Good morning, welcome to the PG&E Corporation second quarter earnings 2013 conference call. All lines will be muted during the presentation portions of the call, with an opportunity for questions and answers at the end. I would like to introduce your host, Mr. Gabe Togneri with PG&E. Thank you, enjoy your call. You may proceed, Mr. Togneri.
Thanks, Monique. Good morning, everyone, thanks for joining us today. As usual, you'll be hearing from Tony Earley, Christopher Johns, and Kent Harvey. I'm going to remind you that the discussion will include forward-looking statements about future financial results based on the assumptions and expectations reflecting information currently available to management. Some of the important factors that could affect the company's results are described in Exhibit 1, located in the appendix of today's slide. We also encourage you to review the Form 10-Q that will be filed with the SEC later today and the discussion of risk factors that appears in the 2012 annual report. With that, I'll hand it over to Tony.
Thank you, Gabe, good morning, everyone. I'll start by saying we had another solid quarter operationally consistent with our plans, we continue to make progress towards top quartile performance throughout the business. As usual, Chris will highlight a few points on our operational performance, Kent will go through the financial results. I'll focus my remarks today on an update of the various gas issues. Most of the recent activity and attention has been centered around the regulatory arena. Late yesterday, we received an ALJ ruling requesting that we and the other parties submit information about the impact penalties would have on our ability to raise capital. Responses are due August 14th and September 13th. We're disappointed to see the ALJ's ruling, which results in significant delays in this already protracted proceeding.
We understand the desire to punish the company for past behavior, more importantly, the process should ensure that past practices are corrected and that we meet new, higher standards. Since the San Bruno accident, the company has made significant improvements and has committed substantial resources and shareholder dollars. Instead of recognizing that commitment, CPUC staff and other parties want to identify how much additional pain the company can bear, their resulting recommendations have lost all perspective. Ultimately, if the safety division or the other parties' recommendations are adopted, total shareholder-funded spending on unrecoverable gas pipeline work and fines would exceed $4 billion. This is obviously excessive. We believe strongly that the commission's final decision should recognize the huge amount of gas safety work we've already completed and the billions of dollars being spent without recovery from customers.
We will continue to urge the Commission to bring these proceedings to a reasonable conclusion as soon as possible. With respect to the criminal investigation, we continue to provide information as requested by the federal, state, and county attorney. Although it's uncertain, criminal charges may be brought against the company. They've been at this now for about 2 years. Like you, we'd like to have it resolved. Regarding civil litigation, as you know, we settled all of the most serious cases a few months ago. I'm pleased that we've been able to resolve many of these cases. We're now focused on settling the remaining cases. The judge has put in place a process to do just that. Now I'll turn things over to Chris.
Thanks, Tony. Good morning, everyone. As you can see on slide three, I'm going to start with a couple of regulatory items. Then provide some updates on operations. Tony already provided you with an update on the gas event. I'm going to go right into the general rate case. I'm pleased that so far, the general rate case is progressing on track. We are currently in the midst of hearings, which started earlier this month and are scheduled to end by August 9th. As we've previously discussed, this case includes a few new steps in the process. For example, the Commission asked the Safety and Enforcement Division to affirm that our electric and gas proposals are appropriately focused on the safety of the system.
In May, two consultants hired by the Safety and Enforcement Division submitted their reports reviewing how we address safety and security issues, including risk assessment and mitigation. The consultants provided some constructive comments for us to consider. They also recognized the overall improvements we're making, including our integrated planning process and risk management assessment, as well as safety improvements. These reports contrasted with the fairly extreme filing by the Division of Ratepayer Advocates. DRA didn't even acknowledge many of our specific requests for safety and risk mitigation and actually suggested that revenue should be decreased from the current amount. In our electric transmission business, last week, we filed our TO15 rate case with the FERC. The request incorporates a slight decrease in the revenue requirement to a little over $1 billion and includes an ROE of 10.9%. We derived the ROE using the median of our proxy group like other applicants.
