Hello, and welcome to Essential Utilities Q1 2023 Earnings Call. My name is Melissa, and I will be your coordinator for today's event. Please note, this conference is being recorded. [Operator Instructions]. I will now hand you over to your host, Renee Marquis, to begin today's conference. Thank you.

Thank you, Melissa. Good morning, everyone, and thank you for joining us for the Essential Utilities First Quarter 2023 Earnings Call. Unfortunately, Brian Dingerdissen couldn't be here today because he's under the weather, so I'm filling in. I'm Renee Marquis, the Director of Investor Relations at Essential. If you did not receive a copy of the press release, you can find it by visiting the Investor Relations section of our website at essential.co. The slides that we will be referencing and the webcast of this event can also be found on our website. Here is our FLS, as a reminder, some of the matters discussed during this call may include forward-looking statements that involve risks, uncertainties and other factors that may cause the actual results to be materially different from any future results expressed or implied by such forward-looking statements. Please refer to our most recent 10-Q, 10-K or other SEC filings for a description of such risks and uncertainties. During the course of this call, reference may be made to certain non-GAAP financial measures. A reconciliation of these non-GAAP to GAAP financial measures is included at the end of the presentation and also posted on the Investor Relations section of the company's website. Here is our agenda for the call today. We will begin with Chris Franklin, our Chairman and CEO, who will provide an update on the company. Next, Dan Schuller, Executive Vice President and CFO, will discuss our financial results. And lastly, Chris will then provide an update on our acquisition program and conclude the presentation portion with a summary of our guidance before opening the call for questions. With that, I'll turn the call over to Chris Franklin.

Thanks, Renee. Good morning, everyone. Thanks for joining the call. Let's just start here with a quick mention that last week, we held our Board meeting and our Annual Meeting of Shareholders. And I'm very pleased to report that all of the items on the ballot were voted in accordance with management's recommendations. So we're very pleased with the outcome of our Annual Shareholders Meeting. All right. Let's take a quick look at the first quarter. We reported earnings per share of $0.72, and that was despite the unusually warm weather and the challenges of inflation and interest rates. We mentioned in February that weather was warmer than normal, and similar weather patterns continued through March. Remind you that we don't currently have weather normalization in our Pennsylvania tariff, previous owners of the company never filed for it. So we're going to do it in our upcoming rate case. We're going to file a Pennsylvania natural gas rate case end of the year of this year. In that filing, we will include weather normalization. Now if the PUC follows its precedent decisions on weather norm, then we should expect to have at the conclusion of our rate case, and that would be, call it, spring of 2024. Again, this will be the first natural gas rate case we filed in Pennsylvania under our ownership. So we need to get that work underway. Now despite the unfavorable weather in Q1, I want to tell you that we remain confident in our ability to meet our full year earnings per share guidance of $1.85 to $1.90. We'll continue to evaluate our various options and initiatives that could help us make up for the first quarter weather. One of those initiatives was already in the plan, but it's the current sale process for…

Thanks, Chris, and good morning, everyone. I'll start off with some of the first quarter highlights. We had revenues for the quarter of $726.5 million, up 3.9% from $699.3 million last year. Our Regulated Water segment contributed $267.3 million and our Regulated Natural Gas segment contributed $441.3 million. The largest contributor to the increase in revenues for the quarter was a recovery of higher natural gas commodity prices and therefore, purchased gas costs increased by $28.6 million year-over-year for the first quarter. Additional revenues from regulatory recoveries, water and wastewater customer growth, and other items also contributed positively or offset materially by decreased volumes in the natural gas segment due to the warmer-than-normal temperatures that Chris mentioned a moment ago. O&M expenses decreased to $138 million for the quarter, down from $142.6 million in the first quarter of last year. Higher water production costs and growth from added water customers were offset by lower employee-related costs, recoverable costs related to our natural gas segment customer assistance program, improved bad debt and other items for the quarter. Net income was down year-over-year from $199.4 million to $191.4 million and GAAP EPS was $0.72 for the quarter. Next, we'll walk through the waterfall slide, starting with revenue. In the first quarter of 2023, revenues increased to $27.2 million or 3.9% on a GAAP basis. You'll notice the primary drivers were the recovery of higher purchased gas costs of $28.6 million due to the significant increase in natural gas commodity prices and regulatory recoveries of $22.9 million. Customer growth from our regulated water segment, which includes both acquisitions and organic growth and other items provided an additional $6.4 million towards the revenue increase. The primary offset to these increases was decreased gas volumes of $30.5 million from our Regulated Natural Gas segment due…

