Jul 24, 2013
Executives
David Chong - Director, Finance Bob Schoenberger - Chairman, President and CEO Mark Collin - Senior Vice President, CFO and Treasurer Tom Meissner - Senior Vice President and COO Larry Bach - Chief Accounting Officer and Controller
Analysts
Liam Burke - Janney Capital Shelby Tucker - RBC Capital Markets
Operator
Good day, ladies and gentlemen. And welcome to the Second Quarter 2013 Unitil Corporation's Earnings Conference Call.
My name is Lisa, and I’ll be your coordinator for today. At this time, all participants are in listen-only mode.
We will facilitate a question-and-answer session toward the end of this conference. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.
I would now like to turn the call over to your host for today, Mr. David Chong, Director of Finance.
Please proceed.
David Chong
Good afternoon. And thank you for joining us to discuss Unitil Corporation's second quarter 2013 financial results.
With me today are Bob Schoenberger, Chairman, President and Chief Executive Officer; Mark Collin, Senior Vice President, Chief Financial Officer and Treasurer; Tom Meissner, Senior Vice President and Chief Operating Officer; and Larry Bach, Chief Accounting Officer and Controller. We will discuss financial and other information about our second quarter on this call.
As we mentioned in the press release announcing the call, we have posted that information, including a presentation to the Investor section of our website at www.unitil.com. We will refer to that information during this call.
Before we start, please note that comments made on this conference call may contain statements that are commonly referred to as forward-looking statements, which are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements include statements regarding the company's financial condition, results of operations, capital expenditures and other expenses, regulatory environment, strategy, market opportunities and other plans and objectives.
In some cases forward-looking statements can be identified by terminology such as may, will, should, estimate, expect or belief, the negative of such terms or other comparable terminology. These forward-looking statements are neither promises nor guarantees, but involve risks and uncertainties, and the company's actual results could differ materially.
Those risks and uncertainties include those listed to, listed or referred to on slide one of the presentation and those detailed in the company's filings with the Securities and Exchange Commission including the company's Form 10-K for the year ended December 31, 2012. Forward-looking statements speak only as of date they are made.
The company undertakes no obligation to update any forward-looking statements. With that said, I'll now turn the call over to Bob.
Bob Schoenberger
Good afternoon, everyone. I'll begin by discussing the highlights of our past quarter.
You turn to slide four of our presentation. This morning we reported Unitil's earnings of $10.7 million or a 24% increase over the same period last year.
Our earnings continue to reflect the strong growth in our gas customer base as more and more household and businesses in the areas we serve are choosing natural gas as their preferred choice of energy. Natural gas offers our customers the best choice of value in terms of its superior efficiency, convenience and low cost compared to computing -- competing fuels such as oil and propane.
In addition, our gas and electric sales' margins are up over last year reflecting the improving economy and more normal weather this year compared to last. We continue to execute on our core strategies to grow our business including the rapid expansion of our natural gas distribution system and the ongoing customer service and reliability investments in our electric distribution system.
We have several base rate case filings in process, one base rate case in each of our three jurisdictions in the two states in which we operate. In addition, we are experiencing steady growth in our non-regulated energy brokering subsidiary Usource.
We believe that the combination of our growth strategies offers our shareholders a utility growth investment opportunity while at the same time, having confidence in the income generated by our above industry average dividend yield. We have the unique opportunity to double our gas business in the next few years.
If you turn to slide which shows the price advantage of natural gas. Natural gas prices continue to offer a significant price advantage to our customers.
We estimate that by switching to natural gas from fuel oil, our customers here in New England can reduce their cost by about half or $1,500 annually. In addition to being less expensive, other key attributes of natural gas include greater efficiency, and a cleaner energy resource, which provides significant value to our customers, while helping the environment and addressing our long-term energy needs.
Now, please turn to slide six. As we have discussed previously, we are executing on a tremendous opportunity to add and convert customers within our existing gas service areas.
