NiSource Inc (NI) — Q4 2017 Earnings Call Transcript

Thank you, Andrew and good morning, everyone. Welcome to our quarterly investor call. Joining me this morning are Joe Hamrock, Chief Executive Officer; and Donald Brown, Chief Financial Officer. The purpose of today's call is to review NiSource's financial performance for the fourth quarter and full year of 2017, as well as provide an update on our business operations and growth drivers. We'll then open the call up to your questions. During this call, we will be referring to our supplemental slides; these slides are available on nisource.com. Before turning the call over to Joe, just a quick reminder; some of the statements made on this conference call will be forward-looking. These statements are subject to risks and uncertainties that could cause actual results to differ materially from those expressed in the statements. Information concerning such risks and uncertainties is included in the MD&A and Risk Factors sections of our periodic SEC filings. In addition, some of the statements made on this conference call relate to non-GAAP measures. For additional information on the most directly comparable GAAP measure and a reconciliation of these measures, please refer to the supplemental slides and additional segment and financial information which are also available on nisource.com. In that document, you'll also find our full financial schedules that have historically been available in our earnings release. With all that out of the way, the call is now yours, Joe.

Thanks, Randy, and good morning, everyone, and thanks for joining us. 2017 was the year of solid execution across all facets of our business plan with industry leading employee safety performance, improved customer satisfaction across all NiSource utilities, record infrastructure investments, increased customer growth, more recognition as the best place to work, and sustained earnings per share and dividend growth for our investors. Let's look at Slide 3 of our supplemental deck and highlight some of our significant achievements in 2017. We delivered non-GAAP net operating earnings per share of $1.21 compared to $1.09 in 2016. This was slightly above our guidance range for 2017. We invested a record $1.7 billion in our utility infrastructure in 2017, part of our more than $30 billion of identified long-term investment opportunities. This investment included replacing 377 miles of priority natural gas pipeline which drove continued reductions in leaks and methane emissions. We also replaced 68 miles of underground electric cable and about 1,300 electric poles improving electric service reliability for our customers in Indiana. We achieved industry top performance in our core employee safety metrics and I'm proud to say that 2017 was our safest year ever. Customer satisfaction scores improved across all NiSource utilities. JD Power & Associates recognized Columbia Gas of Virginia as one of the nation's top gas-only brands and NIPSCO as one of the most improved electric brands, and we added nearly 28,000 new customers, driven by increased conversions to gas from other fuels in a healthy housing market. We successfully completed key regulatory initiatives with approvals of gas base rate case settlements in Maryland and Virginia and our power generation environmental investment plan in Indiana. We refinanced nearly $1 billion in long-term debt at more favorable rates which will result in significant interest expense savings over the next several years. We established aggressive environmental targets supported by our business strategy including a 50% reduction of greenhouse gas emissions from 2005 levels by 2025. We earned global recognition as the 'Best Place to Work,' as well as for our inclusive and diverse culture. NiSource was the top ranked utility in Forbes Magazine's list of America's Best Large Employers for 2017, and for the first time was recognized as the Best Place to Work for LGBTQ Equality by the Human Rights Campaign Foundation. And in early 2018, we were one of 104 companies in the world named to the inaugural Bloomberg Gender Equality Index. And we delivered a total shareholder return of more than 19% for 2017, significantly exceeding the two major utility indices. As you can see, NiSource's performance in 2017 created value for our customers, the communities we serve, our employees, and our investors, and we're well positioned for continued growth. Before turning the call over to Donald, I'd like to note how pleased I am with the targeted solutions for the regulated utility industry that Congress included in Federal Tax Reform. Because this solution supports the continued investment in critical utility infrastructure that provides long-term benefits for our customers and communities. We're working with our key stakeholders and regulators in all seven states to shape the most balanced and constructive approach to pass the benefits of tax reform back to our customers. This effort should play out over the next 6 months or so. To highlight a few examples of this effort; in Indiana, we amended the NIPSCO gas rate case to reflect the impact of tax reform lowering the requested increase by approximately $26 million. In Ohio, we expect to include customer benefits from tax reform as part of our discussions around the capital expenditure program filing that requests the opportunity to recover deferred capital investments made since 2011 and which are not being recovered under the existing infrastructure modernization tracker. As I said, these efforts, as well as others across the remaining jurisdictions, will take shape over the next six months or so. With this clarity about the new tax law and the expected regulatory implementation of its provisions, we're confident in our ability to meet our commitments to the financial community and continue to create solid shareholder value. Now I'd like to turn the call over to Donald who will discuss our financial performance in more detail.

