Essential Utilities, Inc. Q2 FY2020 Earnings Call

Good day and welcome to the Essential Utilities' Q2 2020 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Brian Dingerdissen. Please go ahead, sir.

Good morning, everyone and thank you for joining us for Essential Utilities' second quarter 2020 earnings call. I am Brian Dingerdissen, Vice President, Chief of Staff, Investor Relations and Communications. 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 a webcast of this event can also be found there. There is our forward-looking statement. 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, and 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 in the Investor Relations section of the website. After the presentation, we will open the call up for questions. For our agenda for today, we will start with Chris Franklin, our Chairman and CEO, who will discuss highlights from the year to date and provide an update on our leadership team. Dan Schuller, CFO, will then discuss our financial results. Dan will be followed by Matthew Rhodes, EVP of Strategy and Corporate Development, who will provide an update on our municipal acquisition program. Finally, Chris Franklin will conclude the call and then open the call up for questions. With that, I will turn the call over to Chris Franklin.

Hey, thank you Brian and good morning everyone. It's hard to believe that we're now almost five months into navigating through the COVID-19 pandemic and while none of us could have predicted the events that have occurred in the first half of 2020, I just continue to be amazed by the commitment demonstrated by our employees. Our business remains as strong as ever because of their dedication to our mission. In addition to achieving our mission, our primary focus remains the health and safety of our essential employees and customers as we work through this pandemic. But before we get started with the primary agenda Brian just talked about on the call, I want to touch on some issues that we believe are important at Essential. First, social justice issues have been the primary focus of the country really this summer. This is a topic that should be a key focus of good companies and good people. Long before the events this summer, I'm proud of the work that we've done and continue to do at Aqua, now Essentials, to ensure that we have a diverse and inclusive workforce at the company. I will tell you that this journey began at the top. We built our board where more than 50% of our members are diverse, either racially or by gender. Our work continues as we try to make our workforce reflect the demographics of the communities we serve. For example, to date, 22% of our workforce is black or brown versus the industry average of 16%. We've supplemented this work by creating black employee resource groups and women's employee resource groups, among others. Our work to make our management team more diverse has also been a key focus. Today, at the senior levels of the company, nearly half of my direct reports are women, and just this year we've hired several people of color in key management roles. In addition, we continue to work to diversify our supplier network. We've got a strong program to bring diverse suppliers into our network in all aspects of our work, including professional services. I want to highlight this effort to you, our investors, because it's work that we believe in and work that we’re committed to. It's also work that has been well underway long before the events of this summer, and I will concede that there is so much more work that needs to be done in this area at both our company and frankly in the country before we all realize our true potential. The second issue I want to talk about this morning has to do with the interactions between utilities and elected officials. We've all been reading about some of the events occurring in Illinois and Ohio over the last series of months. It's important for you, as our investors, to know that we pride ourselves in living up to the three core values that we've posted in all of our buildings across our company, and among the three values is integrity. I want to ensure you that Essential has processes in place to review, approve, and continuously monitor charitable giving, political giving, and lobbying activities. We remain confident that we're in full compliance with all governing laws and regulations. I'm also confident that our leadership team and our employees have made compliance with the law a central principle in the work we do with elected and appointed officials across our 10-state footprint. Also, for your reference, we posted our corporate foundation giving policies on our website in our ESG pair sheets, in case you're interested. Finally, the last issue I want to mention before we jump into the agenda, we've been closely monitoring the infrastructure package that the U.S. House looked at early this summer, and anytime the federal government focuses on water and wastewater infrastructure, we consider that a good thing because it elevates the importance of the work we do. That being said, the regulated water industry is working proactively to ensure that our customers benefit in the same way that customers of municipal water systems would benefit from any legislation that were to pass either in Congress or in our states. All right, with that, let's talk about the second quarter. I'm really happy to report on our continued progress on our objectives. So far, we've invested $346.6 million in infrastructure in the communities we serve during the first six months of the year. Of that $346.6 million, $217.6 million of it was invested in our regulated water segment and $129 million was invested in our regulated natural gas segment. Importantly, you should note that $53.5 million was invested by Peoples in the first quarter pre-closing. Now, despite the brief COVID-related pause in construction back in mid-March, we remain on track for record capital spending of $950 million this year. Our work on the Goodwin and Tombaugh gas gathering system is also well underway. I know many of you will recall this was an important topic during our regulatory approval process, and we're happy to say we're on schedule there. As a reminder, we have approximately 2,700 miles of natural gas pipe to replace, which will be done through the Pennsylvania Public Utility Commission's long-term infrastructure improvement program, many of you know that as the LTIP. The pipe replacement program is very effective in our efforts to also reduce methane emissions in the environment. We will begin to report on that in the coming months and years. So we said in February that once we own Peoples, we would quickly elect and implement tax repair. I want to report that we elected the tax repair soon after we closed in March by filing our paperwork with the IRS. We also told you that we would file with the Pennsylvania Public Utility Commission this summer for treatment of the catch-up portion of the tax repair. That has been accomplished as of just today. On the next slide, we noticed that net income per share on a GAAP basis increased 16% compared to the same period last year. Dan is going to give you a lot more detail and an overview of the strong performance we achieved in the first full quarter of our ownership of Peoples, as well as he will give you a reaffirmation on our annual earnings per share guidance range of $1.53 to $1.58. Now, our municipal acquisition strategy remains strong with signed municipal agreements totaling over $300 million in expected rate base and over 200,000 new customers. We also announced the closing of East Norriton in Pennsylvania, adding almost 5,000 customers and $21 million in a rate base. Finally, another milestone for the quarter included the announcement of our first fair market value acquisition in Texas. I think most of you will recall that the fair market value legislation passed just last year, 2019. Dan will give you some details on that in just a few moments. Finally, Tuesday of this week, the board approved a 7% dividend increase, which marks the 29th consecutive year of dividend increases. You can see here on the next slide the announced 7% dividend increase marks the 30th increase in 29 years and the 75th consecutive year of quarterly dividend payments; something we are very proud of at our company. Following the increase, the annualized dividend rate will be just over $1 per share. We take great pride in our long, consistent record of delivering shareholder value. We also believe that our dividend policy is indicative of our financial strength. I would say the board's action is a reflection of their confidence not only in our strategy but also in our execution. This next slide is an important one. I'm really proud of the leadership team that we have at Peoples, and I want to take a couple of minutes to make sure you understand what's happening with our management team there. We announced in July that Joe Gregorini, the President of Peoples, is going to retire effective September 1. Joe's been with Peoples for 33 years and has really made significant contributions to the organization and the community as well throughout his career, and his influence on the company will continue long after he retires. I know I speak for all the employees when I say how thankful I am to Joe for his leadership over the years and especially over the past four months since closing, when we've had to deal with the onset of the pandemic as well as all of the integration work. Joe's leadership has been outstanding, and while I'm sorry to see Joe's tenure end, I wish him and his family the best in his well-deserved retirement. Now, recently, after conducting a national search, we announced that Mike Huwar will be Joe's successor at Peoples as President. Mike, most recently served as President and Chief Operating Officer of Columbia Gas of Pennsylvania and Maryland Utilities and is a long-time resident of the Pittsburgh community, so he's right at home in the new job. He comes to Peoples after more than 34 years with Columbia, which is a subsidiary of Nisource. Mike is a true professional, proven operator, and is really well known and well respected at the Pennsylvania PUC. We're very fortunate to have Mike on board leading our gas company. Now, in June, we also announced the appointment of Mike Turzai as general counsel for Peoples and Kim Edwardson as Vice President of finance for Peoples. Mike Turzai is also a native of southwestern Pennsylvania, spending the last 10 terms in the Pennsylvania legislature, including his last three terms as speaker of the house here in Pennsylvania. Throughout Mike's career, he's focused on creating jobs across the state and across various industries. He holds a law degree from Duke and was a prosecutor before holding elected office, and he's already hit the ground running as a strong general counsel who will help take the company to the next level. Kim Edwardson brings more than 30 years of extensive experience. Most recently, Kim was Vice President and Controller for HM Health Solutions there in Pittsburgh, and her general industry experience and background as a former auditor make her a great fit to lead the finance team for our regulated natural gas segment. Now that we have the full team in place, we're looking forward to supporting them as they focus on continued employee and customer safety, ramped up capital plan, and the same solid dedication to our core mission. With that, Dan, let me turn it to you for our financial results.

