Paul J. Mountain - Director of Investor Relations Donald E. Brandt - Chairman, Chief Executive Officer, President, Chairman of Arizona Public Service Company and Chief Executive Officer of Arizona Public Service Company Rebecca L. Hickman - Director of Investor Relations James R. Hatfield - Chief Financial Officer, Executive Vice President, Chief Financial Officer of Arizona Public Service Company and Executive Vice President of Arizona Public Service Company Jeffrey B. Guldner - Senior Vice President of Customers & Regulation - Arizona Public Service Company

Greg Gordon - ISI Group Inc., Research Division Kevin Cole - Crédit Suisse AG, Research Division Paul T. Ridzon - KeyBanc Capital Markets Inc., Research Division Julien Dumoulin-Smith - UBS Investment Bank, Research Division Brian J. Russo - Ladenburg Thalmann & Co. Inc., Research Division Ali Agha - SunTrust Robinson Humphrey, Inc., Research Division Neil Mehta - Goldman Sachs Group Inc., Research Division Sarah Akers - Wells Fargo Securities, LLC, Research Division Charles J. Fishman - Morningstar Inc., Research Division Andrew Levi

Greetings and welcome to the 2013 Second Quarter Earnings Call for Pinnacle West Capital Corporation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Paul Mountain, Director of Investor Relations. Thank you, Mr. Mountain. You may begin.

Thank you, Latonya. I'd like to thank everyone for participating in this conference call and webcast to review our second quarter 2013 earnings, recent developments and operating performance. Our speakers today will be our Chairman and CEO, Don Brandt; and our CFO, Jim Hatfield. Jeff Guldner, who is APS Senior Vice President of Customers & Regulation, is also here with us. First, I need to cover a few details with you. The slides that we will be using are available on our Investor Relations website, along with our earnings release and related information. Note that the slides contain reconciliations of certain non-GAAP financial information. Today's comments and our slides contain forward-looking statements based on current expectations, and the company assumes no obligation to update these statements. Because actual results may differ materially from expectations, we caution you not to place undue reliance on these statements. Our second quarter Form 10-Q was filed this morning. Please refer to that document for forward-looking statements cautionary language, as well as the Risk Factors and MD&A sections, which identify risks and uncertainties that could cause actual results to differ materially from those contained in our disclosures. A replay of this call will be available shortly on our website for the next 30 days and will also be available by telephone through August 9. I will now turn the call over to Don.

Thank you, Paul, and thank you for joining us today. This is a very special conference call for us. It's Becky Hickman sitting at my side here, and this is her last call that she'll sit at my side in her long career here at Pinnacle and APS. And I've enjoyed working with Becky for 10.5 years. She's been here a lot longer than that, and she'll be retiring in just a few weeks. And Becky, I know I speak on behalf of the dozens of people on this call. The APS team and myself personally thank you very much for all your contributions to our company, our shareholders and the State of Arizona. You've been a good partner, and I'm proud to call you a friend.

Thanks, Don.

Back to the business at hand. During the second quarter, we made progress towards our financial targets by executing on our strategy. Another solid quarter operationally and financially gave us the confidence to raise our 2013 guidance. At the same time, we focused on several regulatory policy issues in Arizona, which I'll cover first. I'll also provide an operational update and Jim will discuss the results of the quarter and update you on our earnings guidance and financial outlook. Now turning to Arizona regulation for a few moments. In its open meeting on May 9, the Arizona Corporation Commission voted to reexamine the facilitation of a deregulated electric market in Arizona. The commission opened a docket and set a procedural schedule to solicit comments from interested parties on the pros and cons of retail market deregulation. Responses were submitted July 15, with reply comments due August 16. In the comments APS submitted on July 15, we encouraged the commission not to trade Arizona's long record of affordable rates, reliable service and customer satisfaction for the risk and uncertainties associated with deregulation. The commission stated it plans to convene an open meeting after it's had an opportunity to review the written comments. And the meeting has not been scheduled, but we expect it to take place in September or October of this year. On July 12 of this year, we filed APS's proposed solution with the commission on a policy revision for net metering. The proposal was developed after we held 6 technical conferences this spring with various stakeholders. The primary issue with net metering is fairness among customers who have rooftop solar and those customers who do not. APS's net metering proposal is built around 2 options, either of which would ensure that APS residential customers who install rooftop solar…