Thanks, Dan. Let's talk a little bit about the municipal transactions. Matt Rhodes and his team have been busy. As of this call, we have 8 signed asset purchase agreements for 9 systems across 4 states in which we have existing water operations. So this includes the recently announced Greenville wastewater system that has over 2,300 customer connections and also serves over 1,700 additional customers through 2 wholesale customers in the neighboring townships of West Salem and Hempfield. Collectively, these acquisitions are expected to add nearly 219,000 customers or customer equivalents and total over $380 million in purchase price. Five, and I count two in Frankfurt, right, five transactions on this slide are on track to close in Q2 or Q3 of this year, includes Shenandoah, Southern Oaks, Union Rome and Frankfort with other acquisitions expected to close in Q4 2023 and of course, some in Q1 of next year. As many of you know, progress on the DELCORA regulatory process is under a stay by the Federal Bankruptcy Court handling the bankruptcy of the city of Chester. The next hearing of the bankruptcy court is next week, May 15. Settlement discussions do continue, albeit at a slow pace, but we remain optimistic that a settlement can ultimately be reached. Importantly, our rate projections, along with the last rate projections I've seen from DELCORA continue to indicate that customer rates will be lower under our ownership when compared with DELCORA remaining independent, so this transaction remains to be good for the customers. It's probably important to reiterate again that despite the delay in DELCORA process, we still plan to meet our current earnings for the year. I should also note that our sale of our small West Virginia gas operation remains on track in the regulatory process, and we expect…

[Operator Instructions]. And our first question comes from Ryan Connors of Northcoast Research.

Three things from me this morning. The first is pretty quick and straightforward. Nothing in Pennsylvania right now on the rate pipeline side. DSIC filing in Pennsylvania, is that something that's contemplated for '23? Or is that you think it will be a little further out?

Ryan, I'd anticipate that we would have DSIC filings for both water and gas in Pennsylvania later this year.

Okay. Okay. Secondly, on the -- Chris, you mentioned the gas rate case and the weather normalization component of that, conceptually, if you're being asked, you're taking a risk like you took in the quarter where sometimes you get hit on lower volumes. Conceptually, you get paid for taking that risk, maybe with a better return on equity. So what's your thought process on the balance between asking for the weather normalization, but trying to make sure that, that doesn't end up biting you on the back end if there's going to be an argument that less risk should come with less return in terms of ROE.

Yes. I think what we found is as you look at other utilities who currently have weather normalization in Pennsylvania, there's been no discounted return on equity. I think we would expect if the commission stays with their precedent decisions, that we would see something similar in the case that we requested. So listen, I think as you realize, as it's constructed, you will give away the upside as well as the downside. But I think when you think about water utility investors, typically people want certainty, stating this, right? And so we think weather normalization is a better outcome than taking the down swings and the upswings.

Yes. Okay. And then, lastly, I wanted to chat just a little bit about this Delaware River spill and cleanup. And congrats team there on a great job managing that issue. We're very close to that here in terms of location. And it really -- the way Aqua handled that really stood in contrast to a lot of the neighboring communities. I mean there was outright panic in a lot of the communities, not only Philadelphia, but some of the Bucks County communities as well, and you just didn't see that because I did think Aqua's communication and remediation was really tight. And so my question is, obviously, your name gets dragged through the mud a lot locally, especially in Bucks County with the with the whole acquisition attempt last year. How do you use something like this to get the message out and have you done anything locally to try to get that word out about what a great job the company does relative to not all, but to some of the local government-owned systems out there.

