, 2.5 or so.

[Paul Patterson:]

Okay. And then finally the 90-day – the information sharing agreement could you elaborate a little bit on what that’s about, I guess?

[Terry Bassham:]

Yes. If you look at how the plan was originally put together, we were moving forward with both path one and path two, if you will, as I recall. But we extended the time for a review of strategic options when COVID occurred. And so we began our work and completed our work on the STP opportunity. And once we came to a conclusion on the strategic opportunity, we thought it best to make the announcement to shareholders. There is still a piece of the SROC charter, which discusses their continued work with the board to make recommendations around benchmarks and KPIs for tracking success of the STP and to assist and collaborate with the board on the optimal management team. And so those things had not been done yet. And so we agreed to with it around a 90-day period for that to be done.

[Paul Patterson:]

Okay, great. Thanks so much for the info.

[Terry Bassham:]

Thank you.

[Operator:]

I am showing no further questions at this time. I would like to turn the conference back to Mr. Terry Bassham.

[Terry Bassham:]

Thank you, and thank you everybody for joining. Obviously, we are excited to be moving forward with the STP. We look forward to working with our regulators and our stakeholders. And we look forward to talking to each of you more as we continue to progress down our path. So thank you very much for joining. Look forward to talking to you in the future.

[Operator:]

Ladies and gentlemen, this does conclude today’s conference call. Thank you for participating. You may now disconnect.