Fortis Inc.
Q2 2015 Earnings Call Transcript

Published: 1 Aug 2015

[Operator:]

Ladies and gentlemen, thank you for standing by. This is the conference call operator. Welcome to the Fortis Second Quarter 2015 Conference Call and webcast. During the call, all participants will be in a listen-only mode. There will be a question-and-answer session following the presentation. [Operator Instructions] At this time, I would like to turn the conference over to Donna Hynes, Director, Investor and Public Relations, Fortis Inc. Please go ahead, Ms. Hynes.

[Donna Hynes:]

Thank you, and good morning, everyone. Fortis participants on the call this morning are Barry Perry, President and CEO; and Karl Smith, Executive Vice President and CFO; as well as additional members of our senior management team. This conference call is webcast, and the supporting slideshow is available on the Fortis, Inc. website at www.fortisinc.com. A replay of the call will be available later today, and the transcript will be posted to our website shortly thereafter. Our second earnings release and related materials are also available on our website. I would like to remind you that all forward-looking information provided during this conference call is subject to the forward-looking statement contained in the supporting slideshow. All non-GAAP financial measures referenced in our prepared remarks are reconciled to the related US GAAP financial measures in the slideshow. Also, unless otherwise specified, all financial information referenced is in Canadian dollars. Barry Perry will begin with a corporate update, and then Karl Smith will review the financial results in detail and discuss regulatory matters. The presentation will be approximately 15 minutes, after which time we will turn the call over to the conference operator for questions. During the question-and-answer period, we will take questions from the investment community first, followed by the media, if time permits. In order to provide everyone with an equal opportunity to participate, we ask that you limit yourself to two questions. If you have additional questions, please re-enter the queue. Also, we ask that you focus your questions on our industry, our corporate strategy, recent developments and key elements of the Corporation's financial performance. If you have any detailed questions, please follow-up with us after this call and we would be pleased to discuss them with you at that time. I will now turn the call over to Barry Perry.

[Barry Perry:]

