Dominion Energy Inc (D) — Q4 2017 Earnings Call Transcript

Good morning and welcome to the fourth quarter 2017 earnings conference call for Dominion Energy and Dominion Energy Midstream Partners. During this call, we will refer to certain schedules included in this morning's earnings releases and pages from our earnings release kit. Schedules in the earnings release kit are intended to answer the more detailed questions pertaining to operating statistics and accounting. Investor Relations will be available after the call for any clarification of these schedules. If you have not done so, I encourage you to visit the Investor Relations page on our websites, register for email alerts, and view our fourth quarter and full-year earnings documents. Our website addresses are dominionenergy.com and dominionenergymidstream.com. In addition to the earnings release kit, we have included a slide presentation on our website that will follow this morning's discussions. And now for the usual cautionary language; the earnings releases and other matters that will be discussed on the call today may contain forward-looking statements and estimates that are subject to various risks and uncertainties. Please refer to our SEC filings including our most recent Annual Reports on Form 10-K and our Quarterly Reports on Form 10-Q for a discussion of factors that may cause results to differ from management's projections, forecasts, estimates, and expectations. Also on this call, we will discuss some measures of our company's performance that differ from those recognized by GAAP. Reconciliation of our non-GAAP measures to the most directly comparable GAAP financial measures, we are able to calculate and report are contained in the earnings release kit and Dominion Energy Midstream Partners’ press release. Joining us on the call this morning are our CEO, Tom Farrell; our CFO, Mark McGettrick; and other members of our management team. Mark will discuss our earnings results and Dominion Energy's earnings guidance. Tom will review our operating and regulatory activities and review the progress we’ve made on our growth plans. I will now turn the call over to Mark McGettrick.