We anticipate the FERC would allow the new rates to become effective in October. That brings me to operations. The attached slides show the status of our efforts related to pipeline replacement, valve installation, and mileage of hydrostatic testing. Some of these numbers might suggest a lower run rate than you would expect. We need more flexibility on our pipeline system in the first part of the year. Much of this work will occur in the next two quarters. We continue to actively manage our unit costs related to hydrostatic testing and have successfully brought those costs down significantly since we launched the Pipeline Safety Enhancement Plan in 2011.
This quarter, we notified the NTSB that we've completed work on two more of their recommendations on integrity management and pipeline threat assessment. Assuming the NTSB approves our request to close out these items, we will have only three of the original 12 recommendations remaining, and these three involve multi-year programs to complete. This clearly demonstrates the significant progress we've made in improving safety and strengthening our gas operations over the past two years. Given the tremendous work involved, this is no small feat, and I'm proud of how far the team has come. On the rights of way, we've completed more than 1,600 miles of the centerline survey during the second quarter and approximately 3,200 miles so far this year. We expect to survey all 6,700 miles of our system by the end of the year. To date, we have identified fewer significant encroachments than we originally anticipated.
We have a long way to go on the survey, particularly in the more populated parts of the service area, and we've only just begun the remediation effort. At this time, we're maintaining the cost estimate of roughly $500 million over five years. Shifting gears to power generation, I'm pleased to report that our Gateway plant just achieved its fourth consecutive year without a safety incident. This demonstrates the daily personal commitment to safety on the part of every member of that team, and I'm really proud of their significant achievement. We also recently completed a successful six-month planned maintenance outage of our Helms Pumped Storage Power Plant. Helms has been operating for 30 years, and the recent equipment replacements there will help us to achieve ongoing, reliable, and sustainable hydropower.
Helms is a great resource for us and our customers, particularly during the summer months when our peak loads are at their highest. At the Diablo Canyon Nuclear Plant, we had a couple of small unscheduled outages during this quarter. In both cases, the systems and processes in place worked as intended. The team did a great job identifying and correcting the issues and quickly restoring operations. With that, I'll turn it over to Kent.
Thanks, Chris, good morning. As usual, I'm going to go through our Q2 results as well as guidance. I thought I'd also spend a few minutes quantifying the substantial amount of gas pipeline safety work that shareholders have funded to date and that we've committed to fund, also cover the potential impact of the Safety and Enforcement Division's revised recommendation. Slide four summarizes the results for the quarter. Earnings from operations were $0.79 per share, and our GAAP results were $0.74. The difference between the two is our item impacting comparability. The item related to natural gas matters totaled $0.04 in the quarter and is broken out in pre-tax dollars in the table at the bottom of the slide. Pipeline-related costs totaled $74 million pre-tax in Q2.
This includes our Pipeline Safety Enhancement Plan work, our rights of way and integrity management work, then our legal costs. As Chris mentioned, work on our pipelines is somewhat seasonal and is expected to increase in the second half of the year. Similarly, we expect our remediation activities associated with rights of way encroachment to also ramp up in the second half. During Q2, there were no changes in our penalty accrual of $200 million associated with potential fines in connection with the gas pipeline investigation. Obviously, this accrual is subject to change as the CPUC process comes to a conclusion. There were no additional accruals for third-party liabilities in Q2. However, we did recognize $45 million of additional insurance recoveries during the quarter. This brings us to a total of $329 million in insurance recoveries to date.
Of course, those cover both claims as well as associated legal costs. Back to the table at the top, our environmental-related costs were $0.01 for the quarter and related to our whole house water program at Hinkley. Slide five shows the quarter-over-quarter comparison for earnings from operations. Our lower authorized cost of capital resulted in a reduction of $0.09 compared to Q2 of last year, our increased shares outstanding resulted in a $0.03 reduction. These were largely offset by the absence of a scheduled nuclear refueling outage in Q2 this year, or $0.06, and higher rate base earnings was $0.05 compared to Q2 of last year. Our guidance for 2013 earnings from operations is on slide six, it's unchanged at $2.55-$2.75 per share. Some of the key assumptions underlying our guidance are provided in the appendix of this slide deck.
