Duke Energy Corporation (DUK) Q2 2012 Earnings Report, Transcript and Summary

Good day, and welcome to the Duke Energy Second Quarterly Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Bob Brennan [ph], Vice President of Investor Relations. Please go ahead, sir.

Thank you, Nancy. Good morning, everyone, and welcome to Duke Energy's second quarter 2012 earnings review and business update. Leading our discussion today are Jim Rogers, Chairman, President and Chief Executive Officer; and Lynn Good, Executive Vice President and Chief Financial Officer. During the course of this call, we will discuss the company's strategic objectives, the status of our merger integration efforts and its financial impacts, an update on Crystal River 3 and our other major construction projects, and our results for the second quarter and outlook for 2012. After the prepared remarks, we'll welcome your questions. Today's discussion will include forward-looking information and the use of non-GAAP financial measures. You should refer to the information in our 2011 10-K and other SEC filings concerning factors that could cause future results to differ from this forward-looking information. A reconciliation of non-GAAP financial measures can be found on our website and in today's materials. Please note that the appendix to the presentation materials includes supplemental information for Progress Energy's second quarter earnings and additional disclosures to help you analyze Duke Energy's performance. Now I'll turn the call over to Jim Rogers.

Thank you, Bob. Good morning, and thank you all for joining us on the call this morning. We appreciate your interest and investment in Duke Energy. As you saw in our release from earlier today, Duke Energy announced adjusted diluted EPS of $1.02 for the second quarter of 2012, $0.03 higher than our prior-year quarterly results of $0.99. These results exceeded consensus estimates and we continue to be on track to achieve our guidance range for 2012 of $4.20 to $4.35 per share. This range represents 6 months of Duke on a stand-alone basis and 6 months as a combined company with Progress. After 18 months of hard work, we closed our merger on July 2. The strategic value of this transaction remains unchanged. The combination creates a new Duke with unmatched financial and operational scale and scope. The highly regulated business mix of the combined company supports the strength and growth of our dividend. We have a strong balance sheet that will allow us to manage through a time of transition in the utility industry. Slide 4 illustrates our clear focus as a combined company. Our goals have not changed. We will continue our strong track record of meeting our financial commitments. We will complete our major construction projects to provide clean, reliable energy to our customers. We will continue to focus on the efficient, safe and excellent performance of our fleet and our electric grid. And finally, we will work constructively with regulators in each of our jurisdictions. Let me highlight North Carolina and Florida. As many of you know, the sequence of events following the merger closing prompted the North Carolina Utilities Commission to schedule hearings about the unanticipated change in executive leadership. We presented testimony explaining the reasons behind the change. At the close of the…

Thanks, Jim. This morning, I'll begin with an overview of Duke Energy's stand-alone second quarter earnings results for each of its business segments; an update on retail customer volume trends and economic conditions; our financial objectives for 2012, including our earnings per share guidance range for the combined company; our financial objectives going forward; and finally, a few comments on Progress's quarterly results. It's important to highlight that our quarterly results do not include Progress Energy's results, as the merger closed on July 2. However, Progress will be included in our consolidated results beginning with the third quarter. As highlighted on Slide 10, Duke reported second quarter 2012 adjusted diluted earnings per share of $1.02. This compares to $0.99 per share for the prior quarter. At current year and prior year earnings per share have been adjusted to reflect the 1-for-3 reverse stock split which was completed immediately prior to closing the merger with Progress in early July. Our regulated U.S. Franchised Electric and Gas segment recognized quarterly adjusted segment income that was $0.09 higher than the second quarter of 2011. This increase was primarily due to revised customer rates in the Carolinas implemented in February of this year. We also had lower O&M costs as a result of fewer major storms. We continue to closely manage our O&M costs, particularly in our fossil fleet, given the lower natural gas price environment and lower generation from our coal plants. These favorable results were partially offset by less favorable weather for the quarter as compared to the prior year. Even though cooling degree days were 18% higher than normal, this was lower than the approximate 25% variance to normal in the prior quarter. Let's move on to international, which as expected, had segment income $0.05 per share lower than the prior…

