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Earnings Conference Call - Second Quarter 2005

by Larry L. Weyers
Chairman, President, and Chief Executive Officer

Joseph P. O'Leary
Senior Vice President and Chief Financial Officer

and

Mark A. Radtke
President - WPS Energy Services and WPS Power Development

Good afternoon. Welcome to the quarterly earnings conference call for WPS Resources Corporation. I'm Larry Weyers, Chairman, President, and Chief Executive Officer of WPS Resources Corporation. With me today is Joe O'Leary, our Senior Vice President and Chief Financial Officer; Phil Mikulsky, our Executive Vice President - Development; and Mark Radtke who is President of our nonregulated subsidiaries, WPS Energy Services and WPS Power Development.

We are here today to discuss our earnings for the second quarter of 2005 and what you can expect from us in the future.

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 available on our Web site. Once you are at the site, select Investor Information, select Financial News, select Earnings, and finally select the release from today, August 4, 2005.

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 projected results for 2005 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…

Let's begin with a few highlights.

Joe O'Leary will now discuss some details relating to our financial results.

The Senior Vice President and Chief Financial Officer speaks.

Thanks, Larry.

WPS Resources' income available for common stock shareholders was 23.9 million dollars for the second quarter of 2005, compared with 4.6 million dollars for the second quarter of 2004.

Our electric utility margin increased 19.9 million dollars, or 14.1 percent, for the second quarter of 2005, compared with the second quarter of 2004. This increase can be attributed to an increase in electric sales volumes and a retail electric rate increase of 60.7 million dollars for the calendar year 2005. The rate was effective January 1, 2005.

Our natural gas utility margin increased 300,000 dollars, or 1.3 percent, for the second quarter of 2005, compared with the second quarter of 2004. This increase was mostly due to a rate increase.

The electric margin at WPS Energy Services increased 700,000 dollars, or 7.7 percent, for the second quarter of 2005, compared with the second quarter of 2004. The margin on wholesale electric operations increased 4.6 million dollars, driven mostly by portfolio optimization strategies. The retail electric margin decreased 3.9 million dollars for the second quarter of 2005, compared with the second quarter of 2004, mostly because of a decrease in margin from retail electric operations in Michigan.

WPS Energy Services' natural gas margin increased 5.7 million dollars, or 73.1 percent, for the second quarter of 2005, compared with the second quarter of 2004. The wholesale natural gas margin increased 4.8 million dollars due to a 3.3 million dollar favorable settlement with a counterparty, a 2.6 million dollar increase in margin from other structured wholesale natural gas transactions, and a 1.2 million dollar increase in margin related to the expansion of the Canadian natural gas business. The natural gas storage cycle had a 2.9 million dollar negative impact on margin for the quarter ended June 30, 2005, compared with a 700 thousand dollar negative impact on margin for the same period in 2004, which resulted in a 2.2 million dollar negative variance quarter over quarter. The retail natural gas margin increased 900,000 dollars, primarily due to improved management of supply for Ohio residential and commercial customers and higher sales volumes related to the addition of new customers in Ohio.

WPS Energy Services experiences earnings volatility associated with the natural gas storage cycle, which runs annually from April of one year through March of the next year. Generally, injections of natural gas into storage inventory take place in the summer months and natural gas is withdrawn from storage in the winter months.

On June 30, 2005, there was a 5.7 million dollar difference between the market value of natural gas in storage and the market value of future sales contracts, creating a net unrealized loss, related to the 2005/2006 natural gas storage cycle. The difference between the market value of natural gas in storage and the market value of future sales contracts related to the 2005/2006 storage cycle is expected to vary with market conditions, but will reverse entirely when all of the natural gas is withdrawn from storage.

WPS Power Development's margin for the second quarter of 2005 increased 9.3 million dollars, or 202 percent, compared with the second quarter of 2004. The Sunbury plant's margin improved 5.8 million dollars, primarily due to more opportunities to sell power into the market. Operations at the Niagara generation facility in New York and the Westwood generation facility in Pennsylvania resulted in a combined margin improvement of 1.5 million dollars. Higher contracted selling prices benefited both of these facilities. Mark-to-market gains on derivative instruments utilized to protect a portion of WPS Power Development's Section 29 tax credits, net of related premium amortization, resulted in a 1.1 million dollar increase in margin for the second quarter of 2005, compared with the same quarter in 2004.