Currently we have 74,000 gas customers, with a combined gas service area penetration rate of only 57%. We have identified 55,000 potential new customers who are on-demand, but at this time are not currently taking gas service.
In addition to the potential new on-demand customers, there are over 250,000 homes or businesses within our service areas that do not have natural gas service. We are taking advantage of this potential and have a growth plan target to serve a total of 92,000 customers by 2016, which would increase our gas customer base 25% and result in an overall on-demand penetration rate of 71%.
On slide seven, we are aggressively adding customers in our gas service areas. Since the acquisition with Northern Utilities in December 2008, we have added and converted nearly 6,500 natural gas customers, which is an increase of about 10% over our 2008 customer base.
In 2012, we added and converted over 2,000 gas customers, which was up 50% from the prior year. Our target is to double the level of activity in 2013 with 4,000 customer additions and conversions.
In this regard, our year-to-date customer additions are about 30% above the same point last year. Moreover, since our construction program doesn't really begin to ramp up until the second half of the year, we are very pleased with this pace year-to-date and believe we are currently on track to hit our target this year.
In terms of rate pace, we have seen an annual growth rate of 9% driven by both customer additions and pipe infrastructure replacement programs. Looking forward, we expect growth in our customer additions and utility plan to accelerate over the next few years resulting doubling of our 2008 rate base by 2016.
Turning to slide eight, we are also investing in the growth and reliability of our electric distribution system. Our Electric division generates a little under half of our total sales margin and provides relatively stable source of operating income and cash flow consistent with the overall profile of our utility business.
We continue to invest in our electric distribution system to meet our customers growing needs for reliable electric energy. Historically, in our Electric division we have seen 9% sales margin growth, primarily driven by our recent rate case results and 3% rate base growth.
On slide nine, we have an update on Usource, our non-regulated energy brokering subsidiary. Usource expanded its operations and sales force in late 2012 to provide new customer growth in key regions of the northeastern United States.
We have seen some of the results of this expansion in the first half this year. Usource recorded revenues of $2.9 million for the first half, an increase of 12% over last year.
In addition, Usource has a customer retention rate exceeding 95% this year and an estimated forward book of revenue of $8.2 million at the end of 2012, which represents an estimated revenues already under contract to be recognized in future periods. We expect our recent expansion initiative coupled with our continued focus on our existing core markets will result in a growing contribution from Usource to our consolidated financial results.
Now I will turn the call over to Mark Collin who will discuss financial results for the quarter. Mark?
Mark Collin
Thanks, Bob, and good afternoon. This morning we reported that our net income increased $0.3 million for the second quarter and $2.1 million for the year-to-date periods, compared to prior year.
On a per share basis earnings increased $0.02 for the second quarter and $0.04 for the year-to-date periods, compared to prior year. As Bob just discussed, for the six-month period earnings applicable to common shareholders were $10.7 million or $0.78 per share up 24% compared to same six-month period last year.
As a reminder, the 2013 per share results reflect a higher number of average shares outstanding period-over-period from the $70 million common stock offering we completed in May 2012. Our results for the second quarter and year-to-date period were driven primarily by increases in natural gas and electric sales margins, and lower borrowing costs, partially offset by higher utility operating cost.
Now turning to slide 10, natural gas margins were $13.4 million and $43.9 million for the second quarter and the six-month periods, reflecting increases of $0.8 million and $4 million compared to prior year. Natural gas sales margins in the 2013 periods were positively affected by higher therm unit sales, a growing customer base and higher gas base distribution rates.
Therm sales of natural gas were up over 12% in both the second quarter and six month periods compared to prior year, driven by the effect of colder winter weather in 2013 coupled with the strong growth in the number of new residential and C&I customers. There were 15% more heating degree days in the first six months of 2013 compared to same period in 2012.
Excluding the effect of weather on sale weather normalized gas therm sales are estimated be up about 5% for the first half of this year compared to last year, reflecting a healthy customer growth rate. Despite the colder weather this year compared to prior year heating degree days were still below normal by about 3%, which we estimate negatively impacted earnings by about $0.03 per share.