Thank you, Don. Today, I will discuss the following topics: First, I will review our second quarter results, including the earnings and the primary variances from last year's corresponding quarter; second, I will provide a brief update on the status and outlook for the Arizona economy; third, I will review our current credit ratings and financing activities; and finally, I will review our 2013 earnings guidance and financial outlook. Slide 6 summarizes our ongoing and GAAP earnings for the quarter and year-to-date. On a GAAP basis for this year's second quarter, we reported consolidated net income attributable to common shareholders of $131 million or $1.18 per share, compared with net income of $122 million or $1.11 per share for the prior year's second quarter. Our ongoing earnings increased $0.06 per share. For the 2013 second quarter, we had consolidated ongoing earnings of $131 million or $1.18 per share, versus ongoing net income of $123 million or $1.12 per share for the comparable quarter a year ago. Slide 21 in the Appendix reconciles our second quarter GAAP earnings per share to our ongoing earnings per share, which excludes results related to our discontinued operations. My remaining comments will focus on ongoing results. Slide 7 displays the variances that drove the change in quarterly ongoing earnings per share. An increase in our gross margin added $0.12 per share compared with the prior year's second quarter period. I will cover the drivers of our gross margin variance on the next slide. Higher operations and maintenance expenses reduced earnings by $0.04 per share, consisting largely of higher employee benefits cost related to the effects of the amortization in this year's second quarter of certain pension and other post-retirement benefit cost, compared with the regulatory deferral of such cost as part of the 2012 settlement.…

[Operator Instructions] Our first question comes from Greg Gordon with ISI Group.

Jim, can I go to the Appendix and a -- Page 15 in the Appendix and just have you talk us through some of the changes to your factors for '13? Obviously, electric gross margin is up given the weather and the other factors that you laid out in your formal presentation.

Right.

But can you focus on, for me, you've got a significant increase in your OpEx budget for the year and a pretty meaningful decrease in your interest expense expectation. Is the OpEx up because you're making investments that you think will allow you to control O&M in the future? That's something we've talked about, so just want to make sure I understand that. And then, where's the interest expense delta coming from?

Sure. Sure. So I think if you look at OpEx, you have a couple of factors going on. So if I look at the quarter, year-over-year, O&M was essentially flat other than the amortization of the pension and OPEB, which theoretically we got paid for in the rate settlement. And our approach to these ranges really is, we put sort of parameters around each of these and then we run a probability distribution. And I think -- so I look at O&M, where we are in cost. There's probably more downside than upside with flat O&M for the year. And then, we are making some strategic investments, especially in the IT area, to accelerate the benefit in the later years based on where we are today in our financial performance. If I look at interest expense, a couple of things there as well. You got the delay of Four Corners, but you also have the fact that we've refinanced at lower rates, and we have less debt outstanding. And as I said, we're, no short-term debt as we sit here today, so we're in a great liquidity position. So that would be the things that would drive those changes in ranges. I'd also point out, Greg, on the gross margin besides weather. If you remember, we had first quarter usage that was positive, and that also impacts our gross margin.

Great. And I know, look, I know we can't necessarily capitalize the weather into what we expect your earnings power to be, but to the extent you continue to have good weather quarters, that obviously does impact earnings power in the long run, right, because it increases retained earnings. And so down the line, the necessity for equity might either be decreased or obviated altogether. Is that a fair observation or not?

No, that is in fact -- well, we can't count on weather year-to-year. Any positive weather is less equity we have to raise down the road. So that's obviously a positive long-term story as well.

