American States Water Co Q4 FY2021 Earnings Call

Ladies and gentlemen, thank you for standing by. Welcome to the American States Water Company Conference Call discussing the company's fourth quarter and full year 2021 results. This call is being recorded. If you would like to listen to the replay of this call, it will begin this afternoon at approximately 5 P.M. Eastern Time and run through Wednesday, March 2, 2022 on the company's website, www.aswater.com. The slides that the company will be referring to are also available on the website. After today's presentation, there will be an opportunity to ask questions. Today's call will be limited to an hour. Presenting today from American States Water Company is Bob Sprowls, President and Chief Executive Officer; and Eva Tang, Senior Vice President of Finance and Chief Financial Officer. As a reminder, certain matters discussed during this conference call may be forward-looking statements intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. Please review a description of the company's risks and uncertainties in our most recent Form 10-K and Form 10-Q on file with the Securities and Exchange Commission.

Thank you, Rocco. Welcome, everyone, and thank you for joining us today. I'll begin with some comments on the highlights for the year. Eva will then discuss some financial details for both the quarter and the year, and then I'll wrap it up with some updates on regulatory filings, ASUS and dividends; and then we'll take your questions. I'm pleased to report that we had a very strong 2021. Our earnings per share increased 9.4% to $2.55 for 2021 compared to $2.33 reported for 2020, driven by higher year-over-year performance by the Water segment largely as a result of new rates authorized by the California Public Utilities Commission or CPUC. In fact, we had increased earnings in each of our business segments for the year. Eva will discuss our financial results for the fourth quarter shortly. There are a number of other highlights for the year. We continue to invest in the reliability of our systems, spending a record high $142.6 million in company-funded infrastructure at our regulated utilities during the year and continue to maintain the infrastructure at 11 military bases. Infrastructure investment and improvements are critical to providing safe and reliable service to our customers and allow us to maintain water quality, reduce leaks, promote energy efficiency, and fortify the systems for national disasters and other events. In 2021, we reached a joint settlement agreement on key items with the Public Advocates Office of the CPUC on Golden State Water's general rate case to set new rates for the years 2022 through 2024, which if approved will allow us to continue our investment in our water systems. The company's environmental social responsibility and governance or ESG profile remains strong. We increased the breadth and depth of our ESG disclosures during the year. This month, we set a target goal to reduce our greenhouse gas emissions by 60% by 2035, an important step in doing our part to reduce the effects of climate variability. During 2021, we published our first-ever diversity and inclusion policy, formalizing our commitment to this important area and highlighting the sound policies already in place. The 56% women on our Board of Directors, we were recognized by the 50-50 Women on Boards organization as gender balanced, a level that only 8% of the Russell 3000 Index companies have achieved. Since 2007, our customers have used less water and electricity. For 2021, water usage by our customers is down 29% and electric usage is down 5% compared to 2007, while the number of customers has increased in both business segments. We remain committed to our communities. Golden State Water continued to spend with diverse business enterprises, achieving results that were well above the CPUC's requirement for the ninth consecutive year. In addition, ASUS continued to proudly provide dependable services for America's service people and their families and receive high marks for its customer service. We continue to exceed the U.S. government's requirements to hire small businesses to perform work on the bases we serve and earn the designation VETS Indexes 3 Star Employer as part of the 2021 VETS Indexes Employer Awards. The award recognizes ASUS' commitment to recruiting, hiring, retaining, developing, and supporting veteran employees and others in the military-connected community. During 2021, we increased the annual dividend by 9%, our 67th consecutive year of annual dividend increases. We have consistently executed on our strategies and have been able to deliver a five-year total shareholder return of 148%, or a compound annual return of 20%. Our strong performance in 2021 would not be possible without the commitment to our customers, the dedication of our employees, and the support of our shareholders. We are optimistic and well positioned for 2022 and beyond. I'll now turn the call over to Eva to review the financial results for the quarter.