Thanks, Lynn. In summary, we are focused on our overall mission to deliver affordable, reliable and increasingly clean energy to our customers in a safe manner, while providing attractive returns to our investors. We have important work ahead of us for the remainder of the year and we know what we need to do. Our efforts will center on efficiently integrating the operations and people of the combined company; achieving the benefits to customers and investors we expected from this transaction; meeting our financial objectives of achieving our earnings guidance range, increasing our dividend and maintaining a strong balance sheet; successfully managing our generation projects and resolving Crystal River 3; filing rate cases in the Carolinas for both Duke and Progress by the end of the year; and finally, moving forward constructively with our regulators and key stakeholders. Before I open up the phone lines for your questions, let me correct one thing that I've said earlier. In talking about the first delamination, I said that NEIL has made payments but has withheld payment of approximately $70 million. I said $7 million. Maybe that was just wishful thinking, but they withheld payment of approximately $70 million, the majority of which relate to replacement power costs. With that, let's open up the phone lines for your questions.

[Operator Instructions] And we'll go first to Dan Eggers from Crédit Suisse. Dan Eggers - Crédit Suisse AG, Research Division: Jim, just -- I know you're going to probably dance around this a little bit, but as it relates to the commission's openness to some sort of settlement discussions, can you maybe give some context? Does that -- does "settlement discussion" mean a financial settlement, a corporate governance settlement, a job settlement, a Raleigh settlement? Can you just help us understand what that conversation is actually headed toward?

Dan, I'm not going to speculate on the outcome of the commission's investigation or our settlement discussions. We're going to continue to work closely and maintain an open dialogue with the commission. Chairman Finley, at the end of the hearings, offered up the possibility of a settlement and we're clearly working in that direction. Dan Eggers - Crédit Suisse AG, Research Division: But, Jim, can I just dumbly ask, what exactly are you guys settling, other than the fact of their investigation is to the CEO change?

I'm really, Dan, not going to address the issues that are being discussed in the settlement process, but as we get this resolved -- and our goal line is, as quickly as possible, to put this behind us and move forward, and that's the road that we're on. Dan Eggers - Crédit Suisse AG, Research Division: Okay, got it. And then, Jim, I guess just along these awkward kind of questions, with the 2 board members leaving from the Progress side, how is the board thinking about sizing and potential replacements and any kind of view on balance relative to the legacy Duke board membership?

The decision with respect to whether to replace the members that left really resides with the corporate governance committee and ultimately with the board. And they will make that decision in the coming weeks and months. And so my hope is, as we build this great company, I want everyone at the company to be part of that going forward, and that includes our new board members. Dan Eggers - Crédit Suisse AG, Research Division: Okay. And I guess just as it relates to the Carolinas rate cases for both utilities this fall, or this winter, is there any thoughts on changing the timing, given all that's gone on, to give a little bit more breathing room before you head back before the commission?

Our intent, Dan, is to file our rate cases in the Carolinas by the end of the year. We expect they will address each case on its merits. I look back over the last 5 years. We've had 3 certificate cases, we have had 3 rate cases and all of them have resulted in fair outcomes. And as I look at the commission and its history, it has had a long history of fairly and equitably balancing the interest of customers and investors, and I don't expect that to change in the future.

We'll go to the next question from Jonathan Arnold from Deutsche Bank.

I have a quick question on -- it seems like the weakness in Progress in the first half in their numbers was largely a result of these additional nuclear outage costs. And I look back to their first quarter call, they were -- it seemed they were assuming there would be an accounting order allowing level-ization of those costs approved sometime later in the year. And when we look at your slide showing the impact of the merger in the second half, it doesn't appear that you've assumed success on an order like that, but I just wanted to verify that, that's the case or not.

Jonathan, your recollection is right. The 2012 earnings guidance for Progress did assume a successful regulatory order. And although we're still evaluating that regulatory order around the matter of nuclear level-ization, we are presently not planning to file it in 2012. As Jim mentioned, our focus is really on the rate cases for both Duke and Progress.

So you're not even going to file that. Could you -- would you be able to tell us, Lynn, how beneficial to the 2013 outlook the absence of such an accounting structure would be as you fold in a better first half from Progress next year?

Yes, Jonathan, the impact of nuclear level-ization in any given year is dependent upon the nuclear outages and the cost considerations and so on, so I can't give you any further insight into that. As we said, we will -- are working diligently on 2013 guidance in bringing the companies together and we'll have information around that early 2013.

We'll move next to Michael Lapides from Goldman Sachs.