Thanks Joe, and good morning everyone. I'd like to start by adding a few more details around tax reform which we know has been a great interest to investors over the past year. Turning to Slide 4, with the adoption of the tax cuts and jobs act, we revalued our net operating loss carryforward to $508 million which is expected to continue to provide a significant source of cash tax benefit beyond 2025. I would also point out that the re-measurement of our deferred tax liabilities increased our regulatory liabilities by approximately $1.5 billion which will provide a benefit to our customers. As Joe mentioned, the new tax law is positive for our customers as it lowers their costs and supports our continued investment in critical utility infrastructure which benefits all stakeholders by enhancing safety, service reliability, and environmental performance of our system. As we get more clarity on the regulatory implementation and work through business initiatives focused on efficiencies, we will better understand the impact of tax reform on our credit metrics, specifically funds from operations to debt. With this clarity, we will then finalize any necessary changes to our financing plan which may include utilizing a mix of hybrids, convertibles, debt, and equity. I would add that any necessary changes will be within the context of delivering on our stated financial commitments, including every effort to maintain our current investment-grade credit ratings. It puts confidence in our plan and the levers and flexibility that we have available to us to manage this near-term impact, and that we are reaffirming our 2018 non-GAAP net operating earnings guidance of $1.26 to $1.32. We also continue to expect to grow our non-GAAP net operating earnings per share and dividends by 5% to 7% each year through 2020 and to invest $1.6 billion to $1.8 billion annually in our utility infrastructure programs through 2020. Moving on to our results in Slide 5; we've delivered non-GAAP net operating earnings of about $398 million or $1.21 per share in 2017 compared with about $351 million or $1.09 per share in 2016. The biggest driver of our solid financial performance continues to be the impact of our long-term infrastructure modernization investments, supported by solid regulatory outcomes and established infrastructure trackers. I would note that our GAAP results were impacted by certain balance sheet adjustments and other items related to federal tax reform. Let's now turn to the non-GAAP financial results for our business segments. Our gas distribution operations segment had operating earnings of about $587 million for the year compared with operating earnings of about $598 million in 2016. Net revenues were up about $164 million driven primarily by new rates from base rate cases and infrastructure replacement programs. This increased revenue was more than offset by operating expenses which increased by about $174 million. Our Electric Operations segment reported operating earnings of $377 million for the year, an increase of about $75 million from 2016. Net revenues were up about $122 million driven by new rates from the 2016 base rate case and increased investment in the transmission projects. This increased electric revenue was partially offset by an approximately $48 million increase in operating expenses. As we've discussed previously, the planned 2017 increase in non-tracked O&M expenses were largely driven by commitments in recent rate case settlements to make certain investments in safety, reliability, and customer service enhancements. We're managing these expenses closely and we're on track for flat O&M expenses compared with 2017. Full details of our results, including details of our fourth quarter performance earnings, are available in our earnings release and supplemental financial information posted this morning at nisource.com. Now turning to Slide 6, I'd like to briefly touch on our debt and credit profile. Our debt level as of December 31 was about $9 billion of which about $7.7 billion was long-term debt. The weighted average maturity on our long-term debt was approximately 18 years and weighted average interest rate was approximately 4.8%, which is more than 100 basis points lower than at separation. This reduced cost of capital will help provide long-term sustainability to our infrastructure investment programs. At the end of 2017, we maintained net available liquidity of about $1 billion consisting of cash and available capacity under our credit facility and our accounts receivable securitizations. Going forward, our financial foundation is solid and poised for continued growth. Now I'll turn the call back to Joe to discuss a few customer, infrastructure investments and regulatory highlights.