Now turning to slide 11, we highlight our electric business sales and margin. Electric sales margins were $17.9 million and $36.3 million for the second quarter and the six-month periods reflecting increases of $0.4 million and $2.7 million compared to prior year.
The increases in electric sales margins reflect higher electric kilowatt hour sales and year-over-year increases in electric base distribution rates. Electric sales margin in the six months ended June 30, 2013 also reflects higher recovery of $0.8 million of vegetation management and electric reliability enhancement expenditures, as well as an increase of $0.4 million in the recovery of major storm restoration costs, which are offset by a corresponding increase in operating expenses.
Electric kilowatt hour sales increased 1.7% and 2.2% for the second quarter and the six-month periods compared to prior year, principally driven by the effect of the colder weather in 2013 compared to last year and the addition of new residential and C&I customers. Excluding the effect of weather on sales weather normalized kilowatt hour sales are estimated to be up about 1% in the first half of the year compared to last year.
On both slides 10, 11, the weather normal unit sales increases I have just discussed, exclude decoupled sales, approximately 11% and 27% of gas and electric sales, respectively, are decoupled and changes in these sales do not affect sales margin. Now turning to slide 12, Usource, the company's non-regulated energy brokering business recorded revenues of $1.4 million and $2.9 million for the second quarter and the six-month periods, reflecting increases of $0.1 million and $0.3 million compared to prior year.
Usource’s revenues are primarily driven from fees and charges billed to suppliers as customers take delivery of energy from these suppliers under term contracts brokered by Usource. Operations and maintenance expenses increased $0.5 million and $2.4 million for the second quarter and the six-month periods compared to prior year.
The increase in the second quarter of $0.5 million primarily reflects higher gas system maintenance costs. The increase in O&M expenses in the six-month period of $2.4 million reflects higher vegetation management and electric reliability enhancement program cost of $0.8 million, higher gas and electric system maintenance costs of $0.8 million, higher professional fees and insurance claims expenses of $1 million and a decrease in all other O&M and expenses net of $0.2 million.
The increase of $0.8 million in new spending on vegetation management and electric reliability enhancement programs in the first six months of 2013 compared to the same period in 2012 is recovered through cost tracker rate mechanisms that result in a corresponding and offsetting increase in revenue and margin in the period. Depreciation and amortization expense increased $0.5 million and $1.6 million for the second quarter in the six month periods compared to prior year.
The increase in second quarter reflects higher depreciation on normal utility plant additions of $0.3 million, higher amortization of major storm restoration costs of $0.1 million, which is offset in revenue, and an increase in all other amortization of $0.1 million. The increase in the six month periods reflects higher depreciation on normal utility plant additions of $0.9 million, higher amortization of major storm restoration costs of $0.4 million, which is again offset in revenue and an increase in all other amortization of $0.3 million.
Local property and other taxes increased $0.1 million and $0.2 million for the second quarter and six month periods compared to prior year, reflecting higher local property taxes on higher levels of utility plant in service. Net interest expense in the second quarter was relatively unchanged compared to prior period.
Net interest expense decreased $0.3 million in the first half of this year compared to prior period reflecting lower average rates and lower short-term borrowings. Now, turning to slide 13, we have provided an update on our financial results at the utility operating company level.
The chart shows the last authorized return on equity compared to the actual earned return on equity for each of our utility operating subsidiaries. The chart also reflects recent equity contributions to all our utility subsidiaries with the proceeds from the common equity offering completed in May 2012.
As we’ve indicated in the past, we have long-term capital cost trackers in place to recover a significant portion of current and future capital spending. In May of this year, Unitil Energy, our New Hampshire subsidiary begin recovering an increase in annual revenue of approximately $2.8 million, including recovery for about 80% of its 2012 change in net plan and increased vegetation management spending and an increase in its major storm reserve.
