American States Water Company (AWR) Q1 2012 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by. Welcome to the American States Water Company Conference Call discussing the First Quarter of 2012 Results. If you have not received a copy of this morning's earnings release, please call (909) 394-3600 extension 651, and one will be faxed or emailed to you. If you would like to listen to the replay of this call, it will begin this afternoon at approximately 2 p.m. Pacific Time and run through Monday, May 14, 2012. After logging on to the website, click the Investors button at the top of the page. The archive is located just above the Stock Quote section. [Operator Instructions] As a reminder, this call will be recorded and will be limited to no more than 1 hour. At this time, I would like to turn the call over to Eva Tang, Chief Financial Officer of American States Water Company.

Thank you, Emily. Welcome, everyone, and thank you for joining us today. On the call with me is our President and CEO, Bob Sprowls. I would like to first remind you that matters discussed during the conference call may be forward-looking statements intended to qualify for the Safe Harbors from liability established by the Private Securities Litigation Reform Act of 1995. Please review a description of the company's risks and uncertainties in our most recent Form 10-K and Form 10-Q on file with the Securities and Exchange Commission. With that, I'm pleased to report that we delivered strong first quarter results with a quarter-over-quarter increase in earnings from continuing operations of 43% to $0.50 per share compared to $0.37 per share for the first quarter of 2011. Net income for the first quarter of 2012 increased by $2.5 million to $10.1 million compared to the same period the last year. Net income from continuing operations also increased by $3.2 million or 45.4% compared to the 3 months ended March 31, 2011. Our strong financial performance is further demonstrated by increases in our revenues. For the first quarter of 2012, operating revenues increased by $12.3 million or 13.1% to $106.6 million. This increase is mainly driven by an increase in revenues from our contracted services operating under American States Utility Services or ASUS. For the first quarter ended March 31, 2012, ASUS' revenue increased by $10.6 million to $29.9 million compared to the same period last year. It was primarily due to increased construction activity at the Fort Bragg military base, including a major water and wastewater pipeline replacement project. Due to better than expected weather during the first quarter, ASUS accelerated service and construction work originally scheduled for later in 2012 at Fort Bragg. Water revenues at Golden State Water also increased by $1.6 million or 2.5%, primarily due to the third year rate increases approved by the public -- California Public Utilities Commission, or CPUC, for Regions II and III, effective January 1, 2012. Our supply costs were $21.1 million for the first quarter of 2012, which was similar to the adopted level approved by the CPUC. As you know, any changes in purchased water, power purchased for pumping and pump taxes for the water segment were covered by the Modified Cost Balancing Account, or the MCBA. The Electric segment also had a full cost balancing account which tracked the changes in purchased power and transmission related costs. Other operation expenses increased slightly to $7.4 million for the first quarter of 2012 from $6.9 million in Q1 of 2011, due primarily to increases in inquiry-related costs, transportation, conservation-related costs and bad debt expenses. The increases were partially offset by a decrease in precontract costs at ASUS incurred for preparation and submittal of proposals for potential construction work. Administrative and general expenses for the quarter decreased by $1.8 million as compared to the first quarter of 2011. Included in this decrease is the recognition of the CPUC's approval in March of 2012 of a Golden State Water's application allowing fair value electric to recover $1.2 million of previous incurred offset service costs in connection with our effort to secure renewable energy. As a result, we recorded a reduction in other services costs with a corresponding regulatory asset. There was also an overall decrease in legal and other outside services cost at our water utilities segment. Depreciation and amortization expense increased by $753,000 to $10.5 million due to capital additions from 2011. Maintenance expense decreased by $395,000 to $3.3 million for the first quarter of 2012 due to a decrease in the need for maintenance at our facilities at the military bases of the ASUS. Property and other taxes for the quarter increased by $553,000 due to increases in franchise fee and property taxes in our water utility segment. Our construction expenses for contracted services increased by $8.1 million comparing the first quarter of 2012 to the same period in 2011. This increase, which is consistent with our increased construction revenue, is primarily due to continued progress made on the water and wastewater pipeline replacement project at Fort Bragg. As I discussed earlier, better than expected weather conditions allowed ASUS to expedite works on this capital project that was originally anticipated to be performed during the spring and summer months of 2012. This pipeline replacement project is expected to be completed in 2014. Moving on to nonoperating income and the expenses. Interest expense net of interest income for the first quarter of 2012 increased by $248,000 as compared to the same period in 2011. The increase was mainly due to the issuance of $62 million notes in April of 2011. This increase was partially offset by effect of a reduction in short-term borrowings as compared to the same period in '11. For the quarter of 2012, income tax expense increased to $7.6 million as compared to $5.5 million for the same period of 2011. This increase is consistent with the increase in pretax income as a result of our strong performance this quarter. Turning our attention to cash flow. Net cash provided by operating activities were, was $26.6 million for the 3 months ended March 2012 as compared to $20.8 million for the same period in '11. The $5.8 million increase was primarily due to an increase in completed project at Fort Bragg, CPUC approved the rate increases for all our regulated businesses and the collection of $3.4 million in surcharges to recover the Water Revenue Adjustment Mechanism, or WRAM balances. We continue to file for recovery of our WRAM balances in a timely manner. In April 2012, the CPUC approved surcharges to recover $20.6 million of regulatory assets recorded in the 2011 WRAM, net of the Modified Cost Balancing Account. The approved surcharges allow for a recovery period of 24 months for most of our water customer service areas. Surcharges are currently in place to recover the WRAM and Modified Cost Balancing income balances from 2009, 2010 and 2011, totaling approximately $60 million, of which $24 million has been collected through March 12. During the 3 months ended March 31 this year, our WRAM balances grew at a slower rate as compared to prior year's first quarter, due to an increase in customer consumption. The water consumption increased by 7% due to lower precipitation compared to prior year's first quarter. We experienced a much drier first quarter this year, and as a result, saw an increase in customer consumption for the first time in a while. Bob will discuss this decision related to the WRAM recovery period later in the call. Moving on to our capital expenditures. Golden State Water invested $14.5 million in capital projects in the first quarter of 2012, which is on track with this 2012 capital improvement plan of $70 million to $80 million. Cash used in financing activities increased by $1.9 million compared to the same quarter of prior year due to the paydown of our short-term borrowings facilitated by our increase in cash flow from operations. For additional details with regards to our earnings and financial information, please refer to our earnings release and the Form 10-Q issued earlier today. And with that, I'd now like to turn the call over to Bob.