Thanks for that update, Donald. Now let's turn to some specific highlights for the fourth quarter and early 2018 from our gas operations on Slide 7. Our gas base rate case in Indiana remains pending before the Indiana Utility Regulatory Commission. In January, we made a supplemental filing which incorporates the customer benefits of federal tax reform lowering our annual revenue increase request by nearly $26 million if approved as filed. The case supports continued investments in systems upgrades, technology improvements, and other measures to increase pipeline safety and system reliability. An order is expected in the second half of this year. In Ohio, the public utilities commission in January approved the five-year extension of Columbia Gas of Ohio's infrastructure replacement program. This well-established program covers the replacement of priority mainline pipe and targeted customer service lines. Also in Ohio, we filed an application in December for a capital expenditure program tracker which would allow us to begin recovering deferred capital investments made since 2011 and not currently recovered in rates. Our application seeks to increase annual revenue by $29 million in 2018 and new rates under infrastructure modernization tracker program updates took effect last month in Kentucky, Indiana, Maryland, and Virginia. Investments under these programs are designed to further improve system reliability and safety while efficiently recovering associated costs. Now let's turn to our electric operations on Slide 8. The IURC in December approved our environmental settlement agreement covering approval and cost recovery for investments related to handling coal-ash residuals from certain units at our Michigan City and Schaefer generating stations. Construction work on these projects is underway and is expected to be complete by the end of 2018. We continue to execute on our long-term electric infrastructure modernization program which includes enhancements to electric transmission and distribution infrastructure designed to improve systems safety and reliability. Approximately $1.25 billion of investments are planned through 2022. New rates took effect in November under our second semi-annual tracker update. The latest tracker update request was filed last month and covers approximately $75 million of investments made from May through November of 2017. And construction of our two major electric transmission projects is expected to be completed in mid-2018. As we wrap up today, just some key takeaways before opening the call to your questions. NiSource's utility infrastructure modernization programs continue to create value for customers, communities, and shareholders and are sustainable for the long-term. For 2018 we continue to expect to deliver non-GAAP net operating earnings in the range of $1.26 to $1.32 per share and to complete $1.7 billion to $1.8 billion in capital investments. We remain on track to execute against our more than $30 billion in identified long-term investment opportunities. With our robust investment plans, we continue to expect to grow both operating earnings and our dividend by 5% to 7% annually through 2020 while maintaining our investment-grade credit ratings. Thank you all for participating today and for your ongoing interest in and support of NiSource. Now let's open the call to your questions. Andrew?

Joe, since you took over, you've presented a strong narrative of sustainable growth, balance sheet protection, and predictability. Recently, we saw a headline suggesting you might be taking a different approach; can you comment on that?

I'm not sure what headline you're referring to Paul but I got you. So I won't speculate or comment on M&A activity or market rumors; I'll say that NiSource has always had a disciplined approach to growing shareholder value and the most recent example of that was last year when we elevated our CapEx program announced at Investor Day, that should result in an increased long-term growth rate of 5% to 7%. And our current focus to grow shareholder value calls for continued execution of the $30 billion of long-term identified investments that, as you know, will benefit our customers and communities and underpins the sustainability of our plan; our focus remains there.

And because NiSource is a little bit of a unique structure from the corporate structure standpoint, can you just give us a little bit more detail around how you've addressed tax reform issues and interest deductibility?