Thank you, Donna. And good morning, everyone. Fortis had a very strong second quarter and delivered record earnings. During the quarter we sold a number of non-core assets resulting in significant gains. Additional key drivers were earnings of $52 million from UNS Energy, $12 million contribution from the start up of the Waneta generating station and strong results from our other utilities. Our focus during the quarter was primarily in two areas, our $2.2 billion annual capital program which is well advanced with $1.2 billion spent in the first half of the year, and the sale of our non-core real estate hotel and small hydroelectric assets. The $430 million sale of the commercial real estate portfolio closed on June 30th. We sold our small hydroelectric plant in New York in June and in Ontario in July for a combined price of $93 million. And in early July we announced that we had signed an agreement with a private investor group to sell the hotel portfolio for $365 million. The sale is expected to be completed in the fall of 2015. Looking at the entire year, Fortis is well positioned for a strong 2015, given the combination of a full year of earnings from UNS Energy, the implementation of new rates at Central Hudson in July after a two-year rate freeze, contribution from the Waneta generating station, resolution of capital tracker matters at FortisAlberta and a strong US dollar. Following a decade of growth driven mainly by acquisitions, 2015 also kicks up a period of significant organic growth for Fortis. The $900 million, 335 megawatt Waneta generating station in British Columbia came online in early April, six weeks ahead of schedule and on budget, while maintaining an excellent safety and environmental protection record. This investment is where Fortis holds of 51% controlling interest is supported by 40 year purchase agreement with BC Hydro and the corporations wholly owned subsidiary FortisBC. Contribution from the Waneta generating station is expected to be in the range of $20 million to $25 million annually. Construction of the $440 million Tilbury Phase 1A project in British Columbia is proceeding as planned. This expansion will add a second storage tank and new liquefier and will provide natural gas for the transportation industry for remote communities and for the market place in general. Investment will be included in FortisBCs regulator rate base. Completion is expected before the end of 2016. We also continue to invest prudently in our existing electric and gas networks to ensure safe reliable and cost efficient energy services to our customers. In all, our forecasted $2.2 billion capital expenditure program, represents an increase of almost 30% over 2014. Turning to our potential LNG opportunities; there is considerable interest for LNG supply from the Pacific Northwest, Hawaii, Alaska and other international markets. FortisBC is well positioned to meet this growing demand. Two significant LNG infrastructure project are currently being pursued. First; our Tilbury site has 35 acres of LNG's owned land with ocean access that is suitable for further expansion. FortisBC is working towards a possible further expansion at the Tilbury site referred to as Tilbury Phase 1B. The company continues to have discussions with Hawaiian Electric which is expected to be the primary updater [ph] regarding the scope and the viability of the project, and the result in agreement would be subject to the approval by the Hawaii Public Utilities Commission. And second; FortisBC continues to move forward with an opportunity to expand its pipeline and compression infrastructure to the Woodfibre LNG site near Squamish, British Colombia. Woodfibre is a privately owned LNG processing and export facility that is expected to be operational by 2019. The owner of the export facility is targeting to finalize its investment decision by the end of 2015. Combined capital expenditures of over $1 billion for these two potential LNG projects have been approved by the Government of British Columbia. Looking over to five year horizon, our capital expenditures for 2015 through 2019 are expected to exceed $9 billion, driving a 40% increase in forecast midyear rate base from $14 billion in 2014 to $19.5 billion in 2019. This would represent a five year compound annual growth rate of approximately 6.5%. If you include the Tilbury Phase 1B project and the pipeline expansion to the Woodfibre LNG site the five-year CAGR would rise to approximately 7.5%. Over this five year horizon, we expect our capital investment will support continuing growth in earnings and dividends to our common shareholders. Fortis has successfully navigated a period of transformative change. We expanded into the US utility markets through the acquisitions of UNS Energy and Central Hudson, Waneta generating station online and considerably progress the sale of non-core assets. Looking ahead our near term focus will be providing safe, reliable and cost efficient energy services to our customers, executing corporations capital expenditure program, navigating through our regulatory proceedings which Karl will discuss shortly, progressing our LNG opportunities and closing the hotel portfolio of sale. Post-closing virtually all of the act for Fortis will be regulated utilities or long-term contracted energy infrastructure. In all, I am very optimistic about our prospects for 2015 and beyond. And with that update, I’ll now turn things over Karl who will discuss our financial results and key regulatory matters.

[Karl Smith:]