Thank you, Bob, and hello, everyone. Let me start with an overview of our fourth quarter financial results. Consolidated diluted earnings for the quarter were $0.55 per share compared to $0.54 per share reported for the same quarter of 2020. Earnings at our water segment increased to $0.04 per share for the quarter. This increase was largely due to an increase in water revenues from new rates for 2021, authorized by the California Public Utilities Commission. Earnings from the electric segment for the fourth quarter of 2021 as well as 2020 was $0.07 per share. Higher electric revenues and lower electric supply costs were offset by an overall increase in operating and interest expenses, as compared to the fourth quarter of 2020. Earnings from the contracted services segment were $0.13 per share, as compared to $0.17 per share for the same quarter of 2020. The decrease was largely due to a decrease in construction activity, partially offset by an increase in management fee revenue and an overall decrease in operating expenses. The decrease in construction activity was due largely to timing differences of when construction work was performed as compared to the fourth quarter of 2020. Consolidated revenue for the three months ended December 31, 2021, decreased by $7.6 million, as compared to the same period in 2020. The decrease was due to lower construction activity at our contracted services segment due to timing, as just discussed, partially offset by an increase at our water segment. Total operating expenses decreased approximately $8.3 million versus the fourth quarter of 2020, mostly due to a decrease in construction costs at ASUS as a result of lower construction activity, a decrease in property and other taxes, and a sale of non-utility-related land at the water segment, which resulted in a gain of $409,000 recorded during the fourth quarter of 2021, with no equivalent item in 2020. Consolidated earnings for 2021 were $2.55 per share as compared to $2.33 per share for 2020. Included in the results for 2021 were gains on investments held for one of the company's retirement plans, totaling $4.3 million or $0.08 per share as compared to $3 million or $0.06 per share in gains generated during 2020, largely due to market conditions. Excluding this gain from both years, adjusted diluted earnings for 2021 were $2.47 per share as compared to $2.27 per share for 2020. Earnings from the water segment increased by $0.21 per share compared to 2020 due to an increase in water revenues of $15.5 million, largely from new water rates as a result of the third year rate increase effective January 1, 2021, partially offset by an increase in supply cost of $4.1 million and other operating expenses of $3.1 million. There was also a decrease in the effective income tax rate due to changes in flow-through adjustments. Moving on to the Electric segment. Earnings were $0.01 per share higher than in 2020. The higher electric earnings were due to new rates authorized by the CPUC and lower interest expense. These increases in earnings were partially offset by higher electric supply costs and other operating expenses. Diluted earnings from the contracted services segment was $0.48 per share as compared to $0.47 per share for 2020, an increase of $0.01 per share. This was due to an increase in management fee revenue as well as a decrease in overall operating expenses, partially offset by lower construction activity as compared to 2020. AWR parent earnings decreased $0.01 per share compared to 2020 due to higher state unitary taxes recorded at the parent level. Turning to liquidity. Net cash provided by operating activities was $115.6 million as compared to $122.2 million in 2020. The decrease was primarily due to timing of income tax installment payments, lower surcharges to recover regulatory assets, and timing differences of billing and cash receipts for construction work at military bases. These decreases were partially offset by improved cash from utility accounts receivable. As Bob mentioned, our regulated utility invested $142.6 million in company-funded capital projects in 2021. We expect to invest $140 million to $160 million in 2022. As I noted during our last quarter's call, we do not expect American States Water to issue additional equity for at least the next three years to fund its current businesses.