Good morning. Dominion Energy reported operating earnings of $3.60 per share for 2017, which was in the middle of our guidance range. Mild weather conditions in our electric service territory in both the winter and summer had a $0.10 per share negative impact on our results. Adjusting for weather, our earnings results were in the upper half of our range. Other negative factors impacting earnings were a lower allowed rate of returns on our Virginia rider projects and lower margins from our merchant generation business. The positive factors for the year relative to our guidance include lower than expected general merchant capacity expenses, interest expenses, and operating expenses. EBITDA summaries of our operating segments for the fourth quarter and full year 2017 are shown on slides four and five. Overall, we are very pleased with the performance of our operating segments in 2017. GAAP earnings were $4.93 per share for the year. The principal difference between GAAP and operating earnings was a $988 million gain due to tax reform, primarily driven by an adjustment to a deferred tax liability. The reconciliation of operating earnings to reported earnings can be found on schedule 2 of the earnings release kit. Dominion Energy Midstream Partners produced adjusted EBITDA of $299 million for 2017, which is more than double the level produced in 2016. Distributable cash flow was $178 million, which was 68% higher than 2016. The acquisition of Questar Pipeline in December of 2016 was the principal driver of the increase. On January 25th, Dominion Energy Midstream's Board of Directors declared a distribution of $31.8 per common unit payable on February 15th. This distribution represents a 5% increase over the last quarter’s payment and is consistent with our 22% per year distribution growth rate plan. Our coverage ratio remains strong at 1.29 times. Also, we are in advanced stages of securing a $500 million revolving credit facility for Dominion Midstream that will replace its existing credit line with the parent company. This should be in place in the next few weeks. Moving to treasury activities at Dominion Energy, cash flow from operating activities was $4.6 billion for 2017. We have $5.5 billion for credit facilities and taking into account cash, short-term investments, and commercial paper outstanding, we ended the year with available liquidity of $2.2 billion. We are also in the process of increasing Dominion’s credit facilities by $500 million up to a total of $6 billion, which would further improve our liquidity. For statements of cash flow and liquidity, please see pages 13 and 24 of the earnings release kit. On Slide 8, we outline a number of initiatives we've planned for 2018, which support our balance sheet and credit profile. First, we issued $500 million of new common equity through our at-the-market program in January. This issuance was not related to our planned SCANA financing. Second, we've reviewed our capital spending plan and anticipate reducing our expenditures by $1 billion over the next two years. These reductions will have no impact on our previously disclosed growth capital estimate. Third, as I just mentioned, we are securing an extension and upsizing of Dominion's credit facilities up to a total of $6 billion. This is in addition to the new $500 million credit facility planned at Dominion Energy Midstream Partners. And finally, we're initiating the process of de-levering the parent company and will net reduce holding company debt by $800 million or more this year. These and other elements of our 2018 financing plan, excluding our planned SCANA transactions, are shown on Slide 9. I want to assure everyone that we're committed to investment-grade ratings and we'll strive to meet the associated credit metrics. Moving to tax reform on Slide 10, recently enacted changes to the federal tax code had a significant impact on most utilities. Assessing the impact is a difficult process for a multifaceted company like Dominion, operating in seven different states. In estimating the ongoing impact from tax reform, we've assumed that the benefits of lower tax rates will be passed through to customers in all of our state-regulated businesses. On the plus side, lower tax rates will improve the profitability of our non-regulated and long-term contracted businesses. Also, the normalization and amortization of excess deferred income taxes will provide incremental growth to rate base in our regulated businesses. On the negative side, as highlighted by some of the recent comments from the rating agencies, tax reform creates strong credit headwinds particularly for companies like Dominion who are currently not-cash taxpayers. We estimate the 2018 impact of federal tax reform will be a positive $0.10 to $0.15 per share. Now to earnings guidance at Dominion Energy, operating earnings for 2018 are expected to be between $3.80 and $4.25 per share. The midpoint of our range is 10% above the middle of last year's guidance range. Positive factors compared to last year are earnings from Cove Point and return to normal weather, one fewer refueling outage at Millstone, and a lower effective tax rate due to tax reforms. However, a large portion of the tax reform benefit will be offset by the delay in promotional operation for Cove Point. Tom Farrell will expand on the operational timing of Cove Point in a few minutes. Negative factors for 2018 compared to last year include lower investment tax credits, higher financing costs, and share dilution. Our earnings growth rate remains at 6% to 8% for the 2017 through 2020 period. This compound growth rate could improve to 8% plus if we are successful in our efforts to combine with SCANA Corporation. Our operating earnings guidance for the first quarter of this year is $0.95 to $1.15 per share compared to $0.97 for the first quarter of last year. Positive factors for the quarter compared to last year's first quarter are a return to normal weather, a contribution from Cove Point export, higher merchant generation margins, and federal tax reform. Negative factors include lower solar investment tax credits, higher financing costs, higher capacity expenses, and higher DD&A. You will notice in our guidance documents that projected EBITDA for our operating segments and total company showed a decline compared to the prior period, even though net income and earnings per share are higher. This is due to the impact of the flow-through benefits of tax reform and our state-regulated businesses. So let me summarize my financial review. Operating earnings were $3.60 per share, remaining in the middle of our guidance range despite mild weather. Changes to the federal tax code are expected to be a net positive for Dominion's earnings. We are taking aggressive steps to strengthen our balance sheet to offset the credit impact of tax reform and 2018 operating earnings are expected to be at least 10% above the midpoint of our 2017 operating earnings guidance range, consistent with previous guidance. I'll now turn the call over to Tom Farrell.