When we think about O&M synergies, the 5% to 7% off of a $6-billion base, is it safe to assume that kind of just for back-of-the-envelope math, you would take that $6-billion base, you would grow it by inflation or some number, and then you would subtract the midpoint, let's say, 6% of the $6 billion, to kind of get to a -- what would be a normalized post-merger run rate for O&M?

Michael, I'm not sure I followed all of that math, but I do think you should consider inflation. As you think about projecting costs into the future, I think you should consider new resources that we bring into the mix. And the 5% to 7% is kind of an industry average of what companies have been able to accomplish. We're going aggressively after that and we'll have more specifics on the impact on '13 and beyond as we give you more visibility into our guidance.

Got it. One other question. Indiana. Does the delay in the in-service date, early 2013 for Edwardsport, does that delay your impact of the timing, not just of the settlement that's been reached to date, but also the timing of rate increases related to Edwardsport and even kind of filing a true-up case down the road?

Michael, I don't believe so. We have -- we're working on the settlement and the construct of the settlement which would have us placing into rates, first of all, the return on the agreed-to amount of capital investment and then subsequently placing the plant into service under a rider with depreciation and O&M. We've agreed to a stay-out on the general base rate case but that would be through a filing date of '13. So I don't see those dates changing with the schedule we've talked about today.

Meaning you'd file a full case in '13 to get Edwardsport -- anything left of Edwardsport or anything else in Indiana in the rates by early 2014.

That's correct.

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

I wanted to touch base with you on the 4% to 6% growth. I know that you guys, in early July, indicated that you guys still targeted that. I know you're not giving guidance for 2013 and we're going to get more information as time goes on, but a lot has changed here with respect to just the environment in general and what we see in Progress. I'm just sort of -- like to sort of get a general sense of your level of confidence, I guess, Jim, with respect to how you feel about that 4% to 6% growth. I mean, do you feel better about it, less better about it? You've had a month now to sort of, with the integration process and what have you -- I mean, can you give us any sort of flavor for that?

Paul, my view is that we're in the process of reviewing all the numbers, working through them, but we believe that we will be able to hit that 4% to 6% growth. We're going to have to be aggressive with respect to reducing the cost and we're about that now. So more to come on that.

Okay. Okay, then there's just the capacity, the potential for, I guess, a capacity uplift, it sounds like, in Ohio. Could you give us a sense as to how that would work with respect to your recent settlement there, or just in general, how we should think about that? You mentioned it, and of course, it is a point that they did put out that order. I'm just trying to get a sense as to how we might be able to think about that.

Paul, we're evaluating the recent rulings in Ohio. And because we are an FRR entity, we think there could be some applicability of that ruling and we'll be evaluating that. And the basic issue is that a cost-based method of recovery for capacity, in our mind, would be -- result in a greater level of earnings than the stabilization charge that we negotiated in our existing settlement in Ohio. And so we're closely looking at it, we're evaluating it and we'll have more to say as we complete that evaluation.

Could you just remind us how many megawatts you have in Ohio?

Around 4,000.

The next question comes from Hugh Wynne from Sanford Bernstein. Hugh Wynne - Sanford C. Bernstein & Co., LLC., Research Division: I wanted to ask a question around the nuclear operations. I think in the testimony before the North Carolina Commission, it was mentioned that the state of Progress nuclear operations was one of the factors that led to the board to kind of rethink the value of the Progress merger, and that statement seems to have been borne out by the first quarter results. I wonder if you could comment on what you perceive to be the primary operational challenges of the Progress nuclear fleet and what your plans are to rectify them.

Hugh, I'll start really commenting on the results and then turn it to Jim for any further color. I think the results of Progress really reflect normal refueling outages for 3 plants, and what you're seeing is the difference between the number of outages in 2012 versus 2011. There were 3 outages in the first half of '12, one outage in the first half of '11. So our focus on nuclear spending, investment capital, O&M is something that we're working through. It's in connection with our normal planning cycle and we'll be reflecting what we believe is appropriate spending across our entire fleet as we look to the years ahead.