WPS Resources' operating and maintenance expenses increased 3.4 million dollars for the second quarter of 2005, compared with the second quarter of 2004. Wisconsin Public Services' operating and maintenance expenses increased by 1.3 million dollars primarily due to higher electric transmission costs and higher pension and postretirement expenses. The unplanned outage at the Kewaunee nuclear plant did not significantly impact the quarter-over-quarter change in expenses because the Pubic Service Commission of Wisconsin approved the deferral of incremental operating and maintenance expenses that were incurred as a direct result of the unplanned outage.

Operating expenses at WPS Energy Services increased 1.2 million dollars mostly due to higher payroll, benefits, and other costs related to business expansion. WPS Power Developments' operating and maintenance expenses increased 1.3 million dollars mostly due to a write down of Sunbury's spare parts inventory and costs related to repairing the damaged compressor blades at its Syracuse plant.

WPS Power Developments' operating results were negatively impacted by an 80.6 million dollar pre-tax impairment loss that was required to write Sunbury's assets down to fair market value and a 9.1 million dollar increase in interest expense related to an interest rate swap. However, these losses were substantially offset by an 85.9 million dollar pre-tax gain recognized on the sale of Sunbury's allocated emission allowances.

WPS Resources' miscellaneous income increased 39.4 million dollars for the second quarter of 2005, compared with the second quarter of 2004. This increase was mostly related to a 38 million dollar increase related to realized earnings on decommissioning trust assets, driven by a change in the investment strategy for the nonqualified decommissioning trust assets in anticipation of the Kewaunee sale. Pursuant to regulatory practice, this gain was offset by a 38 million dollar increase in decommissioning expense. An increase of 2.2 million dollars in equity earnings from our investments in the American Transmission Company also contributed to the increase in miscellaneous income. Pre-tax equity earnings from ATC were 5.9 million dollars for the quarter ended June 30, 2005, compared to 3.7 million dollars for the quarter ended June 30, 2004.

WPS Resources Corporation's income available for common stock shareholders was 89.8 million dollars for the six-month period ended June 30, 2005, compared with 47.2 million dollars for the first six months of 2004. This resulted in basic earnings per share of $2.37 for the six months ended June 30, 2005, compared with $1.27 for the first six months of 2004.

Please refer to our 10-Q filed today for a detailed discussion of how we performed during the first six months of 2005 as compared to the same period in 2004.

It is important to note that due to the reclassification of Sunbury from discontinued operations to continuing operations, our earnings per share guidance includes Sunbury's forecasted financial results. These results were not included in the guidance provided earlier this year.

Within the next few weeks we will issue an 8-K report to the Securities and Exchange Commission to revise our December 31, 2004, 10-K and our March 31, 2005, 10-Q reports. This is being done to reclassify the results for Sunbury from discontinued operations to continuing operations. The report revisions will not change previously reported net income.

Even though the sale of the Kewaunee nuclear power plant in July brings cash to the company, WPS Resources still expects to issue equity in the range of 100 million dollars to 130 million dollars before the end of this year. This assumes Dairyland Power Cooperative acquires a 30 percent undivided interest in Weston 4 by paying Wisconsin Public Service 30 percent of Weston 4's costs in accordance with an agreement both companies entered into in 2004.

WPS Resources has the ability to issue 450 million dollars of debt and equity under its currently effective shelf registration statement. Wisconsin Public Service has the ability to issue up to 375 million dollars of debt under its currently effective shelf registration statements.

Now I'll turn the conference call over to Larry Weyers.

The Chairman, President, and Chief Executive Officer speaks.

Thanks, Joe. I'll begin by discussing the operations that support our financial results.

On April 1, 2005, WPS Resources' affiliates began operating in the Midwest Independent Transmission System Operator or MISO financial energy marketplace. MISO is intended to create a competitive market for wholesale electricity.

The operating and dispatch systems are functioning well. The fact that we served a new peak load despite plant outages of more than 400 megawatts is a testament to how well the reliability piece of the market works. However, there are still market issues that must be resolved.

On July 5, 2005, we transferred ownership of the Kewaunee nuclear power plant to Dominion Energy Kewaunee, a subsidiary of Dominion Resources. As a 59 percent owner of the plant, Wisconsin Public Service received about 113 million dollars. The sale was closed after the conclusion of an outage at the Kewaunee plant that began in February of 2005 to address engineering issues associated with one of the safety systems at the plant. The Nuclear Management Company identified those engineering issues as a result of reviews performed in association with a Nuclear Regulatory Commission pilot inspection. Upon the Nuclear Management Company determining that, under certain very unlikely circumstances, the operability of the safety systems was in question, the Nuclear Management Company removed the plant from service to address the issues. Those concerns were addressed, along with several other concerns found during "extent-of-condition" reviews, allowing for the restart of the plant on July 2, 2005.