Thank you, Eva. I'd like to provide an update on our recent regulatory activity. In July 2020, Golden State Water filed a general rate case application for all of its water regions and the general office for new water rates for the years 2022, 2023, and 2024. In November of last year, we reached a settlement agreement with the Public Advocates Office on this general rate case. Only three issues remain. Among other things, the settlement authorizes Golden State Water to invest approximately $404.8 million in capital infrastructure for the three-year rate cycle. The settlement also authorizes Golden State Water to complete certain advice letter capital projects approved in the last general rate case, which have recently been completed for a total capital investment of $9.4 million. The additional annual revenue requirements generated from these capital investments are $1.2 million and became effective February 15 of this year. Excluding the advice letter project revenues, the amounts included in the settlement agreement, if approved, would increase the 2022 adopted revenues by approximately $30.3 million as compared to the 2021 adopted revenues and increase the 2022 adopted supply cost by $9.7 million as compared to the 2021 adopted supply costs. The three issues not included in the settlement agreement were contested through the briefing process rather than hearings and include Golden State Water's request for a medical cost balancing account, a general liability insurance cost balancing account, and consolidation of two of the company's smaller customer service areas for ratemaking purposes. Our proposed decision in the water general rate case is expected in mid-2022. Once the final decision is issued by the CPUC, new water rates will be effective retroactive to January 1, 2022. Turning our attention to our growth in Golden State Water's average rate base as authorized by the CPUC for 2018 through 2021. The weighted average water rate base has grown from $752.2 million in 2018 to $980.4 million in 2021. Based on the general rate case settlement agreement, the 2022 rate base amount is $1.152 billion, which if approved would result in a compound annual growth rate of 11.3% since 2018. The rate base amounts shown for 2021 and 2022 do not include any rate recovery for advice letter projects. Let's move on to ASUS, which had another strong year, achieving record net income of $17.7 million and record earnings per share of $0.48. This was accomplished despite some reduction in overall construction activity in 2021, which we've discussed. We continue to work closely with the US government for contract modifications relating to potential capital upgrade work for improvement of the water and wastewater infrastructure at the military bases we serve. As a result, during 2021, the US government awarded ASUS $17.3 million in new construction projects. Some of the projects were completed in 2021 while the majority are expected to be completed in 2022. In addition, completion of filings for economic price adjustments, requests for equitable adjustment, asset transfers, and contract modifications awarded for new projects provide ASUS with additional revenues and dollar margin. We remain confident that we can effectively compete for new military-based contract awards in the future, based on our proven track record of managing water and wastewater-related services for military bases since 2004. We are actively involved in various stages of the proposal process at a number of other bases considering privatization. The US government is expected to release additional bases for bidding over the next several years. During the last two years, there's been a reduction in new capital upgrade awards, largely due to the effects of COVID-19. In light of continued uncertainty associated with the effects of the pandemic, we reaffirm our projection that ASUS will contribute $0.45 to $0.49 per share for 2022. I would like to turn our attention to dividends. In 2021 we increased the annual dividend from $1.34 per share to $1.46 per share, an increase of 9%. Over the last 10 years, our dividend compound annual growth rate is nearly 10%, consistent with our policy to achieve a compound annual growth rate in the dividend of more than 7% over the long term. American States Water Company has paid dividends to shareholders every year since 1931, increasing the dividends received by shareholders each calendar year for 67 consecutive years, which places us in an exclusive group of companies on the New York Stock Exchange that have achieved that result. I'd like to conclude our prepared remarks by thanking you for your interest in American States Water and we'll now turn the call over to the operator for questions.

Today's first question comes from Angie Storozynski with Seaport. Please go ahead.

Thank you. I was just updating the model and just a couple of simple modeling questions. So it seems like the maintenance expense for 2021 seems much lower versus that for 2020. I understand that it's not a fourth quarter item, but do you remember what was the reason for the decrease here?

I think it's the unplanned maintenance work, Angie. I mean those kinds of things are hard to expect. We plan our maintenance work. If an emergency comes along and things happen during the year, we have to address it immediately. So there will be some fluctuation of the maintenance cost going forward, but we expect to be maintaining that. Hopefully, there is not a lot of emergency work happening in 2022, but that was what was happening in 2020, I believe. Bob, do you have anything to add?

Okay.

Yes. I think it's a really good sign that we didn't have to do a lot of unplanned maintenance in terms of leaks, etc. So I think it's a really good sign.

Yes for sure, especially in this inflationary environment. Now the second question again based on your reported numbers. So I see that you have this $31 million in notes payable. There's like a very de minimis increase in long-term debt, but there is this big short-term debt. Is the timing of when you plan to issue long-term debt?

For Golden State Water you mean, Angie?

Well I'm looking at your 10-K. I mean on a consolidated basis I see this big seemingly short-term debt increase. Again, I can follow up offline. That's not a problem. So just moving on to more crucial issues here. So I'm looking at your settlement and you mentioned that those revenue and supply cost increases versus the approved revenue levels meaning I cannot simply use the recorded revenues for the Water segment that you showed me in 2021 as a basis of this increase?

Yes. So we reported the change in adopted revenues from 2021 to 2022. And as you know with the full RAM revenues tend to be very close to adopted. So what we were trying to do is give you a sense of where if the settlement agreement gets approved where the 2022 revenues will end up.

Okay. So it's very close to basically if I just used the reported water revenues and I used this $30.3 million increase that is in the settlement.

Right. We also gave you the change in the supply cost.

Yes. That's absolutely sure. And on top of it, there is also an increase associated with those projects that are excluded from the GRC, right? So there is still some small upward adjustment to the water revenue in 2022 on the back of those. Right.