Last question. Don, you earned a 9.9% ROE on consolidated earns last year. It looks like you're in good shape this year in part because of the weather. But if we adjust for weather and then we look at the underlying trends and where you think you could bring in your cost profile, is there any reason for us to expect that there'd be a significant degradation in earned ROE from the 9.9% you earned in '12 as we look through the forecast period?

No, Greg. I'm very confident, as Jim alluded to, in talking about the changes in O&M. We're making some investments that we're confident are going to pay dividends in cost savings in the years ahead and other aspects of our cost-containment program are going to provide benefits down the road. So I'm very comfortable where we're at in our future.

Our next question comes from Kevin Cole with Crédit Suisse. Kevin Cole - Crédit Suisse AG, Research Division: Becky, congrats on the retirement.

Thanks, Kevin. Kevin Cole - Crédit Suisse AG, Research Division: You've been a great mentor over the years, and I appreciate all your help. Thank you very much. And so I guess for the question on deregulation, Don, can you provide a little perspective on what happened last time Arizona did this exercise? And can you give, I guess, some comments on just your general confidence that this will be resolved in September, October timeframe?

Sure, Kevin. Let me first start with your last part of the question. I am very confident that the Corporation Commission is going to act in the best interest of all our customers and to do that action on a timely basis. Where I sit now, I think we could count the number of customers that are proponents of dereg, so-called deregulation, on one hand, and I'm looking at a list of 153 organizations, elected officials, chambers, numerous other business leaders, leaders of the Arizona Senate, the Arizona House of Representatives, numerous mayors, city managers and other local elected officials across the state that have come out strongly against it. I don't think the proponents of deregulation necessarily counted on the negative reaction it's received. As you know, reliability of an electric system is very important, and it's also a fundamental of all advanced economies. But in Arizona, the hottest state in America, reliable electric service is literally a life or death necessity. Regarding what happened last time around, and that was the latter half of the '90s and the first couple of years of 2000. First, I'll direct your attention to when the utilities in the state made the filings the middle of this month. APS's filing had a cover letter from me on it; as did Paul Bonavia did the same at UNS; and Mark Bonsall, who's the Chief Executive Officer of Salt River Project, he also addressed Salt River's project filing with a cover letter, and I don't know how accessible Mark's letter is. If you can't find it on their website or the commission's website, we'd be happy to provide it. Mark is the 1 of the 3 of us that was actually around here for that period of time. But let me respond to your…

Our next question comes from Paul Ridzon with KeyBanc.

Echo Kevin's comments, so congratulations, Becky, and thank you for all your help through the years.

You bet. Thanks.

And given what your comments around new construction, are we to the point where you're looking at or actually putting in new substations and thinking about new developments? Or is that still a ways out?

We're always continuing to improve the system for reliability. In terms of growth, we do have developers talking to us now about their next phase of development. Less real construction going on, but it's probably at 12 to 18 months out when we see sort of construction begin to pick up to support the residential housing build.

So right now, you're still sopping up excess inventory, but that's probably a ways out?

Pretty much. It's infill at this point.

Paul, I'll add to that. Besides the activity our customer service folks are hearing from homebuilders and developers, on the commercial side of our business, there seems to be some early signs of an uptick. Just yesterday, they broke ground in the Tempe area, our service territory right at the shores of Tempe Town Lake, on a massive project for a regional headquarters for State Farm Insurance that's going to provide jobs for 10,000 to 12,000 people there. And a good part of that is State Farm consolidating some of their operations in the west. So it will have ancillary growth opportunities just coming off that single large project.

Our next question comes from Julien Dumoulin-Smith with UBS.

So kind of falling back on Kevin's question a little bit. Again, once again, thank you very much, Becky. But I wanted to follow up on retail here and go back to perhaps a little bit of the change of late has been the introduction of net metering and solar DG is kind of taking off to a certain extent. How is that kind of changing the color of deregulation or the conversation, if you will? I'd be curious, are we talking about something a little bit different? What are the different outcomes potentially as it relates to so-called restructuring, if you will? And what I'm really getting at is some of the questions posed by the ACC appear to be getting at exactly that nuance between solar DG and restructuring, if you will?