Thank you, Eva. Good afternoon, ladies and gentlemen. I'm pleased to report another quarter with growing revenue, earnings and cash. I'm also pleased to announce that on May 2, 2012, the Board of Directors of American States Water approved a quarterly cash dividend of $0.28 per share on the common shares of the company. This marks the 304th consecutive dividend payment by the company. Our ability to invest in Golden State Water's infrastructure to serve our customers is driven by our ability to earn an adequate return for our shareholders. We continue to focus on growing our dividend to achieve a 5-year compound annual growth rate of at least 5% over the long term. Given American States' low payout ratio compared its peers, there is room to grow the dividend. In terms of California's regulatory environment, all 3 PUC commissioners appointed in 2011 have now been confirmed by the state Senate. We believe the forward-looking test years and mechanisms to decouple revenue from sales offered by California Utility Regulation allowed Golden State Water to provide consistent returns. We are very focused on getting through the regulatory process for the general rate case filed in July 2011 for all of our water regions and the General Office. The evidentiary hearings for this case began last Friday and are scheduled to be completed this week. New rates as approved by the California PUC will be effective January 1, 2013. In February of this year, we filed our general rate case application for Bear Valley Electric. This general rate case application is in the process of review with the California PUC. Once approved, we expect new electric rates to become effective in the first quarter of 2013. To recap Golden State Water's cost of capital proceeding on file with the CPUC, we, along with 3 other water utilities, entered into a settlement agreement with the PUC's Division of Ratepayer Advocates in November of 2011. If approved by the PUC, the settlement will authorize a return on equity of 9.99% and a rate making capital structure for Golden State Water of 55% equity and 45% debt. The resulting weighted cost of capital or rate of return on rate base is 8.64%. A decision on this filing is expected by the end of the second quarter of 2012. When finalized, the rate of return authorized by the PUC will be implemented into water rates retroactive to January 1, 2012. With that, I will discuss a decision related to the Water Revenue Adjustment Mechanism, or WRAM for short, recently approved by the California PUC. In responding to a joint application filed by Golden State Water and other California water utilities, the PUC issued a decision in April which sets the recovery period for WRAM balances, net of the Modified Cost Balancing Account, or MCBA, that are up to 15% of adopted annual revenues at 18 months or less. Most of our WRAM balances have been less than 10% of the adopted annual revenues. If our future WRAM under collections continue this trend, we would not be required to defer any revenue, as the collection period would be within the 24 month window as required by accounting standards. The final decision also sets the cap on total net WRAM and MCBA surcharges of 10% of the last authorized revenue requirement in any given calendar year. For Golden State Water, this cap will first be applied to its 2013 WRAM balances, which will be filed in early 2014. The cap requirement does not impact Golden State Water's 2012 and prior year WRAM balances. The decision also requests us to provide testimony in our current general rate case to address the reasonableness of the WRAM mechanism. I'd like to point out that the consumption levels used in our pending water rate case were based on more recent annual consumption trends, which are lower than those approved in the current rate cycle. As a result, beginning with 2013, we don't anticipate as significant of a variance between actual and forecasted sales levels as we have seen thus far in the WRAM and don't expect that the 10% cap for years 2013 and beyond would limit our ability to recover WRAM shortfalls within the 18-months requirement. Let's turn our discussion to the company's contracted service segment, American States Utility Services, or ASUS. Like Golden State Water Company, ASUS is focused on maintaining a customer service culture, and we continue to build our relationship with the U.S. government. For the first quarter of 2012, ASUS reported strong earnings as we increased our construction activities at the various military bases, especially at Fort Bragg, as we continue to make progress on the water and wastewater pipeline replacement project along with other capital upgrades. We have also been awarded new contract modifications by the U.S. government for the various military bases in which we serve, which will result in additional construction activity for ASUS. While it is difficult at this time to quantify the earnings impact of these new projects, we expect to perform the majority of this new construction work during the remainder of 2012. We currently have no significant Request for Equitable Adjustments outstanding with the U.S. government. However, various price redeterminations for managing the assets at the military bases are currently in negotiation with the government. I'd like to provide a brief update on the status of these for each military privatization subsidiary. The U.S. government is currently reviewing the first price redetermination for Fort Bragg in North Carolina and Fort Jackson in South Carolina, which were filed in December 2011 and February 2012, respectively. Interim price increases are in place for both military bases. We continue to work with the U.S. government to resolve our first price redetermination request for Andrews Air Force Base in Maryland. We expect to complete this during the second quarter of 2012. An interim price increase is currently in place. We have completed our first price redetermination for Fort Lee, Fort Eustis and Fort Story in Virginia. The second price redetermination is expected to be submitted to the U.S. government in the second quarter of 2012. And as part of a 2010 settlement with the U.S. government, we waived our first and second price redeterminations for managing Fort Bliss in Texas. The next price redetermination for Fort Bliss is scheduled to be filed by July 1, 2012. ASUS is working closely with the U.S. government to provide timely submittal and resolution to these price redeterminations. Before I turn the conference over to the operator to entertain questions, I'd like to thank you again for your continued support and interest in the company.