$1.2 million is the annual effect of the…

But that started February 15. So it's not a full year for 2022. In addition to that, Angie, for 2022, when the cost of capital proceeding gets approved, we will have to retroact to January of this year for the revenue requirements to reflect the final cost of capital, both debt and equity. So you have to estimate the adjustment for that.

Speaking of the cost of capital, it's quite an interesting situation you are navigating, similar to what electric utilities in California are experiencing. We're observing some intriguing arguments from the consumer advocate on the electric side, particularly concerning a 7% figure for the allowed return on equity and the assertion that there is no link between the cost of equity and the performance of utility stocks, which is certainly a compelling viewpoint. There have been changes to the commission, so our perspective on how they will decide on the allowed returns on equity moving forward is unclear. Is there anything you can provide regarding your thoughts on how the commission might approach this? There appears to be a significant disparity between what you have filed for and the feedback from the consumer advocate on the electric side.

Yes. So, Angie, just to mention here, the public advocates in the water case have issued their report. For us, it was 7.51% ROE. We had requested 10.5%. So we're miles apart there.

Yes, exactly. Very wide.

Yes. Although, they did mention in their report a recommended capital structure of 56.85% equity. We had requested 57%. So we're close on that, but clearly miles to go on the ROE. Yes, it's a relatively new commission, as you know, with two new commissioners there, so we're not entirely certain how this is going to go. We think the 7.51 is ridiculous, of course. So we'll see. But we'll have hearings on April 5 through the 8 on this process and perhaps we'll know better after the hearings. We've got two new commissioners, although they're both lawyers. So that's a good sign. Commissioner Reynolds, not President Reynolds, but Commissioner Reynolds, he worked at the commission for many years and was a commissioner's adviser for many years. So I feel like he's probably got his arms around how the commission works. Not really sure about the President of the Commission, because she's new to the commission.

Yes. And just one other one. Eva you mentioned that there was some pressure on the electric utility side related to rising purchase power costs. I mean, that pressure is probably only likely to intensify, given what we're seeing happening with the natural gas and thus power prices. So there is this annual step-up, right, in electric revenue under the electric GRC. But again, if there is this inflation in the purchase power cost that is basically sort of mitigating any or any meaningful earnings increase on the electric side. Is that fair?

Yes, Angie. We have a full supply cost balancing account in place. If the purchase power exceeds what has been authorized, we will be able to recover that cost. We will record the adopted supply costs and recover it in the future through surcharges.

Okay. Thank you. That’s it from me. Thank you. Okay.

Thank you.

Today's next question comes from Jonathan Reeder at Wells Fargo. Please go ahead.

Hi, Bob and Eva. How are you all today?

Good. How are you?

Good, Jonathan. How are you?

Not doing too bad. So just wondering if we strip out the $0.08 investment gain would you say the $2.47 is a good starting point as we're thinking about 2022 EPS and the growth from the potential uplift from the pending GRC settlement offset by any cost of capital adjustment, or are there some other things in there that we may need to adjust or that allowed you to come in a little stronger in 2021?

Yes. Jonathan, could you please provide an overview again regarding how you're approaching 2022?

Well, no I'm just wondering if using the $2.47, so taking out the $0.08 investment gain, is that a good starting point to kind of think about layering on the other drivers such as the uplift from the GRC settlement offset by the cost of capital adjustment, or are there some expense items or stuff at the utilities that may have led to some over-earning situations or something in 2021 that aren't perhaps repeatable?

Yes. You'll need to account for the adjustment in the cost of debt. Our previous cost of capital was 6.6%. The recent filing reflects a true-up of the debt cost to 5.1%.

That's right.

So that will be effective January 1, 2022. So you'll have to factor that in, Jonathan.

You know what that is off and sort of a revenue perspective?

About $7.5 million, Jonathan, if everything stays the same. We have our Return on Equity (ROE) remained at 8.9%. So just a decrease in debt from 6.6% to 5.1% would probably impact revenues by $7.5 million.

Okay. But then otherwise from the expense side of the equation you had kind of your normal ebbs and flows throughout the year and there's no one-timers tucked in there that we should be adjusting for?

I can't think of any majority one. If we go to hearings then it would may incur additional legal regulatory costs for the capital proceedings. But other than that, everything seems to be working normally.

Okay. And then on the electric side, I saw on the 10-K that said Bear Valley expects to spend $13 million in 2022 just on wildfire mitigation projects. And it looks like maybe the electric utility 2021 CapEx was close to $20 million. So should we be thinking like $15 million to $20 million is like an annual-type CapEx number, or does that wildfire mitigation spend decrease considerably in 2023 and beyond such that we get back closer to electric CapEx around $10 million?

