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Earnings Conference Call - April 23, 2002

Larry L. Weyers
Chairman, President, and Chief Executive Officer
 
and
 
Joseph P. O'Leary
Senior Vice President and Chief Financial Officer

Good afternoon. Welcome to the first quarter earnings conference call for WPS Resources Corporation. I'm Larry Weyers, Chairman, President, and Chief Executive Officer for WPS Resources Corporation. With me today is Joe O'Leary, our Senior Vice President and Chief Financial Officer.

We are here today to discuss our earnings for the first quarter of 2002 and to discuss what the future has in store for us.

WPS Resources' common stock is traded on the New York Stock Exchange under the ticker symbol WPS. Earlier today we issued a press release containing our earnings information. If you haven't seen the release, you might want to get it. It is also available on our Internet site. Once you are at the site, select Financial Information, select Financial News, select Earnings, and finally select the release from today, April 23.

Before we begin, I need to point out that this presentation contains forward-looking statements within the definition of the Securities and Exchange Commission's safe harbor rules including the realization of projected results for 2002 for WPS Resources and its subsidiaries. Forward-looking statements are beyond the ability of WPS Resources to control and, in many cases, WPS Resources cannot predict what factors would cause actual results to differ materially from those indicated by forward-looking statements. I refer you to the forward-looking statement section of today's press release and to our filed Securities and Exchange Commission disclosure documents for further information.

Now, back to the business at hand.

WPS Resources' consolidated net income increased by 4.5 million dollars during the first quarter 2002 when compared with 2001. Although net income increased, basic earnings per share were 89 cents for the first quarter in both 2002 and 2001 since there were almost 5 million additional average shares outstanding in 2002 when compared with 2001.

Consolidated net income increased by 19 percent during the first quarter of 2002 when compared with the same period in 2001. Our nonregulated energy services subsidiary increased its net income by 4.4 million dollars, or 22 times, while our regulated utility segment increased its net income by 2.3 million dollars, or nearly 10 percent, due primarily to the acquisition of Wisconsin Fuel and Light in April of 2001. However, our nonregulated power development segment did not fare as well and experienced a net loss of 400,000 dollars. Accelerated maintenance at its Sunbury Plant and fewer tax credits returned through its synthetic fuel facility as a result of its ownership sell down last November were the primary drivers of the loss.

Margins increased for all business segments this quarter, but operating, depreciation, and decommissioning expenses increased as well. The increased margins generated earnings of 36.6 million dollars, while earnings were negatively impacted by 27.4 million dollars of increased expenses and 2.1 million dollars less in income tax credits.

Winter weather that was 9 percent warmer than last year and 7 percent warmer than normal was a big part of our utility earnings picture for the first quarter of 2002. In fact, earnings per share were five cents per share lower in the electric utility and six cents per share lower in the gas utility as a result of the unseasonable weather in 2002 when compared with 2001.

Now Joe O'Leary will discuss the details behind these financial results.

The Senior Vice President and Chief Financial Officer speaks.

Thanks, Larry.

Utility revenues decreased by 47 million dollars or 14 percent in 2002. Our electric utility generated 8 million dollars of additional revenue over 2001, but our gas utility's revenue decreased by 55 million dollars. The decrease in gas utility revenue was largely due to higher natural gas prices in 2001. In fact, the utility's cost per therm of natural gas was down 52 percent from the first quarter in 2001.

The revenue story was similar for WPS Energy Services, which experienced a 266 million dollar, or 42 percent, reduction in revenues during the first quarter of 2002 when compared with 2001 primarily as a result of high natural gas prices during the first quarter of 2001.

Revenues at WPS Power Development decreased by 15 million dollars, or 36 percent, in the first quarter of 2002 when compared with the same period in 2001 primarily as a result of the partial sale of its ownership interest in its Kentucky synthetic fuel facility and decreased revenues from steam sales. Steam pricing is based on natural gas prices, which dropped 67 percent between the first quarter of 2001 and the first quarter of 2002.

We improved our margins during the first quarter of 2002 when compared with 2001. Our utility margin increased by almost 25 million dollars—16 million for electric and almost 9 million for gas. WPS Energy Services increased its electric margin by nearly 2 million dollars and its gas margin by 6 million dollars. Meanwhile, WPS Power Development also improved its margin by almost 4 million dollars, but part of that was due to the sell down of a portion of our interest in our synthetic fuel facility.

Utility margins received a boost from an interim rate order in Wisconsin that authorized a 10.3 percent increase in retail electric rates and a 4.7 percent increase in retail natural gas rates. Although utility rates have increased for our Wisconsin customers, Wisconsin Public Service remains one of the lowest-cost utility energy providers in Wisconsin and the Midwest.