[Operator Instructions] We will begin with Michael Roomberg with Ladenburg Thalmann.

I just -- I want to be clear on this Fort Bragg pull forward of construction. Are you -- I understand that you pulled forward in the quarter from later in the year. But are you expecting that you'll pull forward projects from 2013 into 2012 as you go throughout the remainder of the year to replace the projects that you've already completed there?

It's not clear at this point whether work will be pulled forward from 2013. But clearly, we've had a lot of work done in the first quarter and work will continue on that project.

And Michael, our commitment to the government is to complete this in 2014. So if we have other activity going on at the same bases, so we may move around the crew to do that.

Got it, got it. Okay. And then just one follow-up on the regulated ops, if I could. We were a bit surprised by the increased consumption from your customers that are not on tiered rates and the benefit that,that caused in the quarter. Can you just update us on the number of customers and the size or the portion of your revenue that is attributable to those customers?

I think in general, Michael, we -- I think about 95% of our entire water customers are on WRAM. So about 4% to 5% is not on WRAM. Also, the service charge is fixed. It doesn't impact by the consumption. So I think you can kind of estimate using 5% as the non-WRAM customers.

Okay. And any idea what percentage those customer's consumption was up versus last year?

I think in general, the first quarter consumption increased by 7% compared to last year first quarter.

[Operator Instructions] Our next question comes from Heike Doerr of Robert W. Baird.

I wanted to go back to this Fort Bragg contract. Is there any way you can share with us what percentage of the project is completed, this contract that goes until 2014 so we might be able to quantify how much revenue is attached to that as we look ahead?

Difficult to do at this point. We -- at this point, we believe that it's just a sort of a pull forward. The work that was sort of projected for the entire year, we still think we're on target for that. Now, as we move through the quarters, we may find out, we'll obviously have better, a better appreciation for where this project is. But so far, it's a function of better weather conditions and we're just ahead of schedule.

Can you maybe share with us on a year-over-year basis what level of contribution you expect from ASUS, either percentage of whole or what kind of an earnings year-over-year improvement we would expect to see as a result of what's occurred in the first quarter already?

Well, as you know, ASUS had reported $0.38 per share contribution in 2011 with very few large one-time adjustments. We believe ASUS has a good chance of posting another year of solid earnings, particularly with such a strong first quarter. It's difficult to say with much certainty at this time, whether we're going to exceed last year. But we do expect very solid performance out of ASUS.

[Operator Instructions] At this time, I'm not seeing any questions. I'd like to turn it back over to Mr. Sprowls for any closing remarks.

Okay, thank you, Emily. Again, I just want to thank you all for your participation today and for your continued interest and investment in American States Water Company. And wish you all a good day.

This concludes today's American States Water Company Conference Call. As a reminder, the call will be archived on our website and can be replayed beginning Monday, May 7, 2012, at 2 p.m. Pacific time and will run through Monday, May 14, 2012. After logging onto the website, click the Investors button at the top of the page. The archive is located just above the Stock Quote section. Thank you for your participation. You may now disconnect.