We are pleased that the new framework aligns with the targeted solutions many of us advocated for across the industry in 2017, as it benefits our customers and supports economic growth, which is essential for our business. It also enhances the sustainability of our infrastructure modernization strategy by lowering one of the pass-through costs in customer bills. Although we will face some short-term cash flow adjustments, we are confident in managing this. Our reaffirmation of 2018 guidance in December is evidence of our stability. Donald can share more insights, but we have successfully retained the deductibility of interest expenses through our legal entity restructuring at the subsidiary level that started in early 2017. This includes converting NIPSCO to an LLC, which was completed last week. This minor restructuring does not impact investors or customers but allows us to maintain the overall framework that is crucial for us. Donald, do you have any additional details on our position regarding this?

I think when you think about the other impacts of interest deductibility it did lose some value from the interest tax shield going from 35% to 21% but we've got levers from an O&M standpoint and financing standpoint and regulatory mechanisms that allow us to offset that and maintain our earnings commitment for 2018 and going forward.

Donald, you indicated you hedged $1 billion of interest rate risk; did you expense that in '17 or will that be amortized over the period as you put it in place?

That will be amortized over a bit later.

One question about the Holdco debt, the $2 billion that has traditionally been an inter-company loan to the utilities. Joe, did NIPSCO's transition to an LLC allow you to classify NiSource as a regulated utility, which helped you achieve that carve-out?

That's a fair characterization.

Let me shift to the equity discussion. Historically, you have guided to an equity range of $200 million to $300 million through internal programs, and you’ve mentioned being opportunistic based on your balance sheet metrics. Please update us on the status of the internal programs for 2018. Are there any early indications that this range might change? More importantly, in your discussions with the commissioners, is there any early conversation about potentially keeping some of the tax savings to invest in necessary infrastructure, such as accelerating some spending instead of providing immediate credits for repairs?

I think it's early. We are currently having discussions with regulators in seven states regarding tax reform and its implications. In most cases, we have submitted filings to share information about the deferred tax adjustments and their potential effects on customers. We have flexibility at this stage, considering the number of infrastructure programs we have in place, including the NIPSCO gas case and the Ohio CEP program. I believe we can manage the cash impact over time through these various programs while upholding our commitments to earnings and dividend growth.

You guys have utilized your levers extremely well, so whether it's on the O&M side or whether it's been their refinancing program, is there anything first of all left on the refi program? And then are you still comfortable sort of guiding towards flat O&M profile, even beyond your current outlook, especially when you sort of utilized the levers of the NIPSCO in Columbia Gas merger?

So, I'll start first on the refinancing. When we refinanced the debt last May, we only refinanced about half of that debt, there are still maturities in 2019, 2020, and 2022; so we'll continue to look at those and see if there's an opportunity to refinance that and provide savings and value for our shareholders but that is not contemplated in our earnings guidance at this point.

On the O&M side, as we've talked about over the past couple of quarters, the O&M increases in 2017 were largely due to the commitments we've made in the areas of safety, reliability, training, and pretty significant commitments there; all aimed at sustaining value for our customers. In that vein, we also had planned increases to support our customer growth initiative and our customer value strategy which are both off to a great start and underpin our confidence in the sustainability of our plan and the expectation of flat O&M in 2018 off of the 2017 base; so we're in a really good spot there.

Could you comment a little bit about any equity that might be needed in order to strengthen the balance sheet as a result of tax reforms and I realized that that might be dependent somewhat on your discussions with regulators throughout the year? And how that discussions go regarding preserving cash flows or amortization regulatory assets and things like that? Can you talk about the need for equity and perhaps the timing of when you would be able to announce that need and more specifics around that?

As I said, we're working across the seven states, I think it will take some time. I would expect it's going to be the next 4 to 6 months before we have any clarity from a regulatory perspective on the timing of that path back. At the same time we are having conversations with rating agencies and showing them our plan, as well as scenarios around financing depending on cash flow changes. Again, I think we've got levers in terms of financing that's not just equity; we would look at debt in terms of tenures, historically we've done mostly 30-year debt and so if you shorten that into 3s, and 5s, and 10s; that would provide some savings in FFO. We'd also look at hybrids and preferred that provides you some equity content as well as equity. So I think it's probably 4 to 6 months in terms of the regulatory; that's the part that we're really focusing on at this point and then the financing plan will come out of that.

