Northwest Natural Holding Company (NWN) Q4 2015 Earnings Report, Transcript and Summary

Good morning and welcome to the Northwest Natural Gas Fourth Quarter Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions]. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions]. Please note this event is being recorded. I would now like to turn the conference over to Nikki Sparley, Investor Relations Manager. Please go ahead.

Thank you, Andrew. Good morning, everyone and welcome to our fourth quarter 2015 earnings call. As a reminder some of the things that will be said this morning contains forward-looking statements. They are based on management's assumptions, which may or may not come true. You should refer to the language at the end of our press release for the appropriate cautionary statements and also our SEC filings for additional information. We expect to file our 10-K later today. As mentioned, this teleconference is being recorded and will be available on our website following the call. Please note these conference calls are designed for the financial community. If you are an investor and have questions, please contact me directly at (503) 721-2530. Media may contact, Melissa Moore, at (503) 220-2436. Speaking this morning are Gregg Kantor, Chief Executive Officer and Greg Hazelton, Senior Vice President, Chief Financial Officer, and Treasurer. Mr. Kantor and Mr. Hazelton have some opening remarks and then will be available to answer your questions. Also joining us today are other members of our executive team, who are available to help answer any questions you may have. With that, I will turn it over to Mr. Kantor for his opening remarks.

Thanks Nikki, good morning everyone and welcome to our fourth quarter and year-end earnings call. I will start today with highlights from the year and then I will turn it over to Greg Hazelton to cover our 2015 financial performance. Finally I will wrap up the call with a look forward. In 2015 Northwest Natural successfully navigated a number of challenges while still achieving our key financial and operational goals. Our financial challenges came early in the year with Oregon experiencing the warmest winter on record. The impact was substantially mitigated by our weather normalization mechanism which has been place since 2003. However, we experienced lower volumes and revenues as about 20% of our customer base is not covered by the mechanism. In addition in February 2015, the Oregon Commission approved a mechanism that allows us to recover, prudently incurred environmental clean-up cost allocated to Oregon associated with our historic manufactured gas operations. We began collection of our environmental expenditures through this mechanism known as the SRM in November of last year. However, as part of the February 2015 order, the OPUC disallowed environmental expenses totaling $15 million based on the application of an earnings test for past years when the company earned above its allowed rate of return. As a result, we took an after tax charge of $9.1 million in the first quarter of 2015. In response to the warm winter and the disallowance, management instituted a number of temporary cost saving measures. Through these targeted efforts we reduced budgeted O&M levels by approximately $5 million or about $0.11 per share. And I am proud of our employees whose hard work and commitment allowed us to accomplish this while still remaining dedicated to exceptional service and safety. Despite the financial headwinds our core utility performance remained solid with higher margin and continued customer growth. Part of this performance stems from the strength of our region's economy and you can see that strength in a number of trends including in migration and housing growth. Oregon is experiencing strong population gains particularly attracting college educated workers between the age of 25 and 34. In fact Oregon ranks sixth in the nation for in migration of degree holders who are beginning or mid career. These young working age households are considered vital for both regional economic development and longer term growth. In the last year average monthly employment in the Portland Vancouver metro area increased by about 35000 new jobs equating to an annual employment growth rate of 3.2% which exceeded the average national rate by more than 1%. Over the last 12 months the unemployment rate in the Portland and surrounding metro areas sell 100 basis points to 5.3%. We’re also seeing strong housing growth in the Portland Vancouver area with a 25% increase in single family building permits in the last 12 months. And in the last year, home sales were up about 20% in Portland and average home prices increased by 6.5%. In Park County [ph] Washington where about 11% of our customers are located, home sales were up 19% for the year and average home prices were up 8.6%. All of these factors contributed to a fast growing Oregon economy. In fact Oregon’s economic health index rose the most in the nation through the first three quarters of 2015 according to the latest Bloomberg economic evaluation of states report. These were all good signs our economy continues to move in the right direction. On the operations front we had an excellent year with a continued focus on safety and reliability. We hit a milestone in the fourth quarter when we removed the final known bare steel pipe from our distribution system making our system one of the most modern in the nation. This achievement was supported by trackers established with the help of the commission more than three decades ago. In 2015 we once again reached our emergency response goals of answering 90% of emergency calls within 10 seconds and responding to damage and protocols onsite within 30 minutes on average. During the year we also began several multiyear infrastructure projects to ensure the continued reliability of our system and support customer growth. These ongoing investments include improvements totaling $25 million at our Newport LNG facility to modernize that plant and $25 million of upgrades are being made to our system in Vancouver, Washington also over the next several years to increase pressure levels to support our service territories fastest growing community. Safety and reliability coupled with affordability make natural gas a very competitive fuel source. In 2015 we were able to strengthen that position by reducing residential customer rates in Oregon by 7%, by 14% in Washington. This rate reduction was a reflection of the lowest natural gas commodity prices we’ve seen in 15 years. And finally for the sixth time in nine years we posted the highest score among large gas utilities in West in the 2015 JD Power Residential Customer Satisfaction study. This also marked the eighth time in nine years of ranking among the top two highest satisfaction scores in the nation. These results reflect our continued commitment to operate reliably, safely, and with high quality customer service in the communities we serve. With that let me turn it over to Gregg to cover our financial results and provide the 2016 guidance.