Good morning. Strong operational and safety performance continued at Dominion Energy in 2017. All of our business units either met or exceeded their safety goals for the year. Our employees set an all-time low OSHA Recordable Rate of 0.66 in 2016. In 2017, they exceeded that record by an additional 10% to a new record low of 0.60. We are very proud of our companywide commitment to improving safety performance. Our nuclear fleet continues to operate well. The net capacity factor of our six units in 2017 was a record 95.1%, exceeding the previous record of 93.7% set in 2013. Weather-normalized electric sales for the year were up 1.7% over 2016, led by growth in sales to data centers and residential customers. Total new customer connects were above our expectations with strong growth in both residential and commercial sectors. For the year, we connected 13 new data centers compared to 11 in 2016. Now, a few comments on Millstone Power Station; we are looking forward to the opportunity to compete with other non-emitting generating resources in a state-sponsored solicitation for zero carbon electricity. It provides a path forward to retain 1,500 well-paying jobs in Millstone and substantial environmental energy and economic benefits for Connecticut. Preliminary reports issued by DEEP and PURA in December and January highlighted the importance of Millstone to the region's power markets and the state's economy. We have worked with the regulatory agencies including the sharing of confidential financial information to convey the actual cost of operating two dissimilar units in a high regional labor market. An updated report issued on January 22 concluded that the solicitation should take place and that Millstone can't participate. Our recent report from ISO New England regarding the region’s future fuel security and reliability risks also supports the need for Millstone. The final report from DEEP and PURA is expected this week and we look forward to continuing to work through this process with the Connecticut regulators. Now for an update on our growth plans; construction of the 1,588-megawatt Greensville County Combined Cycle Power Station continues on time and on budget. As of December 31, the $1.3 billion project was 73% complete. All major equipment is set. The primary natural gas line and M&R station are completed and awaiting final commissioning. Greensville is on schedule to achieve first buyer in the second quarter and is expected to achieve commercial operations late this year. The upgrade of our electric transmission network continues. In 2017, we invested $806 million and placed $519 million of assets into service. We plan to invest $800 million in our electric transmission business this year and every year for at least the next decade. Progress on our growth plan for gas infrastructure continues as well. Construction of our Cove Point Liquefaction project is complete and we are in the final stages of commissioning. While commissioning has taken longer than we originally planned, we are progressing toward an in-service state in early March. This is an enormously complicated process, and we and our contractors are ensuring that all the work is done safely, thoroughly, and correctly. We are currently in the process of cooling down to liquefying temperatures to make LNG and meet final tuning and testing phases. The actual production of LNG at the facility is imminent. Once commercial, our contracts become effective and the project will produce the expected earnings we have previously discussed. However, as Mark mentioned, the absence of these earnings for the first few months of the year will offset some of the earnings benefits expected from lower income taxes. Nevertheless, we still expect 2018 earnings to be at least 10% above the midpoint of last year’s guidance. On January 19, FERC issued a Limited Notice to proceed for the Atlantic Coast Pipeline and the related Supply Header Project, which allows us to begin felling trees. Tree-felling started for ACP in Virginia and West Virginia on January 20 and for the Supply Header on January 26. We are making excellent progress, particularly in the mountain areas. Last week, we received our final North Carolina 401 water quality permit as well as our final E&S permits from West Virginia. We expect all remaining major permits including our Army Corps 404 and Virginia E&S permits any day. These are the final major permits necessary to request FERC authorization to commence full construction. We remain on schedule for completion of the projects in the second half of next year. It is noteworthy that during the cold weather earlier this month, power crisis in Virginia and North Carolina increased substantially, surpassing the highest daily power price average in New England by 10% and underscoring the urgent need for the increased regional gas transportation that the Atlantic Coast Pipeline and Supply Header Project will provide. Finally, a few comments on our offer to merge with SCANA Corporation; on January 3, we announced our agreement for Dominion to exchange 0.669 shares of its common stock for each SCANA share. Included in the offer was a proposal for upfront payments and ongoing bill reductions that would substantially reduce the cost to customers from the abandoned nuclear development projects. We filed a regulatory proposal with the South Carolina Public Service Commission on January 12. All of the other state regulatory filings and the application for Hart-Scott-Rodino clearance have been made. We expect to receive approval from SCANA's shareholders in May. We’ve participated in legislative hearings to explain our proposals to lawmakers who are considering possible changes to the South Carolina Base Load Review Act. We are optimistic that our proposal will be viewed favorably by lawmakers and regulators, and we can complete the transaction later this year. So to summarize, our businesses delivered record-setting operating safety performance in 2017. Construction of the Greensville County project is on time and on budget, commissioning of Cove Point is continuing, and we expect to be in service in early March. We received the Limited Notice to Proceed for the Atlantic Coast Pipeline and the Supply Header Project and have begun tree-felling along the route. Other permits are expected any day. We expect earnings growth of at least 10% in 2018 driven by completion of the Cove Point Liquefaction project and 6% to 8% from 2017 to 2020. Success in our efforts to merge with SCANA could increase our growth rate to 8% plus. Because of our unique MLP structure, our superior cash flows will also allow a dividend growth rate of Dominion Energy of 10% per year through at least 2020. And finally, the programmatic investment plans across all of our business units we’ve highlighted last fall, provide the foundation for earnings growth of at least 5% well into the next decade. With that, we would be happy to take your questions.