Yes, it's a good question. And I would say, just for clarity, say, Ryan, you live here, some others may not, when we say dragged through the mud, it's really only with regard to acquisitions. The company's operational record is stellar and our general reputation in all the communities, including Southeastern Pennsylvania is really strong. So -- but where we get into these scuffles on acquisitions, we're always looking for opportunities to tell our story. And I think a couple of things, number one, we started to get much, much more favorable press. It's a really designed strategy and I give credit to our new Vice President of Communications, Jeanne Russo, who's done a beautiful job in telling our story in a fashion that is -- I think the people really resonates with people. But in this case, in particular, we had pushed down authority to the plant level. In years past, they may have had to go through the chain of command in order to shut down a plant intake. That doesn't happen anymore. Those plant operators and management teams are really, really on top of it, and that's where the decision should be made and was made in this case. So we kept that contaminant from coming into the plant. And then further, to be able to put the communication out there that was strong and steady. As you mentioned, and back to made national news, city of Philadelphia came out and suggested people may need to be in bottled water. So there was a huge run on bottled water in the city of Philadelphia and probably unnecessarily so in hindsight but I think people have grown accustomed to our style of operational response, including communications, and it was just something I'm very, very proud of in this instance.

And our next question comes from Paul Zimbardo of Bank of America.

Could you just give a little more quantification on some of the offsets to the very warm weather, again, DELCORA timing? I think you mentioned that there's an asset monetization in plan. Just if you could quantify that and help build up the bridge a little bit to the full year guidance.

Yes. Yes. Listen, it's a process that is taking place right now. And so I can't give a whole lot of detail on the process, but there is a process to sell the CHP as well as the micro grid in -- at the airport and as well as the steam system in the city. So that's a -- it's 3 projects, we think about them as a unit, but they're not interconnected. And there is an ongoing process. So I can't give you a great deal of detail. Dan, do you have anything to add to that?

I guess the only thing I'd add, Chris, is Paul, as you would expect, we're taking a really close look at our O&M expenses this year to see if there are areas where we should be optimizing. And then also being exceptionally diligent with regard to regulatory filings, whether that's a pass-through or a SIC filing being diligent with respect to those. And frankly, we've been helped by a little bit of colder than normal weather in the April time frame and into May, which has helped a little bit when we think about the significant shortfall in the first 3 months.

Okay. I understand that on the cost flex. And then shifting over to the credit side, what FFO-to-debt do you expect now for 2023? And if I read the materials right, it looks like you went to the top end of that $400 million to $500 million range, now it's all in 2023. If you could just help explain that evolution there.

Well, I think when you think about FFO-to-debt, you also have to keep in mind we're in the middle of repair at Peoples, too. So we're -- you're seeing a lot of our income come from the tax line. I just want you to keep that in mind as we think about how the credit agencies don't always see exactly how we see it. But our -- what we will say is our -- in our 5-year plan, our FFO-to-debt continues to move northward in a positive fashion.

Yes, that's absolutely right, Chris. And I think maybe just for clarity, what we've been told is that -- and this is widely communicated that our downgrade threshold is 12% FFO-to-debt. And if we're below that on a sustained basis, we would be having conversations with the agencies. Given what Chris mentioned about repair, we tend to have conversations with the agencies where we calculate FFO-to-debt on kind of a straight basis. And then we also add in adjustments for the fact that we've been out of rates in Pennsylvania due to repair. So rather than seeing a pickup in FFO and having the revenue associated with those earnings with that rate base, we're picking up those earnings on the tax line. So we do an adjustment for that, and we have conversations with respect to weather as well. So I think it's fair to say that the -- we have an impact here relative to weather as well as interest rates. And so we're working to offset that. And...

And Dan, I think importantly, and this is something to think about, Paul, as we come through the Peoples rate case, right, which we filed at the end of this year, that FFO calculation becomes much more straightforward. And I think alignment with how the credit agencies see it and how we see it becomes very clear. So that's only another -- this time next year, things should return to what we would call normal. But in the meantime, there is a little bit difference in how we think about those numbers versus some of the credit agencies.

Okay. I appreciate that. And I could follow-up offline as well. But it sounds like that change is kind of in response to kind of preserve against that the rating agency trigger. Is that fair?

I think it's fair that -- we're always looking at what's the right way to finance the business and these things evolve over time, and they evolve from quarter-to-quarter. And so we put a little more -- a little finer point on what we said today in terms of the amount of equity that we would look to raise.

Okay. Great. And then following up, since you mentioned it, I know there was that new IRS guidance on natural gas repairs tax. Just any implications or impacts on whether earnings, cash flow or anything or the like?