Similarly, Granite State, our FERC regulated gas pipeline has an annual rate adjustment in net mechanism which we expect to result in an increase in revenues of approximately $0.4 million, effective August 1st of this year to recover capital spending on several pipeline upgrade and replacement projects. Both Unitil Energy and Granite State long-term rate plans extend through 2014.
Now, let me spend a minute discussing our regulatory strategy and bridging the gap between our actual and earned returns on our increasing investment in our gas and electric utilities. Turning to slide 14, over the past few years, we've demonstrated a strong track record of success in achieving base rate relief across all our jurisdictions with increase to our natural gas and electric margins of over 30%.
As part of our ongoing regulatory strategy, we continue to seek recovery of our investments in our utility operations on a timely basis and to provide for reasonable opportunity to earn our authorize rate of return. Turning to slide 15, we filed base rate cases in both jurisdictions of Northern Utilities, our natural gas utility in Maine and New Hampshire for a total request of $9.8 million.
Both filings included a request to return on equity of 10% and 52% equity ratio. Under regulatory construct in each state, we expect new rates to be affected in Maine by the start of 2014.
While the initial temporary rates in New Hampshire already became effective July 1 of this year. The temporary rate level awarded to New Hampshire is $2.5 million on an annual basis, which is the same amount we requested.
We expect the final gas rates in New Hampshire to be effective by the second quarter of 2014, which will be trued up to the temporary rates at that time. Both the Maine and New Hampshire filings include proposal for comprehensive multiyear rate plan with the capital tracker mechanism that would allow us to recover additions to our growing rate base in future years without the need and cost to final full rate case much like we have for our other utilities.
We have also proposed some rate design changes to increase the portion of our revenues recovered on a fixed charge basis and thereby smooth our customer build throughout the year, reduce the effect of weather has on our gas distribution revenue and more accurately recover our actual cost to serve. In Massachusetts, we recently filed a distribution base rate case for Fitchburg's Electric Division.
Recent legislation in Massachusetts has changed from a six-month process to a 10-month process, which will result in new rate effective in the second quarter of 2014. The total amount base revenue requested is $6.7 million which includes $2.1 million for recovery of deferred storm costs and $0.5 million for an enhanced vegetation management program.
The filing requests the return on equity of 10.25% and reflects a 48% equity ratio. The filing also includes the proposal for multiyear rate plan to provide for the recovery of addition to rate base after the rate case.
Separately, consistent with the partner precedent for other utilities, the filing also proposes to establish a major storm reserve fund of $2.8 million to address the cost of future major storms to a reconciling storm recovery adjustment factor. This request is in addition to the $6.7 million base rate request.
The proposed funding of the major storm reserve would not commence until January 1, 2015. In order to coincide with expected significant reductions in Fitchburg's transition charge, our stranded cost recovery holder -- holdover from industry restructuring.
We expect the reduction in the transition charge by the end of 2014 is almost $30 million annually and we’ll offset the impact on customer bills of the rate case. Now, this includes our summary of our financial performance for the period.
I will turn the call over to the operator who will coordinate questions for the audience.
Operator
(Operator Instructions) Your first question comes from the line of Liam Burke with Janney Capital Markets. Please proceed.
Liam Burke - Janney Capital
Yeah. Thank you.
Good morning Bob.
Bob Schoenberger
Good morning. How are you doing, Mr.
Burke?
Liam Burke - Janney Capital
I’m doing fine. Thank you.
Mark, you touched on the rate cases in the electrical utility businesses. Are there any potential increases in rate cases in anticipation of a hardening the network for storm prevention rather than anticipation of damage done on the storm?
Mark Collin
Yeah. In both, in Unitil Energy where we have the capital cost tracker, we actually have as a component of that tracker or mechanism that allows us to recover incremental spending on both reliability investments from a capital perspective as well as increases in reliability that is O&M related.
