Oct 29, 2010
Executives
Martin Kropelnicki - VP & CFO Pete Nelson - President & CEO
Analysts
Garik Shmois - Longbow Research Heike Doerr - Janney Jonathan Reeder - Wells Fargo
Operator
Good day ladies and gentlemen and thank you for standing by. Welcome to the California Water Service Group third quarter 2010 earnings results.
At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time.
And as a reminder, this conference is being recorded. I would now like to turn the conference over to Mr.
Martin Kropelnicki. Sir, you may begin.
Martin Kropelnicki
Thanks, Tammy. Good morning everybody and welcome to the third quarter of 2010 conference call for California Water Service Group.
With me today is Pete Nelson, President and CEO. I’d like to remind everyone that a replay of today's discussions will be available from Oct 28 through December 27 at 1-888-266-2081, ID number 1484282.
Before discussing the results for the quarter I'd like to take a few minutes to discuss forward-looking statements. In particular during the course of this conference call, the company may make certain forward-looking statements because these statements deal with future events, they are subject to various risks and uncertainties and actual results could differ materially from the company’s current expectations.
Because of this, the company strongly advises all current stockholders as well as all interested parties to carefully read and understand the company’s disclosures on risk and uncertainties down in our Form 10-Q, Form 10-K and other reports filed from time to time with the Securities and Exchange Commission. Having said that, let's take a look at the quarter and I'll turn over to Pete to talk about some of the evolving issues with the PUC.
Revenue for the quarter increased $7.2 million or 5.2% to $146 million. Included in that number was a gross WRAM adjustment of $11 million in the WRAMs, the Water Rate Adjustment Mechanism associated with revenue and an $8.6 million negative MCBA, which is a modified cost balancing account which tested the production cost where actual production costs were below adopted numbers.
That gave us a net $2.4 million increase to income. Operating expenses for the quarter were $5.4 million, increased $5.4 million or 4.7% to $120.5 million.
I'll briefly go through the production cost breakout between purchase water, purchase power, and pump taxes but please keep in mind these are all covered by the MCBA. During the quarter purchase water increased 14% or $5.1 million to $40.5 million.
Purchased power increased 8% or $750,000 to $10.8 million and pump taxes went down 6% or $200,000 to $3.3 million. Again all three of those components are covered by our MCBA, our Modified Cost Balancing Account.
A&G for the quarter went down $1.3 million or 6.8% driven by lower legal cost outside services and overall the company keeping the operating budget very tight for 2010. Other operations increased 1.7% or $300,000 to $14.9 million.
This is partially due to transmission distribution cost partially offset by a decrease in collectible accounts as well as increased use of surface water and chemicals and filters associated with that surface water. Maintenance expense for the quarter increased 10% or $450,000 to $4.9 million, all associated with our work on mains.
Depreciation amortization for the quarter increased $600,000 or 6.6% to $10.9 million, really driven by the 2009 capital improvement program and the plant that we put in service during 2009. For the quarter income taxes went down $592,000 or 4.4% to $12.8 million.
This is due to two things primarily one, the true up as we filed our tax return, we have to file the true up associated with our tax provision as well as the company finished a comprehensive deferred tax review. Profit taxes and other taxes for the quarter were up 4.2% or approximately $200,000 to $4.5 million associated with just the property taxes in franchise taxes associated with the new property and equipment put in rate base.
Net operating income for the quarter increased 7.35% or $1.7 million to $25.8 million. Other income and expense for the quarter was $1 million about the same as last year and interest expense for the quarter increased 17% or approximately $900,000 due to higher borrowing on our line of credit which is approximately $56 million outstanding at the end of Q3.
Almost all that money is gone into our capital program for 2010. Net income for the quarter increased 4% or $800,000 to $20.4 million and earnings per share for the quarter were 4.3% higher or $0.04 per share higher to $0.98 over the same period last year.
So we got a 50,000 feet and look at how the components here, usage was down, which was offset by higher purchase water cost, the WRAM, MCBA seem to be working fine. And as we started 2010, as we told they are running with a stretch here for the company given the fact we asked some of our districts that have gone 3.5 years without rate relief.
Well it’s a tight year from EPS perspective. We believe our operating trends continue to be strong especially on the A&G lines and our CapEx programs and we believe we positioned our company really well going into 2011.
With that I'll turn it over to Pete and I'll come back and talk about the balance sheet. Pete.
Pete Nelson
Okay, thanks Marty and good morning everyone. I'll be wrapping up I hope, two important procedures that I have talked about several times in the past.