Thanks Chris. Good morning everyone. The second quarter ends with revenues of $384.5 million, up 75.6%. The Peoples acquisition contributed $149.6 million of this revenue growth while the remainder was largely due to rate increases, volume, and growth in our regulated water segment. O&M increased to $128.6 million in the second quarter, up 48.8% from $86.4 million last year. This was primarily a result of the addition of the Peoples operations and maintenance expenses, which we'll discuss further when we show the O&M waterfall. Net income was up 35.9% year-over-year from $54.9 million to $74.6 million, and GAAP EPS was up 16% to $0.29. Although there has been little financial impact, we continue to closely monitor the COVID-19 impacts on our business considering a number of metrics including consumption and billing, collections, O&M, and capital expenditures, some of which we'll discuss later in the presentation. Let's walk through the details in the following waterfall slides, starting with revenue. As we go through the 75.6% revenue increase for the second quarter, you'll notice that new revenue related to Peoples, which closed in March, was the main driver adding almost $150 million. Rates and surcharges, increased volume and growth from our regulated water segment provided an additional $16.4 million towards the revenue increase, which was offset slightly by other items of less than $0.5 million. Next, we'd like to provide a more detailed look at water consumption by customer class as it directly correlates to the increased revenues for the quarter. As you saw in the revenue waterfall, we did not experience an overall negative impact to revenue from COVID-19. Year-over-year water usage was up slightly over last year but where the water consumption occurred changed dramatically. With many customers working from home and favorable weather conditions, residential usage was very strong, up nearly 10%, which offset significant declines in most of our other customer classes. While commercial and industrial are suffering, it appears that both indoor and outdoor usage at our customers' homes are strong. As we've discussed previously, given the shut-off moratorium that states enacted when COVID-19 emerged in March, we're closely monitoring incremental increases in our bad debt expenses. We're glad to see that many states, including our larger ones, have indicated a willingness to explore regulatory asset treatment for incremental bad debt linked to COVID-19. Lastly, you'll recall that we secured a $500 million term loan in the early weeks of the COVID-19 pandemic as a precautionary liquidity measure, as did many of our peers. We're pleased to report that in June we paid back the term loan subsequent to our mid-April $1.1 billion long-term financing and a couple of months of financial performance after the work-from-home orders began. With that, we will move to the O&M waterfall. Operations and maintenance expenses were $128.6 million for the second quarter compared to $86.4 million in the second quarter of 2019. The main driver was the $52.8 million addition of Peoples O&M. Other contributing drivers were employee-related costs of $1.6 million, acquisition and organic growth of $838,000, and increased production costs of $215,000. Excluding the Peoples’ impacts, both transactional aid costs and O&M expenses, as well as growth O&M, would have been up 1.8% on a comparative basis to last year. COVID-19 is not currently impacting our O&M in a significant way. We are seeing savings in certain areas such as travel-related activities which offset some of the COVID-19 related expenses like personal protective equipment, cleaning, and supplies. Next we'll take a look at the earnings per share waterfall. GAAP EPS in the second quarter increased by 16% to $0.29 from $0.25 in 2019. Peoples transaction costs contributed $0.07 growth, net of the dilutive effect from the equity offering, added $3.6 million, and regulated water segment rates and surcharges volume and expenses together contributed almost $0.04 to the increase. The decrease of $0.10 from other items, such as increased depreciation, amortization, and interest, as well as decreased Aqua Pennsylvania tax repair benefit, brought us to a GAAP EPS of $0.29 for Q2 2020. In the next slide, we want to take a moment to discuss the net income by quarter. This is a slide that we presented at our investor day in February. We just wanted to bring it back and discuss net income volatility by quarter, given the strong performance of the current quarter and expectations going forward. The intent of this slide was to assist our investors in constructing quarterly projections due to the lack of historical comparisons and the many moving pieces as a result of the transaction and our new utility mix. As you may recall, as a regulated water utility, there was limited seasonality, and the summer months of Q3 historically provided for our strongest results in terms of net income and we typically only saw movement of a few pennies due to weather. As a combined company, including a regulated water segment and a regulated natural gas segment, we anticipate that the highest earnings will shift to the first and fourth quarters going forward. This is, of course, a result of the dramatic impacts of weather measured in heating degree days on natural gas utilities' results. Let's take a look at the bars and the ranges on the slide. We reported adjusted income per share on a non-GAAP basis for Q1 at $0.60, which falls just slightly below the middle of the light blue range on the first quarter bar. We're reporting $0.29 for Q2 largely as a result of the greater number of heating degree days specifically in April and favorable water consumption. Thus, we were at the high end of the range expected for the second quarter. As we look forward to the third quarter, we'd like to reiterate the natural falloff of gas consumption will push us to the lower end of the light blue range for Q3, which suggests a result just above $0.20 in earnings per share for Q3. And while no one can predict what the weather will be in the fourth quarter, we anticipate that we will be right in the middle of the 25% to 35% range illustrated on the slide. Given our first half results and current projections, we remain confident in achieving full year earnings per share in our guidance range of $1.53 to $1.58 on an adjusted pro forma basis. Moving on to rate activity, in 2020 so far we've completed rate cases or surcharges for our regulated water segment in Illinois, Indiana, North Carolina, Ohio, Virginia, and Pennsylvania totaling annualized revenue of $10.2 million. In our regulated natural gas segment, we've completed surcharge filings in Kentucky and Pennsylvania with total annualized revenues of $1 million. In the coming months, we expect to receive new base rates or surcharges in New Jersey, Virginia, North Carolina, and Ohio for our regulated water segment, and at this point in the year, we do not have any pending base rates or surcharges for a regulated natural gas segment. Fortunately, our relatively limited rate case activity remains on track during COVID-19 due to technology and continual virtual interactions with our regulators and counterparties. As previously reported, we elected the repair tax accounting method change in late March of this year for the Peoples natural gas subsidiary, our largest natural gas subsidiary with about 633,000 connections. In terms of its impact for the second quarter, the tax repair benefits reduced income tax expense by $5.3 million. We're pleased to announce that this morning we filed a petition with the Pennsylvania PUC requesting accounting treatment for the approximately $380 million catch-up deduction for capital invested prior to Essentials ownership of Peoples. Our proposal includes sharing the catch-up tax benefits between our customers and our shareholders. As proposed, it would benefit all parties by extending the time until the next base rate case. As such, we wouldn't envision it changing our expected annual earnings growth rate of 5% to 7%. In terms of regulatory procedure, we expect this filing to be processed over a timeline similar to that of a rate proceeding. Finally, as we've discussed on previous calls, we continue to look for the right time to issue approximately $300 million of equity this year. That equity, as you may recall from investor day, is necessary to appropriately capitalize DELCORA and other acquisitions in the pipeline.