At the bottom of the slide, you'll see our guidance for the key components of the natural gas matters in pre-tax dollars, these are unchanged other than reflecting the $45 million of insurance recoveries we booked in Q2. Regarding our equity needs, we continue to expect to need roughly $1 billion-$1.2 billion for the year based on our current accrual for potential fines. Where are we to date? During the first half of the year, we issued about $575 million, of which about $140 million was in Q2. It consisted of about $90 million through our internal programs, our 401 and dividend reinvestment plans, and about $50 million through our continuous equity offering or dribble program. Obviously, our financial plans are subject to change during the remainder of the year, depending largely on the resolution of the gas investigation.
Now I'm going to spend a few minutes on the numbers associated with our gas pipeline commitment and the Safety Division's revised recommendation. In the appendix to today's slide deck, in Exhibit three, we've included a table that lays out the $2.2 billion that our shareholders have spent or that we've committed to spend on pipeline safety since the accident. This includes unrecovered expenses and capital under our Pipeline Safety Enhancement Plan, as well as other gas transmission expenses outside of that program, such as integrity management, our rights of way work, and other gas transmission safety work. The following slide, Exhibit Four, walks you from the $2.2 billion that our shareholders have spent or committed to spend, to the $4 billion that would be required under the Safety Division's revised recommendation. First, you need to add $300 million for the fine that they are recommending.
Second, you need to add more than $1.5 billion of incremental shareholder-funded GAAP spending that they've recommended. The way you get the $1.5 billion figure is you start with the Safety Division's headline number of $2.25 billion. In their revised recommendation, they would only give us credit for $435 million of our pipeline expenditures, so you would subtract that off. You would also subtract $300 million for their recommended fine. That would leave you with about $1.5 billion of incremental shareholder-funded GAAP spending. We believe this recommendation is excessive and, if approved, could increase our cost of capital, which would ultimately increase costs to our customers. S&P, for example, indicated that if the revised recommendation were approved, it would review its assessment of California regulation, and that a downward revision to their assessment could affect ratings on all companies regulated by the CPUC.
Obviously, the ability to raise capital efficiently is very important given the large investment in infrastructure we're planning so that we can continue to provide safe and reliable gas and electric service to our customers. I'll stop there, and we can now open up the lines and address your questions. Operator?
Certainly. Ladies and gentlemen, if you would like to ask a question, press star 1 on your touch tone keypad. To remove your question, press star 2. If you are using a speakerphone, please pick up your handset before using your keypad. Again, to ask a question, press star 1. We will pause now to allow questions to generate. Our first question comes from the line of Anthony Crowdell with Jefferies. You may proceed.
Hey, good morning. I have more of a regulatory question for you, and it's the potential communication that exists between an ALJ and a commissioner on the CPUC. In an OII, I'm getting mixed reports that there's no communication between an ALJ and a commissioner on the CPUC, even if that commissioner is in charge of the OII. I wonder if you can give some color on that.
Yeah. This is Thomas Bottorff. I'm responsible for regulatory affairs. Commissioners can speak with ALJs. The assigned commissioner can speak with an ALJ on a proceeding irrespective of whether it's an investigation or a normal revenue request.
Great. Thank you.
Thank you. Our next question comes from the line of Michael Lapides with Goldman Sachs. I'm sorry. That question comes from Steve Fleishman with Wolfe Research. You may proceed.
Yeah. Hi, good morning.
Morning, Steve.
A couple questions. Based on the ALJ filing last night and the timing of the comments, et cetera, could you give us a sense of when the earliest we could actually get an ALJ proposed decision and then a final order?
Yes, this is Thomas Bottorff again. Normally, the schedule would have all of the submissions concluded by a certain date, and then the judges would have 60 days from the submission of all the documents to issue a proposed order. The judge doesn't have to use the full 60 days. If you look at what's happened with this recent order where they've asked for more information and reply comments due September 23rd, following submission of those documents, we would expect to still have the opportunity to submit our own reply to staff's last amended reply brief proposal. We probably will conclude the submission of our documents sometime in October, but that, again, depends on a schedule that hasn't been issued. Conceivably, the judges, if they have their decisions in progress, could issue them shortly after the submission of the document.
You could see one as early as October, it could be as late as November or December. It just depends on the schedule that they ultimately adopt, and we haven't seen that yet because they're still in the process of requesting additional information.