Yes. So Paul, that literally just came out a few weeks ago and obviously been anticipated for a long time. Everyone is just trying to get their hands around it today to see what does this possibly mean and working with the various big 4 accounting firms. So let us do our work on that, and we'll get back to a later date when we know more. But it's, as I say, really early days.

And our next question comes from Travis Miller of Morningstar.

Back on the Pennsylvania gas potential filing here later this year. Apart from the stuff you already discussed with the ROE, the tax issue, the weather normalization, the core part of the rate case, what are you thinking or what have the trends been since the last filing since the acquisition on stuff like O&M, capital investment, some of the other core items.

Yes. So as you can imagine, Travis, we've made significant capital investments since the prior rate case. And as Chris noted, the prior rate case was really done before our ownership of the company. So we would see this -- and the other thing that I guess wasn't included in the last one, but we obviously will include it here is a fully projected future test year. So in this case, look for this to recover the capital that we've invested so far, the capital and expenses through that fully projected future test year to incorporate the repair benefit into the case so that, that repair is part of the -- I should say it this way, the tax -- the lower effective tax rate from repair becomes part of the revenue requirement and thus, the benefit of repair is going to the customers. And then as Chris noted, weather normalization. So those are the points I guess I would make in terms of...

And obviously, any of the inflation that we've experienced, we start to pick up.

Absolutely.

Yes. Okay. That makes sense. And then more of a high-level conceptual question, talking about that 2% to 3% customer growth for water, flat for gas. Again, just a high level, it seems like when you build a house, you need water and gas. So wonder if you could square the difference. Are you seeing more houses electrified. Is there some kind of efficiency? I don't know. What are the thoughts there? What's the big delta?

Travis, it's mainly geography. So if we talk about where we have larger organic growth, we probably have more than organic growth in Southeast Pennsylvania than Southwest. And we see that large organic growth in North Carolina, Texas, Indiana, around the Indianapolis area. So we do tend to see more building, if you will, in our service territories and no states that I just walked through.

I've just seen recently a couple of housing developments that were all gas in the Pittsburgh region, which says it's still growing, but not enough to really move the needle. That's why we call it steady.

Yes. And even Chris, maybe we had pulled some data recently and it's hard to get exact data in terms of housing construction and gas connections out in Western Pennsylvania but we are seeing there's still that desire to have natural gas in new construction. And so we think they're pretty well correlated out there that as you see new construction around Pittsburgh, they are gas connections.

Okay. Very good. So no material of electrification type of trends that you're seeing?

Not seeing any trends in the areas where we serve, right?

No, not at all.

Our next question comes from Gregg Orrill of UBS.

Just wondering what sort of updates on PFAS, we should be looking for around the May 30 filings with the EPA.

Listen, I think a couple of things. One, the current reg suggests that we would have our work complete on mitigation by 2027. And I think that's going to be a stretch. And I think hopefully that gets extended a little bit. But we're running as fast as we can. It's just a big effort. Secondly, I would say this is a much bigger project or set of projects, then I think EPA is talking about it. I think they're probably coming at terms with it but they've estimated that the cost for this is nationally is somewhere around $2 billion. And I would say that's a gross underestimate. And I think that will come out as time goes along here. As we look at the projects across our areas, there's concentrations. So it's not focused on systems across the platform. It's focused on key areas, areas like North Carolina, New Jersey, and it's a little spotty. So it's not like you take this and spread it over the whole customer base. But when you think about where we were at 13 parts per trillion, and the costs associated with that and now where we are at 4 parts per trillion, the MCL that EPA has announced, it's fairly dramatically different. Four parts per trillion is almost non-detect and so the costs are vastly different. But listen, we're going to be supportive. I think the administration is going to press this one. So we don't anticipate seeing any changes we think the 4 parts probably goes, and we'll do our part to get there.

Our next question comes from Davis Sunderland of Baird.

Good to see some updates on the pending unit transactions and the file that are going to close in the next two quarters roughly. Just wanted to ask high-level thoughts on any changes that have been in the pipeline, whether there have been difficulties or opportunities related to the worsening macro environment, banking stress or any difficulties you guys are seeing with maybe competitors having financing challenges or just any opportunities that may be coming in that in the pipeline?