Both are important to the company's financial position going forward and both are nowhere important to you and rest on the call. The first is the 2009 General Rate Case.
There has been a new event there and that the Administrative Law Judge issued his proposed decision yesterday in this case. And the second item is a revision to the Water Action Plan which I'll call Water Action Plan II.
And as you recall this document sets the public policy for regulating water companies in California. Both of these as I said are very important to the company.
They are important to the Commission. In fact the Commission has spent a lot of time on both these procedures in the last few months especially in the last month or two.
And that’s partly because we had at least two commissioners and may be three commissioners who were leaving the Commission at the end of this year. One is Commissioner Bohn and the second is Commissioner Grueneich, both are turned out and we expect them to be leaving the Commission.
Our third commissioner, Commissioner Ryan has not been confirmed by the State Senate. So that’s a possible change there but we are not quite sure yet.
Commissioners Simon and Peevey are in the middle of their terms so we expect them to stay on. So as I said, we expect two or three new commissioners to be appointed next year by the new governor.
That’s important to get these cases approved before the end of the year. So I think I'll start with the Water Action Plan II.
It’s on the Commission’s agenda to be approved today actually and that’s good news. The revisions that we've seen and the current Water Action Plan II on the agenda is very good, are very reasonable.
If you recall the first version of this was adopted in December 2005, and this does set the policy for regulating water companies. The revision has been in the verge for months and its been several versions out for comment and I must say that the Commission has been very good about asking for comments, for suggestions and reconsidering those comments as the plan evolved in the drop stage.
The old version Water Action Plan II is 28 pages, the new version is 35 pages. I really don’t see any major departures from the current policy.
The current view their Water Action Plan II proposal really does just continue the current policies may be put more teeth into them. It has a few things I think worth noting from a financial perspective in the proposed draft Water Action Plan II.
One is to encourage, in fact I used the word encourage or consider and each of these. One is to encourage financial incentives before investing in infrastructure especially that needed for water quality.
Another is to look for incentives to encourage conservation and consider financial rewards for utilities when conservation goals are met and penalties of course on the other side when conservation goals are not met and opportunities for higher earnings resulting from successful conservation efforts and a possible sharing of savings with customers. This is also parts of the plan that talk decision making streamlining at the Commission’s level, that’s always a good policy.
Also the plan includes provide incentives for large utilities to takeover smaller systems and also consider offering incentives to promote company acquisitions could include surcharges for capital improvements or an adjustment to the allowed rate of return for the acquiring utility. Those items were in the first plan I don’t think they played out too strongly but they are continuing to be policy for the Commission if this is a topic today.
So that’s overall I would say the devil off course is in the details. The way the policy is put in place is as each water company makes an application to the Commission using the form of the general rate case.
Each company seeks to apply certain parts of the policy in the proceeding and then that’s kind of worked through as the proceeding goes on and ends up in a decision that is applying the policy in a specific chase. So overall I’d say that the process was good, the plan was good, its worked upon, its balanced and its on the Commissions agenda today and we can get through a copy probably at this afternoon tomorrow and when that’s finalized.
That’s good news. The second issue and I hope this is the last time I talked about this one just our 2009 General Rate Case.
We are in the final sprint of the finish year. This has been an 18-month or more process and that certainly gets the largest rate case for a water company in Calfornia’s history.
As you know this rate case covers all of our California districts and our headquarters or corporate costs, it does exclude the cost of capital which is a different proceeding taken up for the different time. Commissioner Bohn, the assigned commissioner and he has several proceedings, he is trying to ramp up this year and we know that he said its his desire to get all of this cases decided before he leaves the position at the end of the year.
So yesterday the administrative law judge issued just the post decision in the case which basically recommend adopting the old party settlement that we’ve all agreed to. And this is again it is an agreement between Commission staff, us, and interveners.
Some elements of the proposed agreement are worthy of note; one is that we're looking for annual revenue, and annual revenue increase of $25 million beginning the first of next year. Now that number has changed over time as this case has proceeded because in the original case we included, we’ll be expected to incur in the way of wholesale water costs and some production increases in cost and some offsets and some inflationary increases.
And as time has gone on, some of those increases have been accepted and adopted and put in the place. And so today the revenue increase we are looking forward for the first of the year, for general rates its $25 million.
This is also an addition of $7 million in future revenue we expect as a series of capital projects that are identified in the case gets completed. If you step back and look at how the rate case process works, what the rate making process tries to do is look ahead and try to determine less reasonable expenditures in capital and expense items.