In addition to that, we also have been successful at getting recovery of expanded vegetation management through that tracker. So on that for our electric business in New Hampshire, we’ve got very good recovery of additional spend in both of those, the reliability spending and the vegetation are intended to be preventive measures for damages of storms and improve the system for resiliency from storms.
In Fitchburg, as I just indicated, we just recently filed our case there and a component of that case also has additional spending on vegetation management as well as our proposal to allow us to recover additional capital spending, much of which will be related and focused on reliability improvements in system hardening improvements, in particular in Massachusetts, they just completed a process looking at grid modernization and has been a report issued on that and there is still more to be done in that area. We expect the department to continue to work in that area and come out with some policy changes relative to grid modernization.
But we’ve made proposals relative to future implementation of grid modernization investments and recovery of that as well in our Fitchburg case.
Liam Burke - Janney Capital
Okay. Just to summarize, Mark, this seems to be a trend that’s continuing to move upward in terms of upgrading the network in -- or hardening if you would more now than in the past?
Mark Collin
Yeah. I think there is an increased focus of finding ways to -- the term you used hardening the network for storm resiliency.
I think one of the key findings that we’ve had in one of our focuses is that significant area of focus should be the vegetation management and the increase spending on vegetation management that that area probably has the most bang for the buck in terms of increasing or hardening the system from your typical storms are even more major storms.
Bob Schoenberger
Liam, I hope we don’t jinks ourselves by saying this, but through mid-year we are experiencing the best electric reliability in the company’s history and I think this is probably largely because of the investments we’ve made particularly in vegetation management.
Liam Burke - Janney Capital
Okay. Great.
Usource, it looks like business is building nicely, there is tremendous upside leveraged any type of increase in revenue. Without getting ahead of yourselves, do you see that as a continued ramp or how should we think, I mean we saw a little bit of growth year-over-year this year.
Do you -- are you looking at that trend to continue more consistently?
Bob Schoenberger
Yeah. I do.
I mean, clearly, what we’re beginning to see this year is the impact of the expansion of our sales force that is bringing an additional business. So our overall objective of growing the business 10% to 15% a year, I think is well in place and I think you’ll see by the end of the year we’ll be the upper range of that forecast.
As well as the forward book which to me is really where it really shows you, you’re building that future annuity. I think as you’ve seen already, we -- our forward book at the end of June was $10.3 million which is up over 25% to the end of last year and we expect that trend to consider, so we’ll see a significant increase in the forward book year-over-year.
Liam Burke - Janney Capital
Great. Thank you very much.
Operator
(Operator Instructions) Your next question comes from the line of Shelby Tucker with RBC Capital Markets. Please proceed.
Shelby Tucker - RBC Capital Markets
Thank you. Good afternoon.
Just picking on Liam’s question, the last one, Bob, you said that the forward book for second quarter was $10.3 for Usource.
Bob Schoenberger
Correct. Correct.
Shelby Tucker - RBC Capital Markets
Okay. And that’s up from $9.4 in the first quarter.
Bob Schoenberger
Correct. And up from $8.2 in the…
Shelby Tucker - RBC Capital Markets
At the year-end.
Bob Schoenberger
Correct.
Shelby Tucker - RBC Capital Markets
Okay. And then the, in terms of possibility for Usource and I’m just looking at the back of the 10-Q, it still shows that from a profitability point of view it’s not gaining as much traction as your revenue, is this still a factor of the paying up on the commissions relative to the business you bringing in?
Bob Schoenberger
No. The cost of good sold which are primarily those commissions you refer to.
I don’t think that’s the issue. I think the issue is as you can tell from the forward book, as we forecasted that you’ll begin to see, there are really three reasons why we think the business will grow and grow substantially over the next three to five years.
One is that the average contract term that we’re signing has gone from two to three years, as well as the fact that new business that we bring on let say over the next, over the last couple of years now becomes renewal business and renewal business we obviously have a very robust retention rate. And so you will see that annuity grow over time as those renewal customers get renewed.