Thank you, Dan. Essential has been able to provide continuous water, wastewater, and natural gas service to the 5 million people we serve during this challenging COVID-19 pandemic. In this environment and during these uncertain times, the company remains strongly positioned to play an important role in solving today's infrastructure challenges and supporting our mission of delivering safe and reliable natural resources that are essential to everyday life. Many of you are familiar with this slide, and we continue to believe that utilizing this strategy, which leverages our core competencies, is best for our company and differentiates Essential in the marketplace. As we think about growth, we have very sizable capital opportunities to grow rate base. The water business has a robust internal CapEx program that is continuously backfilled by new capital needs through our municipal acquisition program, which has a proven track record of success. Our municipal program has been our growth engine over the last several years, and we expect it to remain our primary focus for consistent year-over-year customer growth and rate-based growth as capital investments are needed. We continue to see significant water and wastewater municipal transaction opportunities of varying sizes, which is why our water and wastewater municipal initiative remains our top priority for growth. As we have said, the Peoples transaction was a unique and strategic opportunity because it is a pure play gas LDC located predominantly in Pennsylvania, and it has significant infrastructure investment needs that drive organic growth. As we have previously discussed, the nearly 2,700 miles of identified pipe replacement is quite unique, considering many gas LDCs have already completed their pipeline replacement programs. We are pleased with the existing rate-based mix of our utility platforms, at approximately 70% water and 30% gas. In fact, we would be happy to see the contribution from water increase because that would mean we have been successful in our municipal acquisition program. We will continue to be very strategic and selective as we consider future acquisitions. The final product of our growth strategy is market-based opportunities, or MBAs, which are non-utility businesses. Well, there are a few of these businesses within Essential today; in total, they contribute only about 1% of our net income. These include home warranty businesses, investments in microgrids, combined heat and power projects, and others which are complementary to the existing utility business and often have environmental benefits. I will discuss two of these projects in more detail a little later. Moving to the next slide, we continue to discuss the importance of fair market value legislation as we position our company as a solution to municipal leaders. On our last call, we were happy to report that this legislation is now available in all eight states where we currently serve customers in our regulated water segment. As Chris mentioned earlier in the call, we recently announced our first fair market value acquisition in Texas, which I will discuss on the next slide. This slide represents acquisitions for our regulated water segment. So far this year, we have closed the Campbell water system in Ohio, the East Norriton wastewater system in Pennsylvania, and continued to advance the new Garden Rockwell utilities, Cummins water, and DELCORA transactions. The signed agreement with Cummins water represents our first fair market value transaction following the 2019 implementation of fair market value legislation in Texas, and it consists of approximately 1,000 customers located in the Houston suburbs. Regarding DELCORA, our transaction continues to move forward with the Pennsylvania PUC regulatory approval process. Just last week, we reached the milestone of the PUC fully accepting our application. There has been some news in the local media about legal challenges to the transaction, but we continue to believe we have an enforceable and legally binding contract with DELCORA. We expect the transaction to close in early 2021. We have not experienced any major delays in the regulatory approval process due to COVID-19 and continue to closely monitor our regulatory proceedings. During this COVID-19 crisis, we've ramped up communications with our regulators so we can work together to keep our regulatory activities on track. We continue to see a strong pipeline of municipal acquisitions, especially given the passage of fair market value legislation, and now, with economic pressures as the COVID-19 crisis continues, we are anticipating more municipalities will be looking for solutions to financial constraints. We stand ready to partner with these towns and cities on their water and wastewater utilities, so that they can focus on other vital municipal programs and community projects. Moving to the next slide, in addition to our signed municipal acquisitions, we have a healthy pipeline of potential municipal deals to be included as part of our pipeline, which means that we are having active discussions with the municipality. As illustrated on this slide, we are actively pursuing acquisition opportunities totaling approximately 365,000 customers. Again, many of our recent municipal acquisitions have been wastewater assets rather than water, given the operational compliance of wastewater assets can be more difficult for some municipalities to manage. We see the same trend in our pipeline with the majority of the potential customer additions coming from wastewater systems which are effectively regulated in the same way as water systems. Next, similar to how we look for acquisition opportunities, it is important that we look for partnership opportunities in the communities that we serve. One of the community partnerships we would like to highlight on this slide is the Pittsburgh International Airport microgrid project, which Peoples Gas will build, maintain, and operate. Through the use of on-site natural gas and solar, Pittsburgh will be the first major airport in the U.S. completely powered by its own microgrid, which is an independent electricity source. The airport will remain connected to the main electrical grid for emergency backup, but this project will allow increased reliability, public safety, and lower emissions while achieving cost savings for both the airport and its tenants. Through the use of five generators, which use on-site natural gas supplied by Peoples, and approximately 7,800 solar panels, the microgrid will produce an equivalent amount of electricity needed to power more than 13,000 homes. The project ensures a more efficient, environmentally sustainable, and resilient energy source for the airport using local natural resources. In addition, Peoples has also formed a partnership with Allegheny Health Network to build, maintain, and operate a combined heat and power project, also known as CHP, at the Wexford hospital. The project will be more energy-efficient and provide electricity, hot water, chilled water, and steam to meet all the power, heating, and cooling needs of the hospital. This will reduce costs and improve reliability for the hospital and, importantly, will reduce emissions. We believe the project is the first of its kind for a hospital in the region. And with that, I will hand it back over to Chris.