Thanks, Barry. Good morning, everybody. Earnings attributable to common equity shareholders for the second quarter were $244 million or $0.88 per common share, compared to $47 million or $0.22 per common share for the second quarter of 2014. As Barry mentioned, UNS Energy and the start up of the Waneta generating station had a positive impact on our quarter two results. When comparing these results to last year, several non-recurring items must be considered. The slide now being webcast provides an analysis of second quarter adjusted earnings and adjusted earnings per common share. It removes from our results the following four items, a net gain of $123 million related for the sale of non-core assets, acquisition related cost incurred in second quarter of 2014, pertaining to UNS Energy transaction, foreign exchange losses on the expropriated investment in the lease electricity and a FortisAlberta capital tracker revenue adjustment. On this basis, adjusted earnings for the second quarter were $123 million or $0.44 per common share, compared to $65 million or $0.30 per common share for the same quarter last year. The increase in second quarter adjusted earnings and adjusted earnings per common share reflects a contribution by UNS Energy of $52 million, representing accretion of $0.09 per common share, as well as a $12 million contribution from the Waneta generating station and strong performance at our other utilities. These positive impacts were partially offset by increased corporate expenses due largely to financing costs associated with the acquisition of UNS Energy. Given that approximately 50% of our quarter two revenue originated in US dollars, the strength in US dollar is also having a positive impact on our financial results. Turning now to our financing highlights. Net proceeds from the sales of non-core assets have been used to repay credit facility borrowings. We expect to apply the net proceeds from the pending sale of the hotels in a same way. Together these transactions will complete all of financing associated with the acquisition of UNS Energy. In the first second quarter, the corporations utilities issued in excess of $200 million of long-term debt at attractive rates. This included $150 million of unsecured debentures issued by FortisBC Energy. In April UNS Electric and UNS Gas entered into agreements to issue in August 2015 a total of US$125 million of unsecured debt. And in June, Fortis injected US$180 million of equity into Tucson Electric Power. The equity injections fulfilled one of the commitments made by Fortis to obtain regulatory approval for the acquisition of UNS Energy, an increase of Tucson Electric Power’s equity thickness to almost 50% which is comparable to other regulated utilities in Arizona. Moving on to liquidity, cash flow from operating activities was $468 million for the second quarter, an increase of $147 million or 46% compared to the second quarter of last year. This increase reflects higher cash earnings driven largely by UNS Energy. Fortis has a life debt maturity profile with fixed term debt maturities and repayments expected to average $200 million annually over the next five years. Additionally at June 30, 2015, Fortis and its subsidiaries had unutilized committed credit facilities of $2 billion providing ample liquidity. Fortis continues to have strong access to capital. At the parent level we are rated A minus by S&P and A Low by DBRS, both with a stable outlook. These ratings which are among the highest for utility holding companies in North America are supported by our low risk business profile and our strong capital structure, which on a consolidated basis at June 30, 2015 was 36% common equity, 9% preferred equity, and 55% debt. It has been a very busy period on the regulatory front. In June Central Hudson received a decision on this general rate application. The new plan covers a three period beginning July 1, 2015 and follows a two year rate raise. Under the rate plan, Central Hudson's allowed return on equity set at 9% with a common equity thickness of 48%. The rate plan also provides capital expenditures of approximately US$490 million over the three year period, which are targeted at enhancing the reliability of the electric and gas distribution systems. Reforming the energy vision proceedings are ongoing in New York State. These are generic proceedings aimed at reviewing the role of distribution utilities and allowing their investments and earnings with state policy goals. The program is included in Central Hudson proposal and supported these proceedings that are currently under review by the regulator. FortisAlberta filed an application in May for 2016 and 2017 capital tracker revenue. This follows a regulatory decision in March 2015 that approved revenue for substantially all of its 2013 through 2015 capital records that’s filed. Generic Cost of Capital proceedings have commenced in Alberta to set allowed return on equity and capital structure for the years 2016 and 2017. FortisBC Energy is required to file an application by November 30 this year to review the 2016 benchmark return on equity and common equity component of capital structure. Newfoundland Power is acquired to file a general rate application on or before October 16 in order to set 2016 rates. And finally in June Tucson Electric Power announced its plan to file a general rate application before the end of this year, requesting new rates to be effective January 1, 2017. Since its last rate order in 2013 which was based on a 2011 test year, the utilities rate base is grown by approximately US$800 million. That concludes my prepared remarks and I'll now turn things back to Donna.

[Donna Hynes:]

This concludes the Fortis, Inc. second quarter earnings presentation. I will now ask the conference call operator to please open the lines for the Q&A segments of the call.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from the line of Paul Lechem with CIBC. Please proceed with your questions.

[Paul Lechem:]

Thank you. Good morning. Karl, you mentioned couple of regulatory filings by the end of this year at Tucson Electric and in FortisBC and FortisAlberta. Can you just give us a sense of what you're likely to be asking for relative to where you're at today in terms of returns and equity thickness?

[Karl Smith:]

Yes. Thank, Paul. That hasn’t been as retained with respect to the Tucson Electric filing. That filing is not made Paul. It will be made later this year. And so I am reluctant to talk about what the specifics of that filing maybe. In terms of Alberta and BC those are generic cost of capital proceedings and again we're in the midst of putting together our evidence with respect to what the – what we'll be asking for there. So I am going to have to differ on that question for probably another month or two Paul.

[Barry Perry:]

Yes, Paul just to add on TEP, clearly we are moving our equity up from 43% approximately to closer to 50%. So that will be big part of that case and hopefully we can get a reasonable result there.

[Paul Lechem:]

Okay. Thanks. And just on UNS, can you talk about the long-term switching from coal to either distributed or gas generation. Can you give us any updates on what's going in that front, where Arizona is trying to get to in terms of any proposals from EPA, what you see in terms of coming investments in that region for you?