During the outage, it was necessary for the Nuclear Management Company to commit to the Nuclear Regulatory Commission to perform additional reviews following the restart of the plant. In recognition of the fact that the costs and risks associated with these additional reviews will be Dominion Energy Kewaunee's responsibility, purchase price adjustments were made in accordance with the asset sale agreement. These adjustments resulted in a book loss on the sale; however, we have received approval from the PSCW to defer the loss resulting from this transaction. We are also seeking approval for deferral from the Federal Energy Regulatory Commission. In addition to the cash proceeds received from the sale of Kewaunee, we also retained ownership of the assets contained in our non-qualified decommissioning trust. Our customers will benefit from the refund of the nonqualified decommissioning trust assets of 127.2 million dollars, however, we are proposing that this refund be adjusted for the loss on the sale of Kewaunee and costs related to the 2004 and 2005 Kewaunee outages. The sale continues to provide substantial benefits to our customers.

Now that the plant is sold to Dominion Energy Kewaunee, we will purchase the same amount of output from the plant that we were receiving when we owned a portion of that plant. Our customers will get this power at rates established under the power purchase agreement that result in costs that approximate the costs incurred when we owned a portion of the plant. Our customers will also be shielded from financial risks-like the costs associated with the outage that was just completed-by this power purchase agreement.

Construction of Weston 4 continues to go well. We began construction in October of 2004 and we are on track for completion of the construction work by summer of 2008, when the 500-megawatt plant is scheduled to be operational. We began construction shortly after receiving the Certificate of Public Convenience and Necessity from the Public Service Commission of Wisconsin and the air permit from the Wisconsin Department of Natural Resources. We believe the air permit is one of the most stringent permits for a facility of this nature in the United States. The air permit is the subject of a contested case hearing at the Wisconsin Department of Natural Resources. The rehearing is scheduled for the last week of September of 2005, and will address issues related to the emission limits specified in the permit and the pollution controls to be used to achieve these limits. We are continuing with construction of the facility, which remains on schedule.

On April 1, 2005, Wisconsin Public Service submitted an application to the Public Service Commission of Wisconsin requesting an 11.4 percent increase in retail electric rates and a 2.09 percent increase in retail natural gas distribution rates for 2006. The retail electric rate increase is primarily driven by increased costs related to purchased power, construction of Weston 4, and Midwest Independent System Operator costs. The natural gas rate increase is primarily related to the cost of distribution system improvements. The 2006 rate request reflects an 11.5 percent return on equity, and a common equity ratio of 58.09 percent in the utility's regulatory capital structure. Wisconsin Public Service expects to receive approval before year-end in order to implement new rates on January 1, 2006.

Wisconsin Public Service also received notification from our coal transportation suppliers that extensive maintenance is required on the railroad tracks that lead into and out of the Powder River Basin in Wyoming. The railroads indicated that this maintenance is required because of a combination of excessive coal dust and severe rains that occurred earlier this year. Because of the condition of the tracks, our coal transportation suppliers have alerted us that deliveries may be reduced by 15 to 20 percent until later this fall. As a result, Wisconsin Public Service is taking action to minimize the impact this may have on our customers. At this time, we do not expect this to have a significant effect on earnings. But it might result in higher costs that might be passed on to customers.

Construction of a 220-mile, 345-kilovolt Wausau, Wisconsin, to Duluth, Minnesota, transmission line began in the first quarter of 2004 in Minnesota and that portion was completed earlier this year. Construction in Wisconsin is scheduled to begin on August 8, 2005, now that all necessary permits have been received.

Wisconsin Public Service is managing construction of the project on behalf of the American Transmission Company and is responsible for obtaining private property rights in Wisconsin necessary for construction. Legislation was passed by the Wisconsin legislature and signed by the governor on July 21 that will allow utilities to condemn county land if necessary for approved transmission line projects.