Our electric utility margin increased by 16 million dollars, or 15 percent, this quarter, benefiting from the rate increase, a 2.5 percent overall increase in sales volumes, lower power generation costs, and decreased purchased power expenses. Sales to lower margin, wholesale customers increased, while sales to higher margin customers decreased due to weather. Purchased power and fuel expense decreased by more than 8 million dollars this quarter when compared with last year.

Our gas utility margin increased by more than 8 million dollars due to the rate increase and an 18 percent increase in overall natural gas throughput volumes as a result of our acquisition of Wisconsin Fuel and Light last April. Gas margins decreased because our winter was 9 percent warmer than last year and 7 percent warmer than normal.

WPS Energy Services increased its electric margin by almost 2 million dollars as a result of additional sales in newly-entered markets. Energy Services also increased its gas margin by more than 6 million dollars by increasing retail sales and better managing its gas procurement and volume risk processes.

WPS Power Development increased its margin by almost 4 million dollars primarily by taking advantage of lower prices for spot market power purchases to meet its contract obligations. The sale of Power Development's interest in its synthetic fuel operations required an accounting change to the equity method rather than consolidation of results from its synthetic fuel facility, which increased its margin for 2002 when compared with 2001.

Consolidated operating expenses increased by more than 20 million dollars this quarter when compared with 2001. Our increased ownership in the Kewaunee Nuclear Power Plant was responsible for more than 5 million dollars of the increased operating expenses. Unplanned maintenance at Pulliam Unit 7 was largely covered by insurance, while planned maintenance at Pulliam Unit 5 and Weston Unit 1 amounted to almost 3 million dollars and will be recovered through current rates. Transmission expenses related to American Transmission Company increased by 1.5 million dollars and additional demand-side management expenses added another million dollars to our operating expenses.

Energy Services incurred 1.8 million dollars of additional operating expenses as a result of business expansion and higher write-offs on its uncollectible accounts.

Power Development's operating expenses increased by 1.3 million dollars as a result of accelerated maintenance at its Sunbury facility and higher payroll and benefit expenses than recorded in the first quarter of 2001.

Depreciation and decommissioning expenses increased by almost 7 million dollars primarily as a result of increased depreciation for the additional ownership in the Kewaunee plant, the new steam generators at the plant, and increased depreciation relating to higher earnings on the nuclear decommissioning trust due to regulatory requirements.

Miscellaneous other income increased by 1.8 million dollars largely as a result of higher earnings on the nuclear decommissioning trust.

The final factor was a 2 million dollar decrease in tax credits as a result of Power Development selling a portion of its interest in its Kentucky synthetic fuel facility.

Although our net income increased by more than 4.5 million dollars this quarter, our earnings per share for the first quarter of 2002 were impacted as a result of issuing about 1.8 million shares of common stock last April to cover the merger of Wisconsin Fuel and Light into our company, issuing more than 500 thousand shares of common stock during 2001 under our Stock Investment Plan, and issuing 2.3 million shares of common stock in December. The dilutive effect of the additional shares resulted in earnings per share matching the 89 cents per share earned in 2001.

The Chairman, President, and Chief Executive Officer speaks.

Thanks, Joe. That gives you some background on our earnings story for the first quarter. Now I'll discuss how our operating segments fared during the first quarter and what you can expect in the future. I'll begin with our regulated utilities.

Wisconsin Public Service continues to operate under an interim rate order that was granted in December for the year 2002. Wisconsin Public Service had filed for additional rate relief in April of 2001 but, due to a delay by the Public Service Commission of Wisconsin in issuing the final order, also filed an interim rate request in September of 2001. The interim order, which is subject to refund, granted a 10.3 percent, or 55.5 million dollar, annualized increase in electric rates and a 4.7 percent, or 11.2 million dollar, annualized increase in natural gas rates effective January 1, 2002. The interim order also granted 12.1 percent return on 55 percent equity. We expect to receive a final order during the second quarter.

On March 28 of this year, Wisconsin Public Service filed a request to modify electric and natural gas rates for its Wisconsin customers in 2003 and 2004. This rate filing is necessary under Wisconsin law, which requires a biennial filing for rates. Our request included an 8.3 percent increase in electric rates and a 2.7 percent increase in natural gas rates for 2003. The request also included a 4.9 percent increase in electric rates and a 1.4 percent increase in natural gas rates for 2004. We hope to receive a Wisconsin rate order on our 2003 and 2004 rate request in December to be effective January 1, 2003.

The measures Public Service is taking to ensure reliable energy are a primary reason for the requested rate relief.

Wisconsin Public Service strives to remain one of the lowest-priced energy companies in the Midwest. Even with these proposed increases, Public Service's rates will compare favorably with those of other utilities in the Midwest.