Thanks Matt, appreciate it. Earlier this year during our investor day, we presented our 2020 priorities. We said that we would remain focused on operational excellence, the integration of Peoples and the continued focus on the DELCORA transaction process. We said we would remain committed to our municipal acquisition program that would implement our accelerated Peoples CapEx plan, including the election of repair. Of course, at the time, we didn't know we would be facing a pandemic, but despite our work to overcome the pandemic, we remain focused on this core agenda and remain committed to delivering on all of the priorities. In addition to these priorities, we also continue our focus on ESG initiatives. Recently, we hired a manager of ESG, John Catalano, who is focused on the overall ESG program of work every day and that’s all he thinks about. Later this month, we will be filing our annual CDP survey, and we anticipate publishing our updated ESG report later this fall. I continue to believe that we have a strong ESG story to tell, and John and the team are working to take our ESG work to the next level. With that, let's talk about guidance. We are reaffirming our 2020 guidance recognizing that we're not completely out of the pandemic. However, we believe the company's current position will allow us to continue to deliver strong results for the remainder of the year. Adjusted income is still expected to be $1.53 to $1.58 per share on a pro forma basis for 2020. Dan spent some time providing you insight into where that falls in the various quarters. This is important to think about especially as you do your work for the third quarter projections. So hopefully that chart is helpful to you. Our capital plans remain on track as we anticipate spending approximately $550 million on the regulated water segment and approximately $400 million on the regulated natural gas segment. We anticipate investing approximately $2.8 billion across the Essential platform through 2022, driving rate-based growth on the water side of 6% to 7% and driving rate-based growth on the natural gas segment up 8% to 10%. Lastly, we expect annual customer growth to be about 2% to 3% on average for our regulated water segment. And with that, let's open it up for questions.