Yes. I guess the news over the last several months has been an exit of what could have been a fairly large player in the space, right, NextEra decided to exit the space. So that's probably one of the interesting pieces of news. I haven't heard particular financing challenges of peers. But I think what you probably start to see is some challenges materializing in the municipal sector. And certainly, PFAS will contribute, right? We believe the PFAS issue is much larger, again, than EPA is estimating. And once the municipals find these challenges, again, assuming that enforcement will be a key element here, then there will be a lot of municipals looking for help on PFAS. And whether that's helped implementing their own solution where we might be able to help or, oh my gosh, this is so expensive, we need to exit. And so that could be a key contributor toward our acquisition program as we offer our set of solutions.

[Operator Instructions]. Our next question comes from Jonathan Reeder of Wells Fargo.

A lot of my questions have been asked, but just a few follow-ups. So I guess, given the offsetting efforts already made and the favorable Q2 weather that you kind of mentioned, how much additional work do you think you have to do to fully offset what I think was roughly $0.08 headwind from the Q1 gas volumes.

Yes. Let me just clarify because I don't want you to overthink the impact of -- or estimate the impact of a warm -- cold, I should say, April. Think about an $0.08 weather impact in the first 3 months of the year, we might have sort of $0.01 of that coming back in the fourth quarter, maybe a little bit more, but it was just 1 month. And as you know, when you get into April, your heater just kicks on less. So it's not days as we go further towards summer, don't have as much impact as they do in January, February and March. So we have work to do here, as Chris mentioned, obviously, though, the sale of the energy projects and the O&M focus and the diligence around regulatory filings that I mentioned, all contribute to that work in terms of making up for that shortfall.

Okay. But like the O&M decrease that we saw in Q1, was that related to you guys starting to kind of flex that muscle already? Or has that stuff not really kicked in yet?

I would say it's a mix. There were some other things that helped in Q1, certainly weather being warm, where you do have fewer main breaks, lower maintenance expenses. I'd say the -- some of that focus you would have seen in the first quarter, but more of that focus is to play out through the next 9 months of the year.

Got you. And then I think you kind of did allude to it that you put a finer point on the amount of equity you needed. I think you said $500 million in 2023. So kind of 2 questions on that. Does that $500 million, I guess, does that include the like $50 million to $75 million that you issued in late '22 under the ATM? And then also, what would that total look like if DELCORA slips into 2024 from a close perspective.

Yes. There's a lot of -- some specificity there, Ryan. Let me talk -- Jonathan, let me talk about that a little bit. So we think about kind of approximately $500 million more incremental to what we did under the ATM. So that's the first part of that. And then as we continue to evaluate our credit metrics relative to acquisitions, we'll give more clarity beyond this point. So this is what we're going to talk about, I think, leave it at that today. I mean, for the year so far, too, under the ATM, if you think about the raise, we did some last December, we did a little bit in January, but it's less than $20 million worth, it wasn't a big number.

But as we think about like, I guess, DELCORA, I mean, should we still be thinking like the M&A deals are 50-50 or because of the thought around the credit metrics, is it capitalizing at -- or the equity portion being greater than 50% now?

No, I think 50-50 is the right way to think about acquisitions. But I also would remind you, we have a significant CapEx program that we're running today, too. So it's capital, it's acquisitions. Think of the big dividends, big cash users, all demand that we continue to look at how we finance the business.

Okay. Okay. And then lastly, did you give an estimate of what the expected proceeds from the sale of those kind of 3 Peoples projects are? Is it like anything meaningful from an equity offsetting perspective?

Well, we're in the midst of a process there, so we really can't comment on the -- either what we think that top line price could be or what kind of gain might be built into that.

Okay. But the gain would flow through to help, I guess, hitting guidance this year. And then what are the proceeds of, yes...

Yes. I think of it is twofold, right? There's a gain that helps from an income perspective and their proceeds that help in terms of financing the business in [indiscernible] capital base by another means.

Thank you. At this time, we have no further questions. So I'd like to hand it back over to Chris Franklin for any closing remarks. Please go ahead.

Great. Thank you, everybody. Thanks for your time today. As always, we'll remain available for questions, follow-ups at any time. Renee standing in today for Brian. Brian will be back in action soon, though. And I appreciate you being with us today. Take care.

Thank you, everyone. At this time, you may disconnect. Hosts, you can stay on the line.