Upper Peninsula Power, our electric utility in Michigan, has not had a rate increase since 1994 and needs to increase its rates to cover the increased costs of its operations and enable it to earn a reasonable return on equity. We expect to file for a rate increase in the second quarter and hope to receive an order to be effective January 1, 2003.

Last week, Public Service announced that it had signed a letter of intent to purchase Calpine's 180-megawatt De Pere Energy Center located in De Pere, Wisconsin. Public Service will pay Calpine 120 million dollars for the De Pere transaction, which includes termination of the existing power purchase agreement. Public Service also entered into a power purchase agreement for up to 235 megawatts of capacity and energy for 10 years, beginning in 2005, from Calpine's Sherry Energy Center, which will be located near Marshfield, Wisconsin. The cost of the capacity purchase will be approximately 250 million dollars, and Public Service will be responsible for supplying the fuel for the energy it receives from the Sherry Energy Center.

This is a good deal for Public Service and its customers because it will give us a better mix of resources and will mean lower rates for our customers. By terminating the existing power purchase agreement, Public Service will be able to take advantage of changes in technology to provide lower-cost options for meeting the increasing demands of its customers.

Wisconsin Public Service also announced a new program that will allow customers to draw their electricity from sources powered by wind and biomass. NatureWise™ allows customers to sign up for renewable energy in varying amounts and know that the portion of electricity they select is coming from clean, renewable sources right here in northeastern Wisconsin. It's a simple, convenient way to make a difference for the environment now and for future generations. NatureWise was recently awarded Green Pricing Accreditation by the Center for Resource Solutions, an independent organization that accredits green energy programs using national and regional standards for environmental and consumer protection. Accreditation ensures that each 100 kilowatt-hour of NatureWise power consists of 50 kilowatt-hours of wind energy, 40 kilowatt-hours of landfill gas generation, and 10 kilowatt-hours of generation from recycled dairy farm waste all from within Public Service's territory.

Now let me bring you up to date on the operations of our two nonregulated subsidiaries. I'll begin with WPS Power Development.

We own 503 megawatts of generation capacity in Pennsylvania, which consists of 473 megawatts from our Sunbury and 30 megawatts from our Westwood facilities. These plants supply the Pennsylvania, New Jersey, and Maryland energy marketplace. Most of the output from these facilities is under off-take contracts that we've hedged for the next two years. Going forward, we plan to operate Sunbury as a merchant plant.

We also own 69 megawatts of generation in Maine and New Brunswick, Canada. Unfortunately, these hydro facilities have suffered the last two years from lack of rain and snow—unusual occurrences in that part of the country.

WPS Power Development continues to work on its plan to construct a 250?megawatt, coal-fueled electric generating power facility in western Wisconsin. The facility will be constructed as a redevelopment project of the existing 53-megawatt Stoneman Power Plant that was purchased in 1996. The plan calls for construction of an additional 200 megawatts of electrical capacity integrated with the existing 53-megawatt Stoneman Plant. We expect to complete this redevelopment project around 2005. WPS Power Development owns two-thirds of the Stoneman Power Plant.

WPS Power Development completed construction of a 50-megawatt simple cycle combustion turbine facility in Combined Locks, Wisconsin, in November and will complete construction of the cogeneration phase in the second quarter.

Our synthetic fuel operation in Kentucky has been operating flawlessly. We continue to maintain a one-third share in the facility, which more closely matches our appetite for tax credits.

In December, WPS Power Development announced an agreement to purchase CH Resources, Inc. whose primary assets are three upstate New York power plants. The three plants have a combined capacity of 257 megawatts. The 62 million dollar transaction includes certain transmission contracts and emission allowances. We plan to close on the transaction this quarter. The relatively new generating facilities are expected to sell power into the New York bulk power market through bilateral agreements or into the wholesale and retail open markets using WPS Energy Services as the marketer for the power. The addition of these plants will bring the electric generating capacity of WPS Power Development to 930 megawatts.

WPS Power Development sold a portion of its ownership interest in its synthetic fuel facility in the fourth quarter of 2001 and deferred a 38 million dollar gain on the sale. In April, the Internal Revenue Service issued a favorable Private Letter Ruling relating to the facility. As a result of receiving the Private Letter Ruling, Power Development will recognize a one?time pretax gain of 16.7 million dollars associated with this sale in the second quarter of 2002. The remainder of the gain, about 20 million dollars, will be recognized during 2002 and 2003 as the remaining contingencies expire.

Additional acquisition and development projects continue to be evaluated.

WPS Power Development is an important part of our earnings growth projections. In addition to expecting profitable operations from its existing diversified asset portfolio, we're expecting to make new investments of about 150 to 200 million dollars per year on an average annualized basis with a return that is commensurate with the assessed risks.