Thank you. And we'll go to our first question from Ryan Greenwald of Bank of America.

Good morning, guys. Appreciate your time this morning. Can you provide a bit more color just around the acquisition platform in Texas following the latest announcement, the magnitude of opportunity there and the efforts underway in the state and just kind of what you're seeing in terms of the competitive landscape?

Sure. Matt will take.

Yes sure. We're very optimistic about opportunities in Texas. As we talked about on the call, we just announced our first fair market value deal there. It was an investor-owned utility with about 1,000 customers. We see other investor-owned utility opportunities, other municipal opportunities there and now that we have fair market value in Texas, we really expect and hope that it opens up. So, it's a big focus of ours. We have business development people in the state of Texas that are working actively, having discussions. So we do think there is additional opportunity there.

Yes. Texas is an interesting place because you have municipal utility districts as well that particularly around the Houston area. So it makes it a bit of a different situation than what we experienced in some other states. And so we've been working hard to open the market there and I'm with Matt; I think the FMV legislation will see it more and increased activity in the state.

Got it and then more broadly just kind of thinking across the rest of your jurisdictions on the water side, any particular states where you're seeing the most opportunities or particular states that are standing out where it's most competitive?

Yes. We continue to see a lot of activity in Pennsylvania and also in places like Illinois and now in Ohio. Not coincidentally, we've had fair market value the longest in Illinois and Pennsylvania, and so that's part of the reason we see a lot of continued activity there. But given we now have fair market value in all of our states, we're starting to see additional activity in places like Texas, Virginia, and North Carolina as well. So while Pennsylvania probably is still our busiest state, we're definitely seeing more activity across our other states as well.

It's important, we're trying to add new tactics as we approach and make our solutions available to the various municipals that need us especially at this time when we know that more and more municipals are strapped for cash. And so for example, we're making offers where we just think that the municipal is in trouble or needs help, we'll knock on the door and actually offer to buy their system as opposed to get a call or wait for an RFP. So I think you'll see increased sales tactics as we move into this period to better offer our solutions in a proactive way.

Got it and then just lastly in terms of the catch-up component filed this morning, it sounds like you're not changing the 5% to 7% longer-term guidance there but are you able to provide a bit more granularity in terms of the contribution on an EPS basis that can materialize out of that?

It's hard to do at this time. What we're doing Ryan is really proposing a concept here, a construct where that catch-up deduction of benefit from it would be shared between the customers and the shareholders, and you can imagine customers getting like a service credit on their bill to reduce their bill over a period of time and then to benefit the shareholders really what we'd look for is ability to bring some of that back later to extend the time until the next rate case. And when I say extend until the next rate case you might say well that benefits customers too and I would say you're absolutely right. So that's what we have a proposal in before and it's newly filed. It’s likely an open matter now at the Pennsylvania PUC. So we probably can't provide really any more color on it than that.

Fair enough. Appreciate the time.

Yes. Thanks Ryan.

And we'll go to our next question from Ryan Connors of Boenning & Scattergood.

Hey Ryan.

Good morning. Yes. Thanks for taking my question. So I wonder if you could give us any regulatory update on the issue of the service disconnection moratoriums in Pennsylvania. I know the PUC split on that issue back in June, but they had a public meeting this morning and I didn't hear it come up at all. So any update on when they might expect to move on that one way or the other extending it or rolling that back?