Okay. On the criminal case that Tony Earley mentioned, you sounded just a little bit more of a tone that you're expecting something to actually be filed most likely. Could you just give us a little more flavor on that, and what are the potential implications if those charges are made?
Yeah, Steve, let me start off. You'll can add any additional color to it. I think what we're finding is now that the other proceedings, the civil cases, and the regulatory cases are winding down, the various prosecutors who have been involved are starting to become more active. We've had a number of meetings with them, providing them with information. As we've said all along, we're fully cooperating with them in providing information. It's just a matter, I think, of now the timing, those proceedings are starting to get right to have them make a decision as to what they want to do, if anything.
Again, just if they do file charges, where's the implication in terms of just all the other, I guess, financial implications? Is it an insurance issue, or is there some other parts of this process where it could impact?
Well, there are a whole range of approaches that they could take, including a fine, which would be financial. As far as, we have no indication whatsoever of-
Okay
if they will seek that or what kind of range they would seek, or whether they would look at the CPUC proceeding and say the company has paid a significant amount already.
Okay. One other just technical question. It seems like in this whole process, there's a lot of focus on the Overland report. Just to your understanding, does the Overland report reflect all costs that shareholders have borne, both costs that had already been borne plus additional costs?
Steve, this is Kent. There was a hearing related to the Overland report, and it was clear at the hearing that Overland considered all unrecovered costs, not just fine. Including work that we did on our system that was unrecovered.
Including costs that had been done before they did that report, too. Not just prospective.
That was a little less clear about the timing. It was a little less clear.
Okay. I mean, it just seems like this is getting out of control, as you mentioned, I guess excessive. Obviously, this seems to get more and more fraught in the press, so to speak. Just what are the kind of options you can do to just I know you refiled to kind of put new testimony in. I mean, are there other options that you can do to get your point made here than having to just hope for an outcome and have to appeal it or something?
Well, Steve, it's more than hoping for an outcome. I mean, it's being aggressive in our filings, and we've made it clear that we think the approach of looking at what we can afford rather than looking at the substantial work that we've already done and taking that into account, that ought to be what they should be looking at. Remember, these are recommendations of parties and the staff. We don't even have an administrative law judge's decision yet. Then, of course, the commission has to issue a final decision. We'll be involved in each step of the way, making our arguments that the focus ought to be is, does the company get it? Have we changed our focus? Are we committed to safety, and are we spending money on safety, rather than, well, how much can they afford?
We just think that is the absolute wrong focus. I don't know of any proceeding that focuses on that, the regulatory.
Great. Thank you.
Thank you. Our next question comes from the line of Michael Lapides with Goldman Sachs. You may proceed.
Hey, guys. Questions on the general rate case process and on the TO. First, on the general rate case, is there a formal timeline for when settlement talks could occur? If not, are you looking at the rate case and saying, "Hey, this could actually get resolved on time," unlike many of the other California rate cases over the last few years?
This is Thomas Bottorff again. There is a formal date set aside for a settlement conference. That's August twelfth and thirteenth. We'll have an opportunity at that point to convene with the parties. I should point out, though, that we've already settled with three of the parties and continue to engage in discussions to settle specific issues. We're not necessarily waiting for the conference to resolve them. Right now, with those settlement conversations in place, the ones that are scheduled, that is all part of the schedule that had been set out by the judges when the proceeding was first initiated. We are on schedule. There's nothing that's occurred that would suggest there's a significant delay coming. In fact, just the opposite. We're on schedule in every phase of the proceeding up to this point.
Okay. The other question is on the TO case, the TO 15 case that you just filed last week. Do you implement rates on an interim basis using the 10.9 ROE, if the decision comes back differently, you adjust or refund accordingly? Do you expect the case to actually be litigated this quickly?
No. Generally, what's happened, one of the reasons we did file for a reduction is it allows us to put the rate into effect sooner. We're hoping as early as October one, that would reflect the request as we filed it. That would include the higher return, that's one of the reasons we submitted the application at this point, this earlier timeframe.
Michael, this is Kent. I'll just add, the rates are subject to refund based on the ultimate outcome from the proceedings.