Despite the slight delay with Cove Point, I believe the long-term advantages of tax reform, particularly the increase of $0.10 to $0.15, outweigh this short setback. It seems reasonable to consider the measures you've implemented, such as issuing $500 million in equity, cutting the CapEx budget by approximately $1 billion, and initiating $800 million of targeted debt reduction at the parent company early. These actions appear to leverage the earnings benefits of tax reform to help accelerate your deleveraging objectives. Essentially, are your earnings targets on track because you effectively utilized the tax reform benefits to advance your planned deleveraging? Is this an accurate way to interpret your strategy, or am I missing something?

Greg, this is Mark. I think you’re right on track there. A large piece of that we’re using to go ahead and aggressively support credit. One reason we went ahead and issued equity at the market in January was knowing what our position was going to be even with a slight delay in Cove. So, we did take advantage of that and we’re committed to the ratings that we have. We will take the steps necessary to support that and we took advantage of taxes to get a jump start.

Great, I just wanted to make sure I understood that; that was sort of what you were doing. Other than that, I actually don't have any other questions. Congratulations on a good year.

So, a quick clarification actually, just given the conversations with Moody's and other agencies of late, just to the extent at which you've updated your plan at present. Does this put you in a position to get back on track and remove some of these outlooks? I mean obviously you've probably added some of the conversations you've shared with us this morning. Is this more of a question of timing and execution to get you up and put debt metrics in a place that is consistent with the agencies for your current ratings? Is that the right way to think about that at this point? And maybe you could even share just a little bit on how you see the FFO to debt profile off the lows here progressing?

Hi, Julien, this is Mark. We have shared with the agency our plans, and this is obviously an industry-wide issue for regulated utilities in terms of FFO pressure because of tax reform. We think this gives us a very strong start to support our FFO metrics going forward, but there's probably more work to be done in the future. The approach I think we believe the agency is going to take is for all the companies that are impacted by the FFO to make sure they can execute the plans that they outlined for the agencies and for investors and that's what we're committed to do to get our FFO metrics where all the agencies are comfortable with them and very strong investment-grade; that's our commitment and will remain our commitment.

And I wanted to come back to the earnings growth. Obviously, you've got a number of moving pieces in the update, not least of which at the $0.10 to $0.15 in tax reform. I know you in the key takeaways reaffirmed the 8% plus trajectory, but can you talk about ex-SCANA just how this might shift your standalone prospects for the earnings outlook, if it does at all?

Well, Julien, I think, I hope we've been clear on that; our 2017 to 2020 growth rate is 6% to 8% without SCANA on a compound annual rate. And I think as Tom mentioned, 5% plus post 2020. If we're successful in the SCANA transaction, that growth rate from '17 to '20 could move to 8% plus. So with or without SCANA, we're in a terrific position with one of the best growth rates we believe in the industry and one of the highest dividend growth rates as well, but certainly SCANA would be a positive result for us.

Same question in a different way. Assuming that $0.10 to $0.15 net benefit continued through 2020, why wouldn’t you be a little bit higher in your 6% to 8% growth? Or is that $0.10 to $0.15 change over the period?

Steve, I think it's going to change a little bit over the period, but again I think the 6% to 8% range we feel real comfortable with and there's a lot of moving parts on tax reforms still in terms of how states might handle it, how FERC might handle it, and timing of the cash impacts on that. So, we've made our best assumptions here and we think that 6% to 8% is the right range without SCANA. Could it move us off a little bit? It's possible. I don't think it will move us down at all, but I think taxes could move around a little bit post '18.

And then just to clarify, could you remind us if you are including any Millstone kind of benefits of the potential contract there on not in your plan?

We are not. Again, our range that could move us within our range depending on the success at Millstone, but we did not put a specific number in when we came out with our 6% to 8% growth range prior to the Millstone legislative work.

Could you maybe also just talk a little bit about the Virginia legislation that was recently proposed? And then what's Dominion's view on that and potential impacts?