Yes. I think it's an important question. I guess the good news even before I get into the timing, the good news is Pennsylvania has provided some relief in the form that they'll allow regulatory assets for COVID-related debt expense. So Ryan, from that standpoint it's still a cash flow issue, but it's not necessarily a P&L issue long term and hopefully, frankly, we hope customers pay their bills, and it won't be an issue at all. But in terms of being able to enforce a shutoff for non-pay, the commission has brought it up two times in my knowledge, and each time the commission has been split at Q2. We're still missing a good commissioner who retired, and now the governor just sent over a name to the Senate this week, Halle Bullock, and so we'll see how that develops. The best estimate I think is that we would see some action by the commission in the September timeframe. Remember they're coming into a winter moratorium later in the fall, call that the December timeframe, where we're again faced with no shutoffs on the water side for water related heat and often certainly on the gas side. So these are considerations that I think the commission would think about and allow some period between the September timeframe and the moratorium of the winter moratorium to be able to clean up some of the bad debt issues. That's the best I can give you, Ryan.

Got it. Okay and that kind of dovetails into my other question which is somewhat big picture in nature. I mean you mentioned it's a cash flow issue, not an earnings issue, but the longer it goes on and the bigger the risk that it becomes an earning issue. So I guess my other question is sort of it seems to me like when you look at the overall regulatory dynamics with COVID, it seems like the water utilities have been caught in kind of a middle ground here. On the one hand you're essential service, no pun intended, so you've got to keep operating which costs money and then on the other hand any kind of monetization, whether it's a rate case whether it's collections and shutoffs, that's sort of a third rail right now. So what's your reaction to that and what can be done to sort of help turn the tide and bring some balance back into the regulatory compact if in fact this thing in terms of the job market and unemployment and household impact does end up going on for another year or more? What's being done to kind of balance some of that out?

Yes. Well, let me start by saying we are always focused on affordability for our customers. So we'll start with that. So we understand what a lot of American families are going through right now, and so we've eased a lot of issues that are around collections during this time. So we can help customers. In fact, about $27 million of help comes to the customer a year on the Peoples side on gas bills through LIHEAP and other programs. So a lot of help we try to provide for customers to make it. Now, having said that, I think we believe that you're better off handling these issues more surgically and not with a blunt instrument. What I mean by that is a broad moratorium probably isn't as effective. It's important that we give customers who need it the help that they need; on the other hand, customers who take advantage of it need some discipline. And so we continue to advocate commission by commission for a more surgical approach rather than an approach where it's a broad moratorium. So all I can say Ryan, now we're in 10 states, state by state we're in those conversations; two of our states have already gone that way and reinstituted the collections and that would be West Virginia and Texas, and then we have four more states who are lifting their restrictions in August and then it looks like the remaining four would be sometime in September to the best of our knowledge. But those conversations continue in each of our states.

Got it. Okay and just one more just going back to the prior question about the municipal acquisition pipeline, it definitely seems like you're sort of punching very much at or above your weight in terms of your pipeline and your deal flow and then sort of outpacing the industry. You've really pulled ahead especially it seems like in Pennsylvania, which is pretty impressive given it's a very competitive market. So and look at the local press reports indicate there might be more on the way there. So what are the factors that are enabling that? What is it about your process that you think is giving you that edge or do you think that's just timing and that you're on a hot streak and that'll all even out over time?

Yes. It's all management, Ryan. I'm kidding, of course. But listen, we stay at it pretty hard, and I think the offerings we have—and let's face it too, we have a nice reputation in the area we serve. We work really, really hard with our communities, and so that reputation is long built. Some of these transactions we're talking about are right on top of the water customers we currently have. So that gives us a little bit of an inherent advantage given our location and our reputation. But beyond that, all of these deals are political at one level or another; some more than others, and there are various opinions. The larger they get, as you know, we're doing larger and larger municipal transactions now, the larger they get the more people have opinions. And so, I think the nature of these things is we're going to have to just kind of stay the course and as we've done with DELCORA, file it, make sure we've got all the necessary documentation for the commission and allow people to participate in that process as they see fit and oppose if they need to, but let the regulators and legal judges in some cases determine ultimately what the outcome is. But listen, as they get bigger we're going to see more and more people have an interest and take a position, and that's just the nature of these things. But we're confident we will continue to close them.

Great. Well, thanks for all the detail and thanks for your time.

Yes, you bet. Thank you, Ryan.

And moving on, we'll go to a question from Durgesh Chopra, Evercore ISI.

Hey Durgesh.

Hey guys. Good morning. Thank you for taking my question and a very solid quarter. Maybe just, can I start off with one of your peers actually mentioned COVID impacts and they're seeing credential earnings impacts from COVID. Can you just maybe help us understand how much was weather, an offset to the extent that you can during the quarter and what are you seeing in terms of normalized commercial industrial declines?

Sure. Dan?

Yes, absolutely. I mean, I think if we think about weather, weather was helpful for us, and you saw it certainly in the mid-Atlantic. We would say too what you've seen with some of this work from home is people have taken care of their lawn. They're now watering their lawns and the weather has been conducive to keep that watering up. So that could be for us as much as a couple pennies of incremental earnings here, and so that is helpful. But I think in terms of when we identify the actual COVID impacts and PPE and cleaning expenses and things like that, they're relatively modest numbers that are in the O&M waterfall we showed earlier. So they're not big figures put into there and then as we did say, there's a bit of an offset because we’ve effectively stopped our travel. So you're not seeing people traveling between our 8 or 10 states now. We're not going to conferences. As you know, you haven't seen Brian and Chris, myself or Matt at any investor conferences. We've stopped it. So there are some savings there that help to offset those expenses as well.