And they normally get renewed, the vast majority of them at end of the year. So their impact isn’t seen until January 1st of the calendar year.
So you will begin to start seeing that impact next year, the next couple of years. And then finally, the last thing is new business and we are doing very well bringing in new business.
So and we don’t see anything in the marketplace that tells us that we don’t have a real opportunity to continue to grow the business.
Shelby Tucker - RBC Capital Markets
Great. Thank you.
And then I guess looking a little bit ahead first, third quarter so far July has had phenomenally good weather from electric point of view. Would you mind giving us a little bit of pace for what you’ve seen so far in the quarter?
Mark Collin
As you’ve said that how you like your weather, we’ve definitely had to -- heat spells come through and at temperatures that were in the high 90s for extended periods of time four to five days of high 90 temperatures. The New England region, I can say the peak itself was in its top three or four of all time peak for the New England region and pretty much we shared in that across our system as well.
So yeah, July has been, in particular, has been a very hot month and somewhat uncomfortable month for some and we expect that to be reflected in our next quarter results. Yeah.
Shelby Tucker - RBC Capital Markets
Okay. And then, Mark, the decoupling does not affect weather pattern.
This is purely on the demand and economic activity?
Mark Collin
Yeah. In the decoupled -- our Massachusetts business is decoupled.
It isn’t as impacted by weather. On the electric side, it’s not at all.
It’s fully decoupled on the gas side. We do retain incremental revenue associated with new customers and special contract.
So in the winter time, there is some upside for colder weather on the gas side of the business even though we’re decoupled but as the general rule, we’re in Massachusetts. Those sales are not subject to weather.
Shelby Tucker - RBC Capital Markets
So, as I guess, only UES, we would see upside from the weather pattern we saw in July?
Mark Collin
Yeah. And as we’ve described about 27% of our sales are on the electric side are decoupled.
So the bulk -- about three quarters are still subject to weather.
Shelby Tucker - RBC Capital Markets
Okay. And I guess, last question, I was supposed to ask last quarter.
On the slide, I think it was six -- the number of customers on Maine had a potential growth. In essence, if you add up the numbers, you’re assuming flat total number of customers on the Maine 12 to 16.
I guess, first, is that a fair assumption and second, if not, what is generally the new build rate at which natural gases -- the rate at which natural gas is installed in new homes?
Mark Collin
I am trying to get my head around your, the first part of your analytical, so.
Shelby Tucker - RBC Capital Markets
So the first part of question is if you look at the two pie charts on slide six, they both add up to 129,000 customers on the Maine. That the reply that there are no -- there is no growth of customers on the Maine.
I mean total number people on the Maine. So I guess number one is it more of a -- it is straight point you are making here about the mix of customers or do you actually project no growth in the total number of people on the Maine?
Mark Collin
It’s the first. Just -- we’re just trying to reflect the mix of customers on a static analysis where we haven’t attempted in this project population growth, household growth or business growth on the Maine or for that matter as we expand our Maine, there will be more and more customers who once more we’re not on the Maine but we’ll come on to the Maine.
Shelby Tucker - RBC Capital Markets
Okay. And I guess…
Mark Collin
That number grow as well, yeah.
Shelby Tucker - RBC Capital Markets
Okay. And then I guess on the new builds so therefore the new customers on the Maine, at what rate is natural gas installed in their homes, do you have a sense?
Mark Collin
Well, again the projections that they were looking at are to double this year what we did last year and to get to add in approximately 5,000 customers a year which I guess in percentage terms is customer growth of about 5% a year.
Shelby Tucker - RBC Capital Markets
Okay. Great.
Okay. That’s it.
Thanks very much guys.
Operator
There are no additional questions. At this time, I would now like to turn the presentation back over to Mr.
David Chong for closing remarks.
David Chong
Thank you very much for joining us for this quarter. We look forward to updating you in the next quarter.
Thank you.
Operator
Ladies and gentlemen, this concludes today's presentation. You may now disconnect.
Thank you and have a great day.