Yes. Got it. How long do you think the actual proceeding will take?
Well, normally, we settle these proceedings, we haven't actually gone to hearing on any of our TO cases as yet. We would expect to settle it sometime by the middle of next year.
Got it. You'll put in rates with the higher authorized return in it and then settle sometime second quarter, third quarter-ish next year, in any adjustment subject to refund.
Yes.
Got it. Okay. Thanks, guys. Much appreciated.
Thank you. Our next question comes from the line of Julien Dumoulin-Smith with UBS. You may proceed.
This is actually Andrew Gay. Good morning.
Hi, Andrew.
Procedurally, is it your view that yesterday's ALJ request settles the scheduling issue in the docket? Will you still ask for the ability to respond to the CPSD corrections letter in line with your original request for an extension to the schedule?
This is Thomas Bottorff. We still have our motion pending to reopen the proceeding. That's still undecided. We expect a ruling on that. In any event, once that decision is issued and once the responses to the recent questions are answered, we still have our opportunity to file a reply/amended proposal the staff issued on July 16th. Those opportunities still exist, and that's why there's some uncertainty in the schedule, as the judge has yet to rule on our motion and has yet to decide the new date for us to respond to staff's July 16th proposal.
Got you. In terms of the ALJ request, they mentioned in there that they thought the $2.25 billion from the Overland report was incremental equity. Should we read anything into that? How should we think about the interpretation of that $2.25 billion?
This is Kent. I think that term is used to describe the way Overland approached it, which was how much equity can be raised in addition to the expected amount of equity needed just to support our normal ongoing capital expenditure program and other needs.
Not necessarily relating to whether it was from this point forward or whether it's aggregate. Is that?
It's really to address the equity needs associated with the gap pipeline cost and the proceedings as compared to the rest of our equity needs associated with our core business.
Got you. Finally, can you give an update on the process to address the net metering issues and also the rate tiering legislation?
Yes, this is Thomas Bottorff again. What we have pending on the rate issue, the tier reform issue is being addressed in the legislature and through a proceeding at the PUC, a general rulemaking on how residential rates should be set going forward. They're both in process. The legislation is pending in Sacramento, and the proceeding is still ongoing on how rates should be set for the future, generally on time of use versus tier reform or some other kind of tier reduction. We expect a decision in the PUC proceeding by the end of the year. We would also expect to see some action on the legislation before the end of the year as well. Net metering has not been formally introduced in either of those forums.
Certainly, any effect on the change in rate may have an effect on how net metering is calculated, but there's no formal proceeding yet to address changes in the net metering price.
Got you. Thank you, guys.
Thank you, Andrew. Once again, to ask a question, press star one. Once again, ladies and gentlemen, to ask a question, press star one. We have a follow-up question from Steve Fleishman with Wolfe Research. You may proceed.
Yes. Hi, can you hear me okay?
Yes.
We can, Steve.
Sorry, guys. Yeah. I might have missed this. In the new TO filing, what is the requested ROE now versus what you got, the 9.1 that you got the last time?
Steve, this is Kent. We requested 10.9, that includes the 50 basis point adder.
You're able to book at the 10.9 as of October unless they ask you to change it again?
That would be correct, assuming that they would put rates into effect at that time.
Okay. Besides the delay caused by this ALJ filing last night, could you just maybe give a little more color on how to think about the types of questions that are being asked in this filing and commentary?
Steve, it's hard to speculate. What I said before, I think, is true, that the focus seems to be on this affordability issue. Our hope, we will continue to urge the Commission to keep this in mind, is that's the wrong question. It's not a question that I've seen used in other regulatory proceedings. The real question is what's appropriate given the facts of the San Bruno explosion? Also what's necessary to make sure the company is working on the right things? I don't think anyone can question we're working on the right things. We've heard that time and again. There's no question that we're spending significant resources on working on the right things. I think we just have to get the focus back to the right questions rather than focus on this affordability issue.
Got you. Okay. Thank you.
Thank you, Mr. Fleishman. Our next question comes from the line of Stephen Byrd with Morgan Stanley. You may proceed.
Hey, it's actually Rajeev Lalwani .