Yes. So 10 seems light to me, but 20 seems too happy.

Yes.

Perhaps considering something in between would be the best way to approach it.

Okay. As we're thinking about 2023 and beyond?

Yes. Yes, there are other projects that could be included. We had previously submitted a filing for a renewable solar facility but had to retract it due to some issues. However, we are very keen on establishing a solar facility. While it will take some time to get approval from the commission, that would be an isolated case that might contribute to the capital expenditures. It's difficult to determine when that will happen.

You're anticipating my next question, Bob. So, are there any immediate plans to refile that solar project?

We are currently in the process of identifying suitable land for the project. Securing the right land is the first step, followed by several important steps in the overall process. We are very interested in moving forward with this initiative, and we believe state policy is supportive of it. However, it will take some time to work through all the necessary procedures.

Okay. Should we consider this as being driven by the next RPS hurdle? In the K, you mentioned 50% by 2026 and you're currently at around 37%.

Yes, a solar facility offers numerous advantages. It can assist in meeting Renewable Portfolio Standards requirements and help reduce greenhouse gas emissions. Additionally, having local generation capacity is crucial, especially since we receive power from other locations. While this hasn't posed a problem so far, there's a potential risk if those sources have to reduce their output due to public safety power shutoffs.

Got you. Okay. So, I mean when Bear Valley filed its electric rate case, I think it's here in a couple of months. Can you give us any sense of the size of the case both in terms of what kind of value the Bear Valley rate base is up to, maybe what kind of rate increase we're talking about, and it kind of sounds like on an ongoing basis, the $15 million CapEx is somewhere to kind of bogey that around?

Yes, we are currently finalizing the numbers, Jonathan. You're correct that we plan to file a rate case later this year. It's important for everyone to know that the wildfire mitigation expenses have been included in memorandum accounts, and these costs are not yet reflected in rates. A part of the general rate case process will involve including these expenditures through 2021. We understand that this will lead to an increase in rates for our customers, and we are very mindful of that, but we believe these expenditures are necessary and vital for ensuring safety, among other considerations.

Can you provide any guidance on the value of the rates? There's currently a disconnect between what you're technically allowed to earn and the situation with the wildfire lease capital expenditures not being included in the rates.

I think Jonathan, the top rate base is approximately right now for Bear Valley is about $69 million and we spent $10 million to $12 million verify capital projects, so we can kind of estimate how much the rate base will file the starting point will be because all those wildfire plants since 2020 I think, right Bob?

Yes. 2019, even I think, Eva.

Yes. So it will be included in our filing per commission decision on the wildfire plant, we're not supposed to get recovery until the GRC process. So those were all being included in the filing plus the annual regular CapEx that we have to do for the electric segment. So, that should give you some good approximation there.

Okay. And the $69 million that's the average value for 2022 or was it for 2021?

2021 actually.

Okay, awesome. And then I guess just lastly I know AWK on their call they indicated they have a couple of active bids out there said one, being naval station Mayport they thought would be decided this summer. Is that one that you guys are involved with, in terms of trying to win that RFP? And any additional color in terms of when we might get some new bases awarded?

Yes. Jonathan, we're very active in the space. I think you could assume that we're bidding on a number of bases. And Mayport is one that we have submitted a bid on.

And any of you size Mayport that you think are near in terms of award or is that the only one that kind of seems like maybe a 2022 event?

Yes. I believe that Mayport is one of the traditional utility privatizations that we expect to be awarded. There might be another one as well, but I don't think it will be sooner than usual. There is a Pax River RFP from the Navy, but that is at an earlier stage in the process compared to Mayport. It’s possible that there will be some awards that don’t follow the usual process and may appear somewhat different. I’m not aware of what our competitors are pursuing, so there might be other awards, though probably not anything too unconventional happening in the sector. I believe we are still in the early stages of this process as we consider various projects.

Got you. We'll stay tuned on that, and good luck as ASUS strives for success.

Thank you.

And ladies and gentlemen, this concludes our question-and-answer session. I'd like to turn the conference back over to Bob Sprowls for closing remarks.

Yes, I just want to wrap it up today by again thanking everyone for their participation on the call today and for their interest in American States Water Company and wish you all a good 2022.

Thank you, sir. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines and have a wonderful day.