Understood. I haven't seen you all at MSU, but regarding actual demand declines, especially in the residential sector, there is nothing concerning from what I gather. What are you observing so far?

No, I think that's kind of what we expected going in before we saw the data, and then as we said right on our last call we had just gotten the April numbers and said we were basically kind of coming in on budget for April. So by that point we started to see that residential was making up for the declines in the commercial, industrial, and other segments or customer classes. So what we wanted to show here is just quantitatively we will put that on the slide and let you see exactly what's going on there so far during this period compared to the same period last year.

Yes, and going into it, as we watched this over the last several months, I guess, as you can imagine, and this probably varies from company to company and jurisdiction to jurisdiction, but there was obviously concerns over businesses such as industrials that may have had supply chain issues or other issues that would cause them to decline production and therefore decline their consumption. Certainly, as you look at this, some of that happened, but it doesn't appear to be as bad as it might have, as many could have been, at least in our area. That’s going to vary from company to company and jurisdiction to jurisdiction, as I said.

Understood. Very helpful. In terms of just the equity issuance timing on DELCORA, why do it this year and why not just wait for the deal and do it subsequently? Any thoughts on that front?

A lot to think about on that, right? A lot to think about on timing. So Dan, you want to go through how we're thinking about it?

Yes, a little bit, and Durgesh, they say don't wait to raise money to the point where you really need it. So as we think about DELCORA closing and how do you kind of get ahead of that and make sure that we're ready for it, just want to make sure that we picked the right time here in this back half of the year to raise that equity. And as you know if you look too far out here you start to see the election, and who knows from an equity market perspective kind of what happens around that.

I think that's right, the economy, what happens with the economy if this COVID continues in the next year, there is just a lot of events that could cause some volatility. So I think we're going to look to be opportunistic in terms of timing and do the best we can for equity rates.

Understood. Thank you, and just one quick follow-up hopefully for Matt. In terms of MBAs, it's been very, very interesting but how are you, is this going to be a business model which will be capital like contractor businesses or you plan on deploying balance sheet there too? Just any color on that front would be great, Matt.

Yes. I would say it's a mix. If Peoples, for instance, they have a few different MBAs, one is a home warranty business which is very capital light. It's a fast growing business, and we like the business, but it doesn't require much capital. On the other hand, they're doing projects like the Pittsburgh airport and likes in CHP projects and hospitals which are more capital intensive. They spend the capital, they basically develop those projects and manage them, and so those are definitely a little bit more capital intensive. So it's a little bit of a mixed bag depending on the business at both Peoples and Aqua.

Understood. Appreciate the color, guys. Be safe, and thank you so much.

Thanks, Durgesh. Take care.

And we'll move to Angie Storozynski from Seaport Global.

Thank you. So I have two questions. One is that so far we're seeing the impact of COVID mostly related to your customer class mix being that residential customers are consuming more on a just a normal weather basis and that offsets the clients on the C&I side. Now just like we hope—or at least would hope—to see on the electric side, I would argue that COVID should make your weather sensitivity higher, right? Because there is one, there is a change in the customer mix but also this residential customer is more reactive seemingly to the weather both on the water side and the gas side. So what I'm trying to say is that is there actually a scenario where given what we've seen so far this summer and assuming that the winter is going to be at least normal, we could have actually a weather benefit both on the water side and the gas side, which would not only offset COVID but also be additive to your guidance?

Well, from your lips to God's ears, right? I think these things are hard to predict. I mean I think a couple of your suppositions there are accurate—that is, more people are at home. So therefore, probably more people have done yard work, plantings this year and are watering their lawns than before. I think all those things are accurate. As they get their bills to move their way through the summer, will they continue at that rate? That’s a question. Do I get my bill and maybe one of my spouse is out of work, and so we're looking at trimming expenses? We just don't know Angie; I think our best estimate at this point is right within that guidance range that we've described. Could there be upside? I guess potentially, but we're in our best estimate at this point. We're within the guidance range.

Okay and secondly, I know that you have just filed this catch-up repair tax application, but even if there is a sharing mechanism, I don't think that we were expecting you to file another rate case on the gas side through 2022. And so again, as long as the sharing leaves anything for shareholders, that should still be EPS additive versus the original plan, no?

I guess the way I say this is we've made a proposal in such a way that we would be stretching the time until the next rate case beyond what you were expecting. So going farther out from there and frankly farther out than what we would have planned by using some of that benefit to in that later period make up for what you'd call a revenue requirement shortfall.

Due to this continued heavy capital spend.

Okay and lastly I know that this question was already asked, I mean you guys are not showing any nets impact of COVID or negative impact of COVID on your earnings. In that year-to-date estimate and assertion for the remainder of the year, are you assuming that Pennsylvania allows you to defer any COVID related expenses both basically expenses and bad debt?