[Barry Perry:]

I am going to make a general comment on that Paul, and Dave Hutchens is on the phone as well, who is our CEO down there. But clearly UNS has got a program to diversify away from its coal generation over time, while continuing obviously to utilize these assets. They do provide a good source of low cost power to our customers. Most recently we purchased the Gila River, which is a 550 megawatt gas - combined cycle gas turbine which we'll bring into rate base between UNS Electric and TEP. And that’s a good example of some of the things we're doing to sort of I guess reduce the percentage of coal generation in our fleet down there. Dave, you might want to just comment on, I guess there is pending announcement coming from EPA very shortly.

[David Hutchens:]

Certainly, Barry. Thanks for the question Paul. I would just add, just a couple of things. One is over the next five years we'll be reducing our coal as from a - on a capacity perspective by a third, not going down from about 1500 megawatts to the Charleston [ph] and that includes reductions at Springerville, San Juan and a local sub generating facility, which when you put all that together when you look out in 2020 our CO2 reduction as a – when you look at it there is some perspective of tons per megawatt hour, reduced by 25%. So we have already taken significant actions related to our coal fleet, ahead of the pending clean power plan announcements, I guess it’s been leaked out, but it’s going to be next week that we see at least the first squash of the final rule. So we'll have more to say afterwards. We'd see that next week, but we think we're doing a good job and diversifying that portfolio over the next couple of years.

[Paul Lechem:]

Okay. Maybe just one final question related to that. Can we think that there might be upside to your CapEx plan and UNS over the next five year based on this I mean, is this a base plan that we should we look at or is there some upside CapEx that need to might come out this?

[Barry Perry:]

Let me just jump in there Dave. This is a base plan that – really in terms of what we have in our $9 billion related to UNS. I've challenged all of our companies Paul to find opportunities in their jurisdictions to increase our investment potential on Arizona and British Columbia, especially being our two largest regions. We are looking forward to finding more opportunities to invest in those regions. And I am optimistic about that, whether not, some of our opportunities are not progressed enough to include in our base forecast at this point in time.

[Paul Lechem:]

All right. Thanks a lot.

[Operator:]

Our next question comes from the line of Robert Kwan with RBC Capital Markets. Please proceed with your questions.

[Robert Kwan:]

Morning. Just on Central Hudson with new agreement. I guess the first question is, do you have a comparison of what the earned ROE was over the last 12 months?

[Barry Perry:]

It’s terrible, we don’t, can you give us a sense, I think we're down around 7%, 7.5%

[Karl Smith:]

Right. Yes, I think last 12 months is about 7, 3, so I think right in the center of that range, Robert.

[Robert Kwan:]

Okay. So we've got that list going into the9%. I am just kind of wondering as you think about going forward in your ability to at least keep completely to yourselves the first 50 basis points. What do you think within the business, obviously you've had for a little bit here in terms of cost and efficiencies, like how reasonable do you think you can get out at the first 50 basis points early on and do you have plans or if there is any other color beyond the 50 basis points as you get into the sharing, how easily or quickly you get into that?

[Barry Perry:]

Robert, first of all, I am just going to say something, I – we're very pleased with the settlement that reached in New York. Clearly after the two rate freeze it’s now we have this sort of clear path ahead of us for the next three years. And US$490 million of CapEx over those three year period is going to grow the rate base of Central Hudson substantially, obviously adding resilience to the system there and really working through some of these rev projects that Jim and his team are working on. So overall we do expect really positive results from the business over the next three years, as to whether we can achieve beyond the allowed returns, Jim do you want to comment on that? No pressure.

[James Laurito:]

Yes. Well, that’s exactly. I think Robert you know that the New York regulatory environment is challenging and earning you a loud return on equity there is a challenge and that’s what we always try and do. So you can bet that we're focused on that. We have a good track record at Central Hudson of achieving that and we expect to do so in the future.

[Robert Kwan:]

Okay. Great. But to be clear that’s kind of that 9% just risk having the operations that I don’t know, or maybe it’s Barry I know you kind manage everything locally. But I am sure you've taken a look at what's there. And are there certain things that that you think you can get out pretty quickly to try to get to the 50 basis points or do you think it’s still a bit of a struggle just to get to the 9 before you…

[Barry Perry:]

I won't say this, Robert the struggle, it’s a very large capital program for the utility executing on that will be a challenge and I am much have the confidence in Jim and his team to make that happen. But to outline that we would - we can achieve another 50 basis points above that at this point, I wouldn’t want to go there. Obviously the flexibility is to do that and if there are opportunities to streamline cost or take advantage of other revenue generating opportunities we'll be going there. But we do have a pretty aggressive three years ahead of us for Central Hudson at this point in time.