Thank you, Gregg and good morning everyone. Today I’ll start with a review of the fourth quarter results, followed by a discussion of our annual performance, and close with 2016 earnings guidance including key assumptions for the year. For the fourth quarter we reported improved consolidated results with net earnings of $1.08 per share or $29.7 million compared to $1.04 per share or $28.5 million for the same period last year. Consolidated results were driven by higher utility margin and other income, partially offset by increased O&M expense. Looking at our segment results, for the quarter our utility segment net income increased $1.1 million based on a $2.6 million increase in utility margin and then $1.8 million increase in other income, offset by a $2.4 million increase in O&M expense. The utility margin -– the increase in utility margin was predominantly driven by customer growth with over 3,300 new meter sets installed in the fourth quarter, which is nearly 1% higher than the prior year. In addition, utility margin benefited from the gas cost sharing gains as a result of lower actual gas prices than rates in Oregon -– in the Oregon purchase gas adjustment mechanism. Utility O&M for the quarter increased primarily reflecting higher incentive compensation, retirement, and healthcare costs. During the quarter, our gas storage segment earnings improved slightly reflecting some positive trends. Our Mist gas storage facility continues to perform well and operating results remained strong and comparable to the prior year. Gill Ranch realized an uptick in revenues reflecting higher contract prices for both firm and optimization contracts. Additionally, operating expenses decreased as we managed the business to a lower cost structure which we expect to benefit from in 2016. Also in December we redeemed the remaining Gill Ranch note, prior to its November 2016 scheduled maturity. Turning to our annual consolidated results, net income was $1.96 per share or $53.7 million compared to $2.16 per share or $58.7 million in 2014. As previously discussed, the company recognized a non-cash, after-tax $9.1 million environmental disallowance related to the February 2015 SRRM order. This charge was reported as O&M expenses in the first quarter of 2015. Excluding this charge consolidated earnings were $2.29 per share or $62.8 million, an increase of $0.13 over 2014. Annual results were largely driven by higher utility margin and other income, offset by increased O&M expenses. For the year utility net income increased $3.9 million, excluding the impact of the $9.1 million charge. Higher net income was largely driven by a $5.3 million increase in utility margin, a $6.6 million increase in other income, and a $2.4 million decrease in interest expense, offset by $7.2 million increase in O&M expense, and a $1.8 million increase in depreciation expense. In November we began collecting revenues from customers through the environmental mechanism or SRRM. For the -– for 2015, these collections totaled $3.5 million and are included in operating revenues with a corresponding offset for the amortization of environmental regulatory asset. For the year, utility margin increased primarily driven by strong customer growth with the addition of more than 9,700 customers and gains from our gas cost incentive sharing mechanism. These increases were offset by lower margin from customers not covered by weather normalization as the region experienced exceptionally warm weather. The $6.6 million increase in utility, other income was primarily due to the recognition of equity earnings on deferred environmental expenditures as a result of the February 2015 order. Excluding the regulatory disallowance, utility O&M expense increased over last year, primarily due to an increase in compensation and benefit expense, which included higher employee incentive compensation, retirement and healthcare costs, as well a new union labor contract that was effective June 2014. In addition, non-payroll expense increased from higher professional service and insurance cost. In the second half of 2015, management implemented a number of temporary cost saving initiatives to mitigate the unplanned effects of warm weather and the disallowance. These targeted initiatives resulted in approximately $5 million or $0.11 per share of O&M savings. While these measures help the company meet its 2015 financial targets, they are unsustainable and we do not plan to continue them in 2016. Utility interest expense decreased $2.4 million over the last 12 months with the redemption of $40 million of debentures without reissuance. For the year net income for gas storage improved mainly due to a reduction in operating expenses reflecting lower repair and power cost at our Gill Ranch facility. As well as permanent expense savings I previously mentioned. Despite improvement in the fourth quarter, gas storage annual operating revenues declined as a result of higher contracted storage prices in the first quarter of 2014. In addition interest expense increased reflecting the early redemption of the Gill Ranch note. Cash flow from operating activities declined $31 million compared to last year due to over $100 million of environmental insurance recoveries in 2014 offset in part by the decrease in cash flows from changes in deferred gas cost balance. Now I’d like to briefly mention two regulatory updates. In January 2016 we received an order from the OPUC resulting all open matters in our SRRM docket. The order confirmed the recovery of environmental cost eligible to Oregon rate payers under the SRRM and disallowed interest earned on the original $15 million charge from the February 2015 order. As a result we recognized a non-cash $3.3 million pretax charge in January 2016. Also we continually assess our business and economic environment to determine the need for future rate cases. Based on rate based growth since our last Oregon rate case in November 2012 and increases in operating expenses, we are evaluating the need to file in Oregon general rate case within the next 12 to 24 months. And a potential Washington rate case sometime thereafter. Moving to 2016 guidance, capital expenditures are expected to range from a $155 million to $175 million including approximately $15 million of capital expenditures associated with our North Mist expansion. For the five year period ending 2020, we estimate utility capital expenditures to range from $850 million to $950 million excluding any potential future gas reserve investments. This range also includes a $125 million of CAPEX for our North Mist expansion. At this time we expect cash savings from the extension of bonus depreciation to total approximately $90 million through 2019. We are evaluating the impact of this extension on the mix and profile of our investments. Our CAPEX range does not include any potential additional capital investment that may result from this evaluation. We currently do not anticipate the need to issue equity until 2018 with the completion of our North Mist expansion. In addition we are utilizing open market purchases for a dividend reinvestment program as well as certain share based compensation programs. The company initiated 2016 earnings guidance today in the range of $1.98 to $2.18 per share which includes the $3.3 million pretax or $0.07 after tax charge from the January 2016 order. Our adjusted guidance range excluding the charge is $2.05 to $2.25 per share. With that I’ll turn it back over to Gregg for his concluding remarks.