I've got Jeff Guldner here, and I'll let him jump in on that.

Julien, part of the challenge, I think the net metering discussion makes the deregulation conversation more difficult or more complex, and it's primarily because the net metering is mostly impacting the fixed cost recovery, and so much of that is on the wire side that would not be subject to the restructuring debate. And so it simply adds another layer of complexity as we have the discussion that you'd have to sort through if you were to move forward with any kind of a deregulated market.

Okay, fair enough. And then perhaps a little bit more detailed question, if you will. With regards to Four Corners, again, kind of thinking through the various options here. As you're thinking through kind of that 12/31 year end EPA deadline, amongst, I suppose, several other considerations, what are some of the key milestones that need to be hit or could trigger differences in the transaction as you think about it?

Well, obviously, clarity on what happens in Arizona is going to be a key one for us as well. That's probably the primary driver at this point in where we are with Four Corners.

Or maybe stated differently, do you need to get resolution by a certain point in time?

Well, I don't know if there's necessarily a date and time, but for, frankly, for every day goes by, there's a risk to the Four Corners transaction. But as I go back to my earlier comments to Kevin's questions, I'm fairly confident that this commission's going to act in the best interest of our customers in a timely basis, and we're going to exercise our best efforts to keep the Four Corners transaction viable.

Our next question comes from Brian Russo with Ladenburg Thalmann. Brian J. Russo - Ladenburg Thalmann & Co. Inc., Research Division: Most of my questions have been asked and answered. I was just wondering if maybe you could just give us a quick update on any longer term transmission project opportunities?

Well, we have in our -- in APS, the biggest transaction going on now is our Hassayampa into North Gila Line 2. It's about a $250 million, roughly, transmission project which we expect to be in service by April of 2015. And outside of that, we just continue to look at opportunities away from APS, and the Delaney-Colorado River project we've submitted to the Cal-ISO, and we're still waiting for resolution on that. Brian J. Russo - Ladenburg Thalmann & Co. Inc., Research Division: Any timing on resolution or any estimated investment for it?

No. We thought we'd have resolution on September, but resolution now is a little more murkier in terms of when we'll get some sort of a yes or no on that.

Our next question comes from Ali Agha with SunTrust Robinson.

First, on Four Corners, I just wanted to clarify a couple of things. I know that as every month passes, the value of that transaction comes down. But I wanted to be clear from Pinnacle West's perspective, is there a particular time period by which you need to complete this? Apart from the EPA deadline, is there any other regulatory deadline we need to be aware of? And just from an economic perspective, because I know in the past, I had a call, getting from you guys that if it didn't get done by the end of the year, it didn't make sense to do it. But I just want to be clear what the current thinking on this one is.

Well, I think other than the clarity that we've talking about before, not sure there's anything else that needs to happen other than we just need clarity on what the market structure is going to be.

Okay. So if that discussion spills over into next year, I mean, there's nothing to stop you from waiting for this process on the clarity front to play out before closing it? And this could happen next year, say, first or second quarter. That's not an issue for you?

Well, Ali, we've got our -- the EPA has extended the BART settlement through the end of the year. So beyond the end of the year, it introduces a whole new risk profile to the situation. Again, we go back to the point, I think this is going to get resolved long before year end.

I just had a call, the way that the rate case settlement was made, I think the carve out for Four Corners also expires at the end of the year? Is that right?

That's correct.

Okay. Second question, Jim, I apologize if I missed this, but what was the load growth weather-normalized in the second quarter? I don't know if you gave that and I may have missed it.

It was less than 1% retail sales increase.

So there was a slowdown from the Q1 trend?