WPS Resources committed to fund 50 percent of total project costs incurred for the line, up to 198 million dollars. We currently own about 26 percent of the American Transmission Company, and we will receive additional equity in ATC in exchange for our portion of the project funding. Assuming no other ATC capital funding except ATC capital calls funded by existing owners in proportion to their ownership share, our investment in ATC could increase to about 41 percent. We have the option to terminate funding if the project extends beyond January 1, 2010. The line is expected to be in service in 2008. WPS Resources has the right, but not the obligation, to provide additional funding in excess of 198 million dollars. For the period of July 2005 through July 2009, we expect to fund up to approximately 155 million dollars for our portion of the line. Our commitment to this project could decrease up to 50 percent if another entity exercises its option to fund a portion of the project.

WPS Resources also expects to provide additional capital contributions to ATC of approximately 51 million dollars for the period 2005 through 2007 for other projects.

In 2004, ATC reported that the capital cost of its construction plans over the next 10 years was estimated to be approximately 2.8 billion dollars, which includes the cost of the Duluth, Minnesota to Wausau, Wisconsin transmission line. This plan is publicly available on the ATC Web site. ATC is allowed a 12.2 percent return on a 50 percent equity structure. ATC rates include a true-up mechanism that enables the ATC to earn its authorized return. As an owner of ATC, we share in this return.

Now, let's take a closer look at our nonregulated operations. Here to tell us about this is Mark Radtke, President of WPS Energy Services and WPS Power Development.

The President of WPS Energy Services and WPS Power Development speaks.

Thanks, Larry.

I'll start with WPS Power Development, and Sunbury in particular. Following the termination of a 2003 sales agreement by a subsidiary of Duquesne Light Holdings, WPS Power Development initiated a process for the sale of the Sunbury generation station, located in Pennsylvania, with the help of an investment-banking firm. Those sales efforts did not result in a suitable offer for the Sunbury facility.

As an alternative, we conducted an organized solicitation for the purchase of Sunbury's currently allocated emission allowances for sulfur dioxide and nitrogen oxides. This resulted in the sale of allocated emission allowances in May for approximately 110 million dollars. By the end of May, we had completed the emission allowance sale process, and all proceeds were received. In conjunction with this process, the project debt previously associated with this facility was restructured and transferred to a WPS Resources obligation. The mark-to-market value relating to the interest rate swap associated with that debt was charged to interest expense.

Since we completed the allowance sale, additional 2008 vintage nitrogen oxide allowances have been allocated to the plant. Based on current market prices, we have approximately 1.8 million dollars of 2008 vintage allowances. We are holding those allowances in anticipation of their sale in the future, and we retain the right to any emission allowances allocated in the future.

I believe the success we had in capitalizing on the emission allowance market is an example of the benefits we expect from bringing WPS Power Development and WPS Energy Services together. The complementary perspectives and expertise of these groups allowed us to identify and capitalize on this unique opportunity.

Because we make dispatch decisions based on the market value of emission allowances, the allowance sale has not affected the dispatch and capacity factors of the Sunbury units. However, in the current competitive energy market, Sunbury is not economical as a year-round base load power plant. Following this summer's generation season, one alternative is to put the plant in a stand-by mode of operation, which would focus production on higher-priced periods, generally in the winter and mid-summer months.

Our labor contract with Local 1600 of the International Brotherhood of Electrical Workers at Sunbury expired on May 10, and we are negotiating contract changes that we believe are essential to shift Sunbury to a seasonal mode of operation. If we obtain the flexibility we need in these negotiations, we will run the units during sustained higher priced periods, typically leading to shutting the units down during the lower priced "shoulder" months. Depending on the competitiveness of the individual units, we anticipate running the units between 5 and 8 months out of the year. If the flexibility needed for stand-by operation is not obtained, the cash requirements to keep the unit in a mothball mode are expected to be no more than 1 million dollars per year.

Our Westwood plant, also in PJM, was taken offline for planned maintenance beginning May 6 of this year, and was returned to service on May 31. As an aside, on May 13, the Anthracite Region Independent Power Producers, of which Westwood is a member, sponsored an event at the plant that included politicians and officials from the Department of Environmental Protection, to recognize the environmental benefits achieved since 1988, when Westwood became the first plant of its type to begin operation. The celebration honored the 100 millionth ton of waste coal burned by Westwood and other circulating fluidized bed plants in the region.

In New York, Niagara was taken offline for planned maintenance starting April 30, 2005, and returned to service May 18. The plant did suffer a minor equipment forced outage between June 2 and June 9 of this year. While we have successfully lowered our fuel costs by, in part, burning up to 30 percent tire-derived fuel, we have also begun the permitting process to increase the tire-derived fuel blend to up to 50 percent of our total fuel requirement.