Thanks Gregg, as we turned to 2016 we continued to focus on our regulatory agenda and on growing our company. On the regulatory front we were pleased to reach conclusion on the implementation of our environmental mechanism with the commission's order this January. Although the additional charge in 2016 is disappointing, this was a complex docket and we believe the mechanism provides a good path forward for all stakeholders. This year we will continue working with the commission and other gas utilities in Oregon on the policy docket exploring commodity hedging. This includes what role gas reserves could play in a balanced natural gas supply portfolio. We've also been working with the Oregon Commission and stakeholders on a carbon solutions program under Oregon’s Greenhouse Gas Reduction Legislation. As we've discussed before, Senate Bill 844 allows the OPUC to incent natural gas utilities to undertake projects that will reduce emissions. Our first proposal was submitted in June and is designed to further the use of combined heat and power in Oregon. We filed our last briefs a few weeks ago and expect a decision from the commission in the next few months. On the customer growth side, we are working hard on expanding our multi -– our market share in the multi-family housing sector. As I mentioned, the Portland area housing market has seen an upturn, particularly in multi-family apartments. To further our efforts, we have created a cross-functional team to evaluate every aspect of the apartment rental market, a market that is typically underserved with natural gas. Results of a recent market study show that 80% of renters in Portland prefer natural gas entities. This shows a clear gap between what renters want and what's available and we've begun developing a comprehensive marketing program targeting apartment developers. We view rental apartments as an untapped growth opportunity and a priority segment for us moving forward. Now let me give you a quick update on the potential expansion project at our underground storage facility in Mist, Oregon. As you know in 2014 we received approval from Portland General Electric to move forward with the committee and land acquisition work required for the expansion project. The project would provide no notice storage services to PGE’s natural gas power generating plants at Port Westward. It would include a new reservoir providing up to 2.5 billion cubic feet of available storage, an additional compressor station, and a new pipeline. Last April, we submitted an application to the Oregon Energy Facility Siting Council for an amendment to our existing Mist site certificate, a step required to support the expansion. In early October, we held an open-house with the local community near the expansion site and received positive feedback from attendees. And then on March 5th, just a few weeks ago, the Department of Energy published a proposed order. Public comment processed on that order will end on March 7, just a few weeks from now. If there are no challenges to proposed order through the comment process, we could receive the EFSC permit approval later this spring. And currently, we're in the process of rebidding the EPC portion of the project. Following the approval of the permit and the rebidding process we expect to receive a notice to proceed from Portland General later this year. We continue targeting an in-service date during the 2018, 2019 winter season, a target that depends of course on the permitting process and construction schedule. And the current estimated cost of the project is approximately $125 million. Over many years Northwest Natural has demonstrated the careful planning essential to finding and retaining the talent necessary to drive success. Detailed succession plans are an integral part of the company’s business activities and this past year the benefits of that work were clearly visible. I would like to mention two key changes; first, in June of last year Greg Hazelton joined the management team as CFO and was also recently named Treasurer. And second, this past December, I announced my retirement at the end of 2016 and that David Anderson would be promoted to Chief Executive Officer effective to August 1. I will be working with the Board in Advisory role until the end of December. A smooth transition at the top is critical, but as important is developing the talent for succession in key positions across the organization, and that has been a long held commitment at Northwest Natural, one, that in my opinion, is the true mark of a Board and the management team with foresight. David is an excellent example of this talent. He is a strong leader and he brings great experience and a diverse skill set to the CEO position. I'm confident our company will be in good hands going forward. With that, thanks for joining us this morning and now I’ll open it up for questions.

We will now begin the question-and-answer session. [Operator Instructions].

Looks like people are ready for the weekend I guess.

Okay, well this concludes our question-and-answer session, I would like to turn the conference back over to Gregg Kantor, Chief Executive Officer for any closing remarks.

Well thank you everyone. Thank you again for your interest in our company and for taking the time out this morning to listen in and have a great weekend.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.