To what extent are these plans already contemplated inside the 5% to 7% earnings growth rate?

All of those plans are contemplated. So I think it's coming out in late 2017 right after tax reform was to reaffirm our confidence in our plan and having flexibility and levers to hit our earnings guidance for 2018 as well as long-term.

And does it move it around in a range at all? I mean, what's the low end of the range as a result of any equity that might come out or is this something that had been planned so well in advance that there is essentially no change to 5 or 7; which is it?

There is essentially no change to the 5 to 7; we believe we have the means to reach that range. The factors that influence our earnings year-to-year, whether at the lower or higher end of the range, are our regulatory programs and how effectively we execute those programs. This will remain true moving forward; our execution on these programs will help us reach the higher end of the range, depending on the timing of those programs or our outcomes. Therefore, we have no concerns about achieving the higher range in the future.

Couple of things I'd add just to add a little context around that whole picture is, keep in mind that the targeted solution reflects the advocacy work that we were all involved in a year ago. So had a pretty long runway to take into account all of the various factors that ultimately did show up in the tax reform package; so our plans have been well developed over a year or more now. And then, I'd add to that, on the regulatory side with the puzzle of seven jurisdictions and the rate mechanisms but it's a little hard to predict specific timing across each of those, but given our relatively rapid regulatory cadence across our seven states, we have every expectation that most of those are settled going into 2019 and that we have essentially built into rate the full effect of the tax reform and reduced interest rates into customers' rates going into 2019. So those two kind of bookends to the strategy might help think about how we're framing everything.

Most of my questions have been answered but I just wanted to ask you if you have an update to your rate base growth CAGR long-term of 8% to 10%? And I'm assuming that that's going to be a bit higher now? Is there a confidence that you guys have that given that that's going to positively impact you in the long-term that some of these shorter-term things that you're doing to offset the pain of tax reform will kind of transition into that, and in other words, there won't be a year or two where you have the negative of tax reform but you don't have the positive benefit of the higher rate base?

It's a little early to think through or guide through those. We remain committed to the guidance we provided, previously the 8% to 10% rate base growth from last year. We'll continue to look at our plan as we go through the year ahead, especially with all of the regulatory activity related to tax reform but as we sit here today, the current guidance holds.

I would like to emphasize that the rate base will increase due to the tax reform. However, we are not in a position to specify the rate base growth until the necessary regulatory implementation is complete. Additionally, we will not be altering our capital expenditure plans; we remain dedicated to the annual investment of $1.6 billion to $1.8 billion.

Just a follow-on from the last question; I think the timing of the next couple kind of key decision tree you guys and regulatory or investor disclosures. You highlighted that the regulatory elements that are probably the most important thing but we also have possibly the IRS coming out with clarity on interest deductibility and then at some point in these three you guys possibly look beyond 2020 for your long-term guidance. So do you think we might kind of have a mid-year point in time where there is enough to give us a full update there or we'll have to wait till early 2019?

From a long-term perspective, our 2020 plan revolves around replacing our generation capacity. Last year, we mentioned the retirement of some coal units in 2018 and 2023. As we look ahead, we must make decisions regarding the replacement of that coal capacity. We're initiating the IRP program this year, and by the end of the year, we expect to have clarity on what the capital expenditure plan will look like, if any, and to guide beyond 2020.

When you expressed confidence in your ability to meet the 5% to 7% growth rate for 2020, I assume you've conducted scenario analysis. It appears that while you're seeing an increase, that metric will guide the regulatory outcomes expected in the next 12 months, and will ultimately help address varying equity needs. In most cases, your calculation seems to center around the 7% range. Is that the correct way for me to interpret your confidence in continuing to meet debt earnings targets?