On bad debt, we're assuming that we get some treatment on COVID-related bad debt expense. That's a regulatory asset, and the commission has already issued guidance on that. So on bad debt expense, but not on other COVID-related expenses. We think we can offset those with other opportunities for savings associated with COVID not associated with COVID; we think there's opportunity to basically hit our numbers without damage from the COVID related expenses.

Okay. Thank you.

Sure.

Thanks, Angie.

And we will go to Jonathan Reeder of Wells Fargo.

Hey Jonathan.

Good morning. How are you all?

Pretty well. How are you?

Not too bad getting towards the tail on the burning. So life at the end of the tunnel.

Right.

Dan, can you reiterate what the size of the repairs tax catch-up finally was, and is that the amount of income that it shielded, or is that the net income impact?

So it's $380 million, approximately $380, and that is the deduction. So the benefit is effectively a tax rate multiplied by that deduction.

Got it. Okay.

And that benefit is then what flows through the income statement.

Right. Okay. And so then the portion that you request to accrue to shareholders, I mean it sounds like are you asking for the flexibility to recognize that as needed to keep your earned ROE consistent with the allowed levels as opposed to some sort of predetermined amortization over a multi-year period like was done on the water side?

Yes. It's a bit of that predetermined, but I think time will tell here. As I said earlier, this is now an open matter in front of the PUC, and just want to be respectful of that process. It’s actually adjudicated.

I think just to maybe put it in a little bit bigger box, I think we could say Jonathan is thinking about it the right way.

Yes. John, you are thinking about it the right way. I would agree.

And is the request—has that been shaped by any relevant discussions you've had with regulators or key interveners over the past few months, or that's just purely presenting it to them for the first time and seeing how they react?

Well, I’d compliment Dan and Kim and the team for the work they've done on this because there have been pre-meetings. So this is not the commission or the OCA or the staff's first exposure unless they've done a very, very nice job with communications on this. And so while I wouldn't say that I wouldn't characterize it as we've been guided by the regulator on how to file, I would say that they're not they wouldn't be surprised by what they saw. Is that correct?

Yes. That's correct, Chris. We have had very good conversations and socialize this concept with the various parties in advance.

We try to create something, Jonathan, that is a win for everybody long term and short term, where the customer really benefits and the shareholder benefits by some portion as well. So we really try to craft a compromise situation.

It really helps too.

Yes. It supports the elevated level of capital deployment as well. So it's that longer stay out plus continued capital deployment to replace prior to really drive safety and reliability in our system.

As we think about the recovery from even COVID here, you have the economic condition associated. We believe the longer we can stay out of race in the gas utility and at the same time continue to focus on the replacement of pipe for reliability and for environmental reasons, we think that's the strongest outcome.

No. Yes, that all makes sense. I appreciate that color. Lastly, I know it's not a fight that you're really in, but you are interested in it. Where do things stand in the whole legal fight between DELCORA and the city council or whatever?

Let me start it, and then I will pass it to Matt for further. So we have filed, as Matt said in his presentation, filed with the PUC, they've accepted our application. So that's good news. So the process is formally now winding through the PUC, and you know that's a tough defined time period. So that would take us to call it early 2021 if it stays on this current track. The county has now knows that they have—it's very public what the numbers are so the proceeds are somewhere around $200 million from this, and so the county I think is concerned about the COVID cases, they've had the COVID related impact and so I think they're carefully watching those expenses. At least one of the county commissioners had said to me that they would like to have some of those proceeds for taxpayers as opposed to simply rate payers. And listen, at the end of the day, the proceeds from the sale are going to be largely up to the county or this will remain in this trust. I thought it was a very creative idea that DELCORA came up with to say we're going to take the entirety of the proceeds, put them in a trust, and then offset future rate increases because, as you know, we've communicated, we have about $700 million of capital to spend at DELCORA expanding and planning and redirecting flow. So it's going to be a heavy lift over the next year, that's eight years, and so we thought the solution was pretty good. But again, as I said a few moments ago, politics are what they are, and I think people see things sometimes through their own lens. So we're going to have to work through those issues. At this point, we would expect the judge in the county to have a ruling sometime in early September, mid-September on what he thinks about the situation.

I want to add, Jonathan, that there are ongoing legal proceedings, so we can't provide too many details. However, we do have a signed APA in place and are confident that it is a legally binding agreement. We continue to move forward with that in mind and are hopeful that we can close this transaction in early 2021.

Okay. But Chris, that judge ruling that you said in mid-September, that would determine whether the county has a right to any of the proceeds or actually spell out maybe what right they have to it. Then I guess there is whatever appeals it's more about the proceeds versus the transaction.

I think it's more about whether the county has the right to stop the transaction, whether the county has a right to step in and intervene in a contract that exists. So I think it's a pretty important decision by the judge in September, less about the trust and more about the county's ability to dissolve the authority and intervene in the midst of a transaction.

Okay. All right. Thanks, I appreciate that clarity.

You bet. Thanks, Jonathan.

And with no further questions in the queue, I'd like to turn the conference back to Chris Franklin for any additional or closing remarks.

Thank you all for joining us this morning. Great questions, and obviously we're available for follow-up if there are any. Brian, Dan, and I are all available. Thanks so much. Have a great day.

And again, that does conclude the call. We'd like to thank everyone for your participation. You may now disconnect.