Now, let's take a closer look at WPS Energy Service's operations.

WPS Energy Services has enjoyed tremendous growth in profitability over the last 6 years, and we expect it to continue expanding in the northeastern quadrant of the United States.

WPS Energy Services' participates in the electric and gas markets where our sales commitments have back-to-back transactions that allow us to effectively manage risk. Where possible, the transactions are backed by WPS Power Development's generation assets or by assets that we control through contract.

Energy Services is growing its electric sales volume, yielding greater margins than its natural gas segment historically has. We're expecting to see continually improving margins from Energy Services.

WPS Energy Services has a 3-year contract to serve northern Maine's electric market, a 5-year electric contract to serve the municipal aggregation program for the City of Cleveland, Ohio, a 4-year contract to serve six communities surrounding Toledo, Ohio, who participate in an aggregated buying group, and recently added an aggregated buying group around Euclid, Ohio.

WPS Energy Services owns a 3 billion cubic foot gas storage field in Michigan, which became operational in February. The facility interconnects with the ANR Pipeline, which directly connects to the Michigan Consolidated Gas Company and the natural gas trading hub of Dawn in Ontario, Canada. The facility has access to both the Great Lakes Gas Transmission and Vector Pipeline gas transmission systems. The storage field allows for increased reliability and greater flexibility in meeting customers' peak day energy requirements.

Finally, I'll turn to WPS Resources.

In December, we announced the initiation of our asset management strategy. Our strategy calls for the disposition of assets that are no longer required for operations in a manner that allows recognition of profits over the next 5 to 7 years. Land, buildings, and other facilities at our subsidiaries are a part of this strategy. We have identified almost 20,000 acres that are not needed for our operations. In December, we announced the sale of 5,740 acres in Wisconsin to the Wisconsin Department of Natural Resources and options, exercisable in 2003 and 2004, to allow them to purchase an additional 5,000 acres, which generated earnings of approximately 28 cents per share. In March, we announced that we are considering optional uses for more than 15,000 acres of land in Upper Michigan. We are expecting an averaged annualized impact of 15 to 25 cents per share through 2007 from our asset management strategy.

We have a derivative strategy that protectively hedges our physical commodity positions. We also use derivatives to fix cost levels or for earnings protection. We do not take speculative positions but instead do back-to-back transactions, which are verified the same day and reviewed at the corporate level on a daily basis.

We are continuing to work hard to maintain our quality credit ratings that give us access to the capital markets at reasonable rates.

Investors and analysts alike continue to ask us about the recent rise in our stock price. We closed the year at $36.55 and reached a 52-week high of $41.69 on April 11. The 14 percent increase can be attributed to a number of things. First, we have an understandable business plan. Second, we have a solid utility base and focused nonregulated energy related businesses. Third, we have increased our dividend for 43 consecutive years and do not foresee a change in our policy. Fourth, we are a conservative company that believes in mitigating or minimizing its risks. Fifth, we believe in maintaining the quality of our credit ratings. Sixth, we've been a good neighbor to the communities we serve since 1883 and continually win awards for customer satisfaction. Finally, we believe in delivering value to customers and shareholders alike. We must take care of both.

I believe our stock price is reflective of our value. We are outpacing others in our industry because of our strategy and our ethics. We plan to continue delivering value for many years to come.

Now for our earnings forecast, I am reaffirming our earnings guidance of $2.75 to $3.00 from ongoing operations for 2002. Our target continues to be 8 to 10 percent annualized growth in earnings per share.

Assuming anticipated rate increases at our utilities, a return to normal weather, availability of our generating units, and recovery of the economy, ongoing operations are expected to result in basic earnings per share of $2.75 to $3.00 with the likelihood of a one-time gain from the sale of a portion of our synthetic fuel facility adding approximately 59 cents per share by year end. That will provide total earnings per share of between $3.34 and $3.59. Improved profitability is anticipated from our nonregulated subsidiaries, and we expect WPS Energy Service and WPS Power Development to contribute 15 to 20 percent of our income from ongoing operations.

As you can see, we are expecting another good year in 2002. We plan to continue delivering shareholder value through our strong utility foundation, focused nonregulated energy and energy-related businesses, achieving our projected annualized earnings per share growth of 8 to 10 percent, and maintaining our outstanding dividend record.

Now, I'd like to take time to answer some of your questions about our financial picture and plans for the future.

Thank you for being a part of our first quarter earnings conference call. A replay of this conference call will be available through May 7 by dialing 800-873-4963.

The text for today's presentation is available on our Web site. Just select Financial Information and then Presentations.

If you have additional questions, you may contact Joe O'Leary at 920-433-1463.