Just to follow up on San Bruno, as you go through the next few months and you look at an ALJ recommendation and a final decision, do you think it's going to follow the path of a rate case where you get less and less extreme views as you go through the process? Or are you in kind of new territory and not sure where it goes?
We really can't speculate on that. That's what we will be urging, that the commissioners will take a reasoned view of this. It's hard to right now say where we're going to go. We'll continue to push for focusing on what we think are the right questions.
Okay. To the extent that you get some kind of extreme recommendation like the CPSD had, that's the final decision. What's the process after that to appeal, et cetera?
Well, these decisions of the CPUC can be appealed to the courts. Obviously, that's not a direction we want to go. We want to get these proceedings done behind us, which I think all of you have expressed opinion that that's what you'd like to see. Obviously, the safety valve is if the number is too high, if the credit we get for what we've spent already is too low, we'd have to look at our ability to deal with it. That's kind of a last resort. We want to try and get the decision to where it's something we can live with going forward and focus on the future.
Great. Thank you.
Thank you. Our next question comes from the line of Anthony Crowdell with Jefferies. You may proceed.
Hi. Just two quick follow-ups. I want to know what exactly is the record right now in the proceeding. Does the record include the original recommendations that the CPSD and, say, the City of San Bruno made and the revised ones, or does it just include the revised recommendations? The second question is just, when I think of all the recommendations that have come out, they've all revolved around that Overland report number of like $2.25 billion. Is that just a mile marker that everyone's using, or legally, they all have to come back to that number?
This is Thomas Bottorff. There's no requirement that the judges adopt the $2.25 number. That simply seems to be a framework that each of the parties have built their recommendations around. It still remains to be seen whether the judge adopts that, and if so, what dollars that we've spent are credited against that $2.25 number. We'll just have to wait and see what ultimately comes out in the judge's decision. With respect to the question about the proposals that are in the record, all of the proposals that have been filed remain in the record. The only one that's really been revised significantly is the staff's recommendation, and that takes the place of what they originally filed.
Great. Thank you.
Thank you. Our next question comes from the line of Kevin Fallon with SIR Capital Management. You may proceed.
Good morning.
Good morning.
I just wanted to follow up on Anthony's question a little bit. What kind of latitude do the ALJs have in terms of crafting a proposal here? In particular, are they able to do things like give you relief from keeping your equity ratio at the utility, so you wouldn't have to issue as much equity up front? Are they allowed to do things like that?
I don't know to what extent they would have enough information to make a recommendation on that. They certainly have a lot of discretion on how they decide what penalty amount is appropriate, what the basis for the penalty is. It could be quite different from the proposals that you've seen presented up to this point. I don't know to what extent they would specifically address the equity issue.
They have that kind of latitude, that there's really very little to limit them, not just on the equity ratio in terms of levels and fines and what are included?
Well, this is Kent Harvey. I would just add, the equity ratio was recently resolved in the cost of capital decision, that's the proceeding through which the commission determines what's an appropriate capital structure. I think it's less likely that it would be reconsidered in a penalty proceeding.
Okay. Thank you.
Thank you. Our next question comes from the line of Greg Gordon with ISI Group. You may proceed.
Hey, good morning. It's actually Jonathan Cohen. In reading the ALJ filing, it seems to me that what the ALJ is trying to draw out is a distinction between pre-tax and post-tax dollars, and obviously, any equity raised would cover after-tax expenses, which I guess you could gross up to get a pre-tax number. If we're looking at something where the ALJ allows you to deduct all of the shareholder-borne expenses but uses a post-tax number for that $2.25 billion, how do you think that would compare to what the current CPSD revised recommendation is? When we look at it looks like you almost get to the same place under those methodologies.
Yeah, we'd have to look at the numbers, and I think one thing we've seen from all the parties is people have been very creative in terms of how they've actually applied numbers in this proceeding. We'd want to go through that and address that appropriately through the proceeding.
Okay. Thank you.
Thank you. There are currently no additional questions.
Hope you have a good day. Thanks a lot.
Thank you, ladies and gentlemen, for attending the PG&E Corporation's second quarter earnings 2013 conference call. This will now conclude the conference. Please enjoy the rest of your day.