No, not really. I think the difference between the 2 quarters relates to, again, customer mix and usage patterns. We saw an increase in residential sales, but a reduction in commercial sales. And so there was a de minimis impact on gross margin growth in the second quarter.

I see. Last question, as you're thinking, I know it's going to be a couple of years out, on the timing of the next rate case once the stay-out period is over. Is that more a Q3, Q4 '14 event in your mind? Or can you just give us big picture of when it is that you would be in a position to make a determination on the timing there?

We can't file until May 31, 2015. I would say that the timing would be sometime in early '15, whether we want to file May 31 or we want to wait.

Our next question comes from Neil Mehta with Goldman Sachs.

A couple of easy questions from me. The first is, so guidance went up $0.10 on the quarter, but weather positively impacted EPS by $0.14 versus normal. What's the delta there? Is that simply Four Corners or is it the O&M trends that you've seen so far this year?

It's just based on looking at where we are and what we have ahead of us in the second half of the year. As you know, the third quarter is our big quarter in terms of earnings. Just putting a probability distribution around that, when you do that, it comes up to $0.10. So I wouldn't necessarily say that because weather is $0.14 and the range is $0.10 that there's a negative looming in the second half.

Got it. And just on O&M, how should we think about the right O&M growth rate post 2013? So off of this base, in light of some of the cost savings initiatives that you guys are employing.

I would think you would look at the O&M growth to be equal to or less than the rate of growth of kWh sales.

Perfect. And then last question, Jim, in light of increasing interest rates, what are your thoughts about using a forward equity mechanism to lock in current prices?

Neil, my response to that would be, we're very well versed on the forward, but as I sit here today, and I have no short-term debt and a very healthy equity mix, I'm not really thinking about equity at the moment.

Our next question comes from Sarah Akers with Wells Fargo.

Just one question on the general support for coal in Arizona. We've seen measures in some of your neighboring states to move away from coal. Are you seeing anything similar in Arizona or how would you characterize the support in the state?

I would say there is -- we're not like the other states moving away from coal. In fact, we have one commissioner who stressed that she'd like to see coal as part of the generation mix. So I think at this point, you have Navajo, which is really a big part of the water system in Arizona. And a high desire, obviously to the impacts of water rates for that to stay open as well. So I would say, the state is -- likes our mix of nuclear and coal and gas and that generation diversity is a positive.

Sarah, Don here. I'll add too, if you'll go to azcentral.com, the website for the Arizona Republic. This morning, U.S. Congressman Paul Gosar on the Arizona delegation wrote an op-ed in support of coal generation.

[Operator Instructions] Our next question comes from Charles Fishman with Morningstar.

I just had one quick one left. Just to make sure I understand this. The ACC review of regulation versus deregulation, that has had no impact on AZ Sun or your demand management program, correct?

That's correct.

Correct.

Our last question comes from Andy Levi with Avon Capital.

I guess first, I'd like to say, and I kind of expressed this to Becky in New York, but Becky, I've known you for a very, very long time and not everybody can achieve being the best at what they do, but you clearly have. And also proud to call you a friend, as Don has. So congratulations on achieving what you've achieved. Question-wise, Jim, just on Four Corners. How quickly -- so let's just say, tomorrow, the commission put this to rest, or you were comfortable kind of where things were going, how quickly can you close on Four Corners?

Fairly quickly, actually.

Fairly quickly being a week, 2 weeks?

It's going to take time to ink documents. Probably within 30 days certainly. I mean, I think everything is ready to go.

Okay. So it's kind of a 30-day process.

30 or less. I mean, you always, in these transactions, just need to check everything. So fairly quickly.

Great. And then just the interest savings, how much was from Four Corners? I don't have that in my notes so I'm just -- need that for my model.

$3 million to $4 million.

Was allocated for this year?

Yes.

There are no further questions in queue at this time. I would like to turn the call back over to Mr. Mountain for closing comments.

All right. That concludes our call. Thank you for joining today. Let us know if you have any questions. Thanks, Latonya.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time and thank you for your participation.