And I would address it by simply reflecting on the testimony that was given earlier. We had seen over the last 18 months a deterioration in the operation of the fleet. And one of our missions is to basically invest in the fleet, change the operation of the fleet in a way to allow us to return all those plants to excellence, and that's the mission we are on. Dhiaa Jamil is leading that effort. He has been to all the facilities. They're working together and I have great belief, as we have one of the largest fleets in the country with 11 different units located geographically just in the Carolinas, which is kind of a unique footprint to have all the plants so close together, that we will be able to invest more in the plants that need more investment, but at the same time save cost because we're operating on a fleet basis. So that's something, I think, that at the end of the day, our focus is always on safe and reliable operation of the fleet, and doing it in a cost-effective way is what we plan to do. Hugh Wynne - Sanford C. Bernstein & Co., LLC., Research Division: I also had a question, if you don't mind, on Edwardsport. Given your coal supply contract at Edwardsport and the currently prevailing forward price curves for natural gas, do you expect the combined cycle gas turbine at that plant to operate on synthesis gas from the gasifier? Or would you expect to dispatch it using pipeline natural gas?

In that, until we get through the validation process on the gas processor, I mean, we will be primarily focused at using natural gas. That plant has the ability to use syngas or natural gas. In this interim period, while we are going through that validation process, we will run the unit on natural gas. And then when we finish, we will connect the gasifier and produce natural gas because it will be one of the cleanest, most efficient coal plants in the world. Hugh Wynne - Sanford C. Bernstein & Co., LLC., Research Division: All right. Are there going to be any difficulties, however, I guess is what I'm trying to get at, with respect to fuel cost recovery, if there's a cheaper alternative available by taking gas from the pipeline? And then, conversely, if one takes gas off the pipeline, is there going to be any regulatory difficulty around the use and useful status of the gasifier?

We don't view that as a problem and it really goes to 2 things. One is it's in MISO. It will be dispatched in MISO. And at the end of the day, because of the efficiency of the plant, it will be one of the -- the first plant -- coal plants to be dispatched.

The next question comes from Andy Bischof for Morningstar.

Is there any clarity you can give us on when you might receive a final decision on the total costs relating to Crystal River 3? And you also mentioned they were trending higher. Can you put a specific dollar amount on that?

I'll start, Andy. Work continues on the engineering related to Crystal River, the risk assessment, a number of factors. And so that preliminary estimate that was shared, $0.9 billion to $1.3 billion, was really developed back in 2011. And the work continues, as we referenced in the script today, and as we learn more and complete the work, we'll be prepared to talk about a more definitive cost estimate, but nothing beyond just trending higher at this point.

Okay, and one other question regarding non-fuel savings. You mentioned 100% by 2014. Can you provide a little more clarity on the expectation of savings obtained in 2013 and '12?

Not at this point, Andy. That'll be important -- an important part of consideration in guidance for '13. But you can think of us ramping up savings over time between now and '14.

[Operator Instructions] And we'll move next to Kit Konolige from BGC Financial.

On your sales, Lynn, I think you discussed, obviously, sales were up year-over-year. I think you mentioned that you have an expectation for flat sales going forward. Can you just backfill that for me? I'm not sure I caught all of it.

Yes, Kit, we are up, for the second quarter, 1.3%. On a year-to-date basis, we're up 1.1%. So we just continue to be cautious about what we're seeing, slowing in the broad U.S. economy. Even some of our industrial customers are not particularly bullish, looking at their production to be basically flat with '11. So we believe a reasonable assumption could be flat to 2011, and of course, we'll update you as we know more. But read nothing more into it than just some caution about the U.S. economy.

And how about then looking, say, ahead to '13 or even a little longer term? I mean, structurally, what kind of sales growth do you see on either side of the system at this point?

That's a really good question and something we look at a couple of times a year as we try to forecast what trends we're seeing. I think a reasonable planning assumption, Kit, is kind of in the 1% range. Maybe we'd trend to 1.5% as you get further in the decade, but we are not forecasting anything stronger than that at this point.

Okay. And one final area, separately. Obviously, you're not going to comment in detail about any potential sale or divestiture of the Midwest unregulated plants. Could you give us any idea, though, on -- if you did no longer own those, what would the EPS impact be? In other words, suppose they were -- you were not to own them, does that hurt earnings, help earnings?

Kit, I think the assets that we're talking about are very significant contributors to the Commercial Power segment, so that would be the place to look in terms of your overall contribution to the company. And I think in terms of, is it accretive, dilutive, would depend upon pricing and the timing of any decisions. So that's the perspective I would give you.

At this time, I'd like to thank you all for joining us today. We look forward to seeing many of you in the upcoming weeks during the fall sell-side conferences. As always, our Investor Relations team is available for your follow-up calls. Have a great day.

That concludes today's presentation. Thank you for your participation.