[Robert Kwan:]

Okay. And turning to Alberta, and the AUC proceedings on generic cost of capital. Just wondering with AUCs decision to leave 2016 open and not allow the current ROE just be rolled over to such that you can go to final rates on the 2016 applications. Do you see at as sign that there is a bit of a bias for additional downward pressure on the ROE?

[Barry Perry:]

I don’t see that as a sign, I think it’s – they are going to have another proceeding and we're going to go through it. Obviously each of those participants in the general cost to capital hearing will have their views. But we're going to argue our position and I think 8.3 is pretty low number frankly. So I would hope that that’s the below watermark.

[Robert Kwan:]

I guess there even, do you have thoughts as to given we are effectively into August at this point and that proceeding is just kicking off. Why the AUC was reluctant to not finalize 2016 given by the time your appetite will be a pretty significant carry back?

[Barry Perry:]

I have not an offer on that Robert. Phonse Delaney on the call who runs our Alberta operations. Phonse, do you have anything, was there any flavor about timing in terms of regulatory schedule anything like that?

[Phonse Delaney:]

Not really and same sort of question. It is a generic proceeding, the remaining is filed [indiscernible] We put our views before the commission and the commissions have approved that it was reopened and have a look at GSFT in 2016 to 2017.

[Barry Perry:]

So Robert, we can't offer anything there.

[Robert Kwan:]

That’s fair enough. Thank you very much.

[Operator:]

Your next question comes from the line of Matthew Akman [ph] with Deutsche Bank. Please proceed with your question.

[Unidentified Analyst:]

No, didn’t change teams.

[Barry Perry:]

We were wondering Matthew.

[Unidentified Analyst:]

No. No, to now Scotia Bank. Okay. Just following up on the Alberta regulatory situation, I mean, do you guys see, I know it’s a bit earlier in the process to generic cost of capital. Do you guys see filing the same kind of extensive evidence again and having to go through all of that administration this quickly or do you think this is going to be a little bit more summary type of evidence and a quicker procedure?

[Barry Perry:]

Matthew, I can't I answer that. I think we're going to put forward our evidence in a comprehensive way and there is obviously lots of things happening in Alberta and the various proceedings that sort of impact cost of capital and we're going to make sure that we put our views forward on those. So I think it’s going to be a full blown review frankly that’s my gut, right.

[Unidentified Analyst:]

Do you think there is an argument for increased to risk due to the oil and gas environment?

[Barry Perry:]

I think the economy is always a part of the discussion in this kind of hearing. So I do believe that that’s does come into play and the various, again proceedings that are going on in Alberta also, so I think it does.

[Karl Smith:]

I would expect that the other participants will follow the very comprehensive evidence as well. So yes, this is going to be a full blown one I think.

[Unidentified Analyst:]

Okay. And my only other question is around acquisition environment and what are you guys are seeing, it seems like the multiple run rate regulated utilities acquisitions are continuing to go ever, ever higher. So I am just wondering if in that context maybe potentially were some delays in some of the LNG CapEx is that something you guys would wade back into or you just - is the market context just too hot for you guys?

[Barry Perry:]

Matthew, we haven’t changed our stance on that. We're focused on delivering 2015 a strong year this year. We're not involved in any processes on the acquisition front in US at this point in time. And really – we're really focused on delivering good results this year getting these LNG opportunities going. That’s where our focus is.

[Unidentified Analyst:]

Okay. Thank you very much. Those are my questions.

[Operator:]

Your next question comes from the line of Paul, I am sorry, Paula Pant with Credit Suisse. Please proceed with your question.

[Paula Pant:]

Yes. Hi, good morning. With the backdrop on lower energy pricing are you guys seeing any changes in sort of demand in Alberta and with the new government also I am pleased, I would like to hear thought on in terms of future growth in that province?