Steve, this is Tom. There is a significant piece of legislation crafted by various leaders in the General Assembly, covering numerous aspects of state energy policy. Virginia typically moves legislation quickly, and I believe this will be no different, as they need to adjourn by the end of the first week of March. We are collaborating with multiple stakeholders on this. We see several positive elements in it, along with some aspects that will require adjustments on our part. Overall, we view it as a constructive piece of legislation for our state and our customers.

Could you discuss some of the opportunities you see from the legislation for both investors and customers? In the past, we've talked about grid modernization and riders, along with some other potential benefits.

I think it's too early to discuss it. There is still a lot of work to be done, and maybe in a couple of weeks when we see the final products at the committee hearing, we will have a better idea of how things are progressing. I believe we will be able to talk about it in more detail during the next call.

On the Dominion Midstream, in the past, you used to talk about $7 billion to $8 billion of cash from 2016 to 2020. Is there any update for that as well post tax reform?

No update on that, Michael. We still expect that cash to come back to Dominion and that is one of the many levers we are going to have to de-lever the parent. That story has been consistent in terms of the drop of Cove Point into the Dominion midstream and the benefits back to the mainly shareholders since day one, and we fully expect to execute on that beginning this year.

Can you discuss whether you plan to participate in the forward capacity auction for Millstone in New England? Or is that contingent on the outcome of the review on February 1st?

Michael, this is Paul Koonce. We are not prepared to discuss what we are going to bid. I mean that’s obviously competitively sensitive. So, we are working very well with both DEEP and PURA to kind of get through that process. They are going to issue their final report as Tom said later this week. That will we believe lead to an RFP being issued in the May timeframe, and so we will be working with DEEP and PURA between the final report and May to understand the structure of a bid and then we will submit our bid like any others.

So my question is, the $1 billion reduction in your CapEx doesn’t impact your gross CapEx? What does this mean? Is this maintenance CapEx that is being reduced?

Hey, Angie, this is Mark. It's going to be a number of things. The largest component of that $1 billion is associated with an announcement we’ve made recently to go ahead and put nine of our generating facilities in Virginia into coal storage based on current market economics. The timing of that over the next 12 months or so would have required a lot of maintenance at all those units, and that will be a lowered portion of the reduction. But there will also be reductions in other non-core maintenance activities over the next couple of years to come up with the $1 billion over the two-year period. But we have very good line of sight on that.

I have a follow-up question regarding the negative credit outlook. The negative outlook was issued in January, and I understand that the credit agencies were already aware of the equity financing and the reduced capital expenditures you are proposing. Does this mean you need to enhance some of the credit improvement initiatives? Should I anticipate more equity in 2019 and 2020?

Angie, when we communicated our plans for the next three years to the agencies, it was in the context of the SCANA transaction, and we had not factored in the equity we discussed today or the $1 billion adjustment. They were not informed until very recently, and that was a decision we made internally to maintain our focus on the metrics. They understand that we are committed to improving based on the tax reform impact. Consequently, their original numbers did not reflect this, and we view this as a significant step forward as we progress with completing the SCANA transaction.

I wanted to inquire about your overall goals regarding leverage, especially since there was a lot of useful discussion this morning about target credit metrics. You previously mentioned the aim to decrease holdco debt as a percentage of total debt from 50% to a lower level by the end of the decade, around 30% to 40%. Is that still the direction you're considering for your total holdco leverage?

Yes, you're sure. That’s the same range. We may get there a little quicker with some of the changes that we talked about today, but that is the range we’re targeting by 2020, 30% to 40% at the holdco as a percentage of total family debt.

Okay, great. And then shifting, this is I know a little broader and off the beaten path, but I couldn’t help but notice the Amazon shortlist locations; three of them are in your territories. Have you all thought through what might be required in terms of infrastructure, if one of those selections took place? Is this something that could be material in terms of infrastructure? Or is it more likely you can broadly utilize the existing infrastructure that you have?

There are many jobs being discussed, which translates to numerous homes, residences, and businesses related to those 50,000 jobs over a decade. Depending on the location, I believe you're referencing the District of Columbia, suburban Maryland, and suburban Virginia, all of which are part of that shortlist. There will be a lot to manage over the next ten years, and we hope they recognize the benefits of choosing the right state.