That's exactly right, Greg. As we started thinking about tax reform and the path back of those savings, we're really looking state by state, trying to understand what those changes could be, what the impacts could be, looking at O&M as well because that impacts FFO, and then as you've said kind of back flipping to see what type of financing would provide us to hit our rating commitments with our agencies, as well as our 5% to 7% earnings growth commitments.

In any given year that's true.

On the dividend increase, you had certainly a terrific increase last month. Can I assume the 5% to 7% dividend increase, annual dividend increase growth is based on that new dividend?

That is correct. We've raised the dividend and what we've always stated is that we target a payout of 60% to 70% with our earnings growth from 2016 to 2017, along with our guidance of $1.26 to $1.32. For next year, the 11% increase is really in line with our long-term commitments regarding growth in dividend payout.

You've identified $10 billion related to your long-term infrastructure for Indiana electric operations for some time. While I understand you're currently in the IRP, is the $10 billion amount purely for transmission and distribution, or does it also include environmental projects for coal plants or new gas plants? What exactly does that $10 billion cover?

We've updated that information at Investor Day last year, so it's about a year old now and reflects all the investments in generation, transmission, and distribution, mainly on the transmission and distribution side. However, if you examine our generation strategy, this figure also anticipates new generation components, along with ongoing environmental spending in the next decade. You'll find a mix of these aspects, along with some customer growth reflected in that figure.

When you say the tail of the environmental spend; is there other units at Schaefer and Michigan or that are still out there that need some work?

No, we're in the CCR investment cycle right now, so that piece is a part of that. Keep in mind, we filed a $400 million CPCN last year for environmental retrofits, both, CCR and EOG compliance related investments, we have a settlement and approval on the CCR side but the EOG rule has been stayed. So that spend is still anticipated, it was included in the $10 billion and likely falls out beyond 2020.

So it sounds like you just have a plug in there for potentially a new gas plant and obviously the outcome of the IRP might drive that? I hope you refine it.

That's correct. In the last integrated resource plan, we demonstrated a combined cycle approach, which remains consistent with our previous plan. As mentioned earlier by Donald, we will initiate a new integrated resource planning cycle next month, beginning with our first stakeholder meeting. This will involve a comprehensive market analysis and a request for proposals to explore available options, as well as examine our construction possibilities. By the end of this year, we expect to have a clearer understanding of these expectations, which was factored into the $10 billion, specifically about $800 million of that amount.

This is Ryan for Faisal. Do you anticipate changing the duration or tenure of your debt obligations to help manage your earnings group outlook? I heard your comments around financing and adjustments to help achieve your guidance?

Yes, I think it's one of the options that we're looking at is the tenure of future financings going shorter, if necessary to manage our earnings and debt commitments around our ratings.

And then what was your ATM issuance in the fourth quarter so far this year?

So last year we did $315 million for the year, in the fourth quarter we did it forward. So part of our ATM program when we established it was a forward mechanism, we did a forward of about $170 million debt, we would close by the end of 2018.

Was there any issuance in the last few months?

There was not. So $314 million for the total year of 2017 and we did a forward for $170 million for 2018.

And has there been any updates around the status of the IRP process with stakeholder engagements in Indiana since the last earnings call? I think you had the meeting next month but any color you can provide around, it's been more of a formal conversation.

Ryan, no update. We haven't actually initiated the process, the first stakeholder meeting is next month, so we'll set up the process there. Our intent is to go through a full look at diverse portfolio, solution sets including build-buy alternatives, and work through that, including an RFP into the market and probably in the second quarter we'll do that. So I'd watch for first second quarter updates for status updates on that, there is not a lot to say about it except it is a very open balanced picture that we want to create to guide that decision.

Thank you, Andrew. And again, thank you all for participating today for your ongoing interest in and support of NiSource. Have a great day, we'll see you next quarter.