[Barry Perry:]

Well, demand in our sector Paula as you know it’s been not that high for some time. You're looking at zero to 1% to 2% growth in that kind of area. CapEx was in Alberta, we are seeing - we are sort of probably seeing about 10% overall in our capital budget on an annual basis decline, but we're still are expanding in that $350 million to $400 million a year in CapEx in that region. As we have a very large system in Alberta that continues to require a lot of annual capital to sustain that system. So really just a sort of slight, I would say tweak in the growth rate there, still looking at growing around 6% or so for the next few years in that jurisdiction on the rate base side.

[Paula Pant:]

Thanks for that. And lastly, with regards to the UNS purchase you've diversified your asset base. How do you see your longer term asset mix in terms of this was between US, Canada, which there on I think 40% to 50% split with a little bit of their Caribbean and how do you see that mix going forward to enter the future?

[Barry Perry:]

Well, first of all we're pretty happy to have 40% of our office in the US right now. Our timing in the US acquisitions was absolutely stellar and we're getting the benefit from that strong US dollar. So I would look at it, first of all we move the company to almost a 100% regulated business right now and split 40% in the US, 50 plus in Canada. We're little bit in the Caribbean and some of these about 4% of our assets are the Waneta generating plant and our hydro plants in Belize. And I don’t see that changing that much going forward here, frankly that sort of 40 in the US, 50 plus in Canada, that’s generally where I come down I do see us over time really trying to capitalize on our franchise in regions and finding some incremental investments on sort of the non-regulated energy infrastructure, things like Waneta, like the tolling arrangement. We're trying to do with Hawaii for the Tilbury plant. These – I could see those becoming 10% of our overall assets over time, so you end up with that 90, 90, 10 kind of mix in the business. But it will be all energy related infrastructure and that non-regulated area.

[Paula Pant:]

Great. Thank you very much.

[Operator:]

Our next question comes from the line of Ben Pham with BMO Capital Markets. Please proceed with your question.

[Ben Pham:]

Okay, thanks. Good morning everybody. I am just thinking on the last question on the US and just a commentary about the currency benefits, both your initial expectation. I am just wondering when you think about shipping out that that currency benefit and you look at what you've been spending on the US side, Central Hudson, and UNS. Have those spending levels and the earnings organic expectations have they – how that they compare to your initial expectations?

[Barry Perry:]

I would say with Central Hudson Benefit, the initial couple of years were because we had agreed to the rate freeze. The CapEx was $200 million approximately it came over those couple of years, right. So that was a difficult period for the company. The approval conditions were tough for New York and we are now through that and the three year settlement with almost US500 million of CapEx, that I think was more consistent with what we were expecting. So we're pretty pleased with where we've come out there. And in terms of Arizona, it’s I would say, in terms of investment it is as expected at this point in time. But we are starting to see some real additional opportunities whether it be generation or transmission and generation in terms of like silver [ph] those kind of things that may come to us because we're operating in Arizona.

[Ben Pham:]

Okay. And then my second question is on Waneta. I am just wondering if you can remind me the variability on the hydrology, does that impact the earnings profile you mentioned that 20 or $25 million and can you also clarify that the seasonality, it looks like Q2 was pretty strong overall?

[Barry Perry:]

Yes, Q2 is the best quarter. There is very little hydrology risk in Waneta because as you know it’s part of the Canal Plant Agreement which allows BC hydro to dispatch the plant at a sea pace. And we in return get an annual entitlement as long as the plants are able to run. So there is virtually no hydrology risk in the operations. So we're looking at that, pretty stable earnings contributions from that plant on an annualized basis. But no question, Q2 is with the fresh add and run off that’s the best period for the plant.

[Ben Pham:]

Okay. Great. Thanks a lot.

[Barry Perry:]

Thank you.

[Operator:]

Thank you. As there are no further questions, I would like to turn the call back over to Mr. Perry for any closing remarks.

[Barry Perry:]

Thank you, operator. We have nothing for to add at this time. I want to thank all of you for participating in our Q2 earnings call. And we look forward to seeing you at our investor day in Toronto on October 6. Enjoy the rest of your day.

[Operator:]

Thank you for participating. Ladies and gentlemen, this concludes today’s conference. You may disconnect.