And predict those out three or four years. Now some of the capital expense items are found to be reasonable and prudent and necessary but its uncertain when the timing will be for those capital projects and is uncertain when the cost will be incurred or when the cost will go up.
And so there are some rate making mechanisms, some call it advice letters for the capital projects so that when these capital projects are finished, then we filed an advice letter with the Commission and ask for rate recovery at that time, that’s a $7 million that I talked about. On the expense side, we have got the same mechanisms or the same kind of concepts going on there are couple of opportunities for us on the expense side that are new approaches that are in the proposed agreement.
One I'll talk about is pension cost. These costs are very difficult to predict, difficult to control and so the proposed decision includes a balancing account for pension cost which allows us to book those pension costs in real time.
The second item is new to us also which is a memorandum account for healthcare cost increases that are a result of federally mandated changes in healthcare. Now our memorandum accounts means you correct those costs and you apply for recovery later are for the prudently incurred costs as a result of federally mandated healthcare changes.
I think those are both good mechanisms, both are reasonable and we think the entire proposed decision is reasonable we are beginning a 30-day common period today and we expect this to be on the commissions agenda for EBIT December 2 or December 16 and look for a decision then. So, those are the two proceedings, looking forward to ramping those up, and I think I'll go back to Martin now for the balance sheet and or more information on financials.
Martin Kropelnicki
Actually two quick comments on the GRC settlement that’s coming through. One, Pete here pointed out pension expense and the difficulty in predicting that as we start the year, we have a pension estimate that are actually is put together and that we use that to book our 587 expense throughout the year.
And then you threw it up later in the year and Q3, we got a revised estimate from our actuaries based on the new census data and we booked the $780,000 adjustment with a quarter for pension expense. So that’s it in the quarter and when it goes back to really January first it was based on new information, like new employees and things like that.
Certainly, the pension balancing account would mitigate some of that volatility with that number in the 587 expense is covered by that pension balancing account. In addition as part of the General Rate Case settlement and with all parties being signed off there were a couple of contested assets to associate some of our smaller districts and during the settlement process we agreed the cap what was in the rates associating what these two projects in particular and as a result we have a cap and what’s in rates we have a reduction that we had a charge for the income statement about $600,000 of share, excuse me $600,000 period which comes as about $0.02 of share.
So, between the pension and the settlement we had made adjustments in for about $0.04 of share in the quarter. So, looking forward pension balance put in place couple of other points would like to highlight on the balance sheet.
The company finished the quarter with net utility plans at $1.28 billion, that’s up approximately from 9% from last year when we are have $1.75 billion at the end of Q3 company funded CapEx we have spent about $79 million through September 30, 2010 sort of going to the final stretch with our program as you may recall we have a fairly aggressive program, to between 120 and $130 million for the year, our construction work in progress balance finish the quarter at a $141 million, so these are incurred dollar spent associated with capital projects that as we build them and want to build they are taking out the construction work in progress and put into rate case. That’s up approximately12% over Q3 of last year which is a $126 million.
Net cash flow from operations was a positive $78 million and as I mentioned earlier we are about $56 million ROI credit. So having said that why don’t we open it up Tammy for questions from people on the call please.
Operator
(Operator Instructions). Our first question is from Garik Shmois of Longbow Research.
Your line is open.
Garik Shmois - Longbow Research
I have two questions the first one is in regards to the Water Action Plan that you mentioned, just wondering sounds similar to the existing plan, but you know given that as you mentioned, seems like it has more teeth in it, is it going to change any way that you approach the business either with respect to capital budget or M&A or the way that you promote conservation efforts?
Pete Nelson
Garik good question. It will not change what we do.
I think it gives us more support for going further in conservation. But if it doesn't change our business or our approach to capital expense.
Garik Shmois - Longbow Research
Okay. And I just have one more question on the administrative expense.
You've been doing good job controlling it there. Was there any expenses that are rolling off that were related to the general rate case coming to an end that we should factor in as we model out over the next couple of quarters?
And or do you think that the expense run rate at these levels is a pretty good number to use?
Martin Kropelnicki
That's a good question. I’ll take that one.
If you look at our SG&A, our A&G depend on what you want to call it really you are seeing the function of A: We kept the operating budgets flat, that parts of the operating budgets we cut back this year going into 2010 because we knew it will be stretch year, that's number one. So we cut our budgets very lean this year.
Number two, you know the company is spending a larger amount on capital projects and the labor associated with those capital projects as well as the benefit cost get charged through to that asset. So, and I talked about this pension estimate although you see the decline in A&G at $1.3 million, the pension cost also floats through there.
So your declining A&G would have been even higher, if we didn't have that write off going through their for the revised estimate. So its hard to say we will level all that going into 2011, where and clearly in our budget process right now and we’ll have the budgets rolled out when we get to the February conference calls to give you more guidance on that, but really its about keeping the operations kind of lean and mean as we went through 2010.
Operator
Thank you. Our next question is from Heike Doerr of Janney.
Your line is open.
Heike Doerr - Janney
Marty, can you tell us what the mark-to-market long-term insurance policy swing was in the quarter? Was there one this quarter as there have been in past quarters?
Martin Kropelnicki
There is one every quarter and what Heike is talking about is the company has certain benefit plans and down in other income and expense. We have assets and liabilities associated with those plans and two of the plans have a Rabbi Trust and those Rabbi Trust are wrapped with the thin layer of life insurance and behind that trust beyond that life insurance there are investment assets and so we require to true up the cash render value associated with the life insurance, but behind that is a bunch of investments or mutual funds.
So for the quarter the mark-to-market was $1.4 million positive and that compares to a $1.7 million positive in Q3 of last year. On a year-to-date basis for the nine months ended its $1.3 million positive, compared to the $2.9 million positive for the same period last year.
Heike Doerr – Janney
And can we talk a little bit about the process for these advice letters? How arduous is the filing process and how long will it take for you to get a decision?
I'm wondering how we should think about that revenue and if perhaps that additional $7 million or $9 million is really a 2012 revenue contributor and not necessarily 2011?
Pete Nelson
I would say of the $7 million, there is a whole bunch of projects there. We have to do the project, build the project close it out and then out go at the Commission for rates.
And I think your estimate is probably right. 2012 was a better starting time for those projects.
These are things like build a new transmission line or a new well, you are not quite sure how long it’s going to take you. So I would spread that out over the three year period.
Heike Doerr - Janney
And is this a bit of a divergence from how the Commission has handled projects like this in the past, right? They've normally just said if you expect it will be done on this date and you can start recouping or earning on that regardless of if the project had been completed?
Peter Nelson
Actually it’s not a change, the last two general rate cases included projects like this. And there is always a number hits in my brain of 20 to 30 projects, that are in advice letter status all the time and as we complete them we filed for recovery and the rates are changing.
So it has been the practice for I see the last two general rate cases, small numbers but it still is part of our capital program and we are used to the process.
Heike Doerr - Janney
And on average, how long does it take from after you've filed the advice letter to getting a decision from the Commission? Is it a quick turnover?
Peter Nelson
It is about 30 days from application of the advice letter until rates change.
Operator
Thank you. (Operator Instructions).
Our next question comes from Jonathan Reeder of Wells Fargo.
Jonathan Reeder - Wells Fargo
Just wanted to I guess kind of clarify one thing. Heike already touched on it.
So the insurance sounds like the mark to market impact was kind of a plus $0.04 which kind of negates the negative $0.02 charges. Is that kind of right, thinking about it that way?
Martin Kropelnicki
Well I think you got to look at what line that rolls up in? It’s down below the line in other income and expense.
So it’s contaminating or lead into utility operations. So you are correct that it’s below the line and it added about $0.02 to earnings which is basically down a little bit in the contribution phase in the third quarter of last year.
Jonathan Reeder - Wells Fargo
But if I'm just looking on the overall quarterly impact of kind of one-time charges, I guess the positive and negatives overall kind of net out where 98 is a pretty good ongoing kind of Q3 number?
Martin Kropelnicki
Yes I mean you have all the elements. We did $0.98 a share, we had the pension adjustment.
We had the settlement from the GRC and then you have the mark-to-market adjustment with the corporate and life insurance products, yes.
Operator
Thank you. I am showing no further questions in the queue at this time.
Martin Kropelnicki
Great, thanks Tammy. Well just in closing as Pete said it seems like it’s been a long 18 months.
It’s nice to kind of see it coming to an end. We are real happy with the results of the general rate case.
We are also very happy with the company’s ability to manage it’s A&G expenses. We went through this 18 month period which was an extended process but we are happy to get wrapped up and we look forward to talking to everyone in February for our yearend earnings call.
So thank you for our support and we will talk to everyone later. Thanks.
Bye.
Operator
Ladies and gentlemen this does conclude the conference. You may all disconnect at this time.
Everyone have a great day.