We have conducted significant maintenance on our solid fuel generation plants to ensure performance in advance of what is shaping up to be a high-priced summer generation season. And despite the maintenance outages, plant performance for the quarter was good for this shoulder period. Niagara improved to a 55 percent capacity factor compared to 45 percent in the second quarter of 2004, and Westwood nearly doubled its capacity factor from 36 percent in the same quarter last year to 71 percent in the second quarter this year. Sunbury declined from a 56 percent capacity factor in the quarter last year to 29 percent this second quarter largely because we took the larger Units 3 and 4 off for economic reasons.

I also have an update on our Syracuse natural gas-fired combined cycle plant. I mentioned last quarter that we were investigating a failure at the Syracuse plant that took the plant out of service on March 28, 2005. The cause of the outage was a compressor section blade failure, resulting in equipment damage from the liberated blade fragments. The repairs are expected to be complete in October of this year, and the majority of the expense is covered by insurance.

Also, we had a late June equipment failure at Syracuse's sister facility, the Beaver Falls natural gas-fired combined cycle plant. We sustained a failure of the first stage turbine blades. Upon investigation of the turbine, corrosion damage was also found. Current repair estimates range from 3 to 5 million dollars. We are also looking into whether any costs are covered by insurance, and investigation as to the extent of damage is still ongoing. If the repair estimates rise significantly beyond current estimates, repair may not be justifiable under current market conditions. If we do repair the plant, it may be the first quarter of 2006 before it will be back in service.

On the WPS Energy Services side of things, we are doing all we can to appeal or reduce our Seams Elimination Charge Adjustment, or SECA, obligations. Through a series of orders issued by the Federal Energy Regulatory Commission, regional through-and-out rates for transmission service between the MISO and the PJM Interconnection were eliminated effective December 1, 2004. To compensate transmission owners for the revenue they will no longer receive due to this elimination, the FERC ordered a transitional pricing mechanism called the Seams Elimination Charge Adjustment to be put into place. Load-serving entities will pay these SECA charges during a 16-month transition period from December 1, 2004, through March 31, 2006. WPS Energy Services is a load-serving entity and will be billed based on its power imports into MISO from PJM during 2002 and 2003. Exposure for the 16-month transitional period, from proposed compliance filings by the transmission owners, totals approximately 19.2 million dollars for WPS Energy Services, of which 17.4 million dollars is for Michigan and 1.8 million dollars is for Ohio. WPS Energy Services is managing its exposure to SECA obligations through customer charges and other available avenues, where feasible. It is probable that WPS Energy Services' total exposure will be reduced by up to 4.8 million dollars because of inconsistencies between FERC's SECA order and the transmission owners' compliance filings upon which current obligations are based. Resolution of issues raised in the SECA hearing offer the possibility of further reductions in WPS Energy Service's exposure, but the extent is unknown at present.

We received our state certification to begin offering retail electric service in the state of Illinois. The Illinois environment is progressing through the market transition period. Both PJM and MISO have developed a presence in the Illinois markets. We believe our natural gas business in Illinois will serve as a solid foundation to build our electric business in Illinois. We have also received regulatory approval to offer retail electric service in the province of Ontario, where we believe we can build on our substantial natural gas business.

While we see organic growth opportunities on the horizon, and our existing business continues to grow nicely, we are pleased with the success of previous strategic acquisitions and are continuing to search for suitable opportunities that support the growth of our retail natural gas and electric business.

We continue to evaluate opportunities to add new generation that meets our business needs and risk tolerance, and to look for innovative ways to maximize the value of existing assets.

While we do not want to grow our merchant generation fleet for the sake of growth, we continue to evaluate acquisition and divestiture opportunities to provide access to and control of generation resources that bring a unique benefit to our core energy marketing operations. Acquisition activity could include entering into longer-term off take agreements with facilities that meet our criteria, while not actually purchasing the facility.

WPS Energy Services is building a robust portfolio of products and services, with the infrastructure and expertise to execute our strategy.

Now, I'll turn the call back to Larry.

The Chairman, President, and Chief Executive Officer speaks.

Thanks, Mark.

Last week the House of Representatives and Senate approved a new energy bill that is waiting for the president's approval. We believe this bill could be good for our customers and the industry. We will have to wait and see how the governmental agencies interpret this new law when creating new rules and regulations required for enacting the energy bill to determine the actual impact on our customers and our company.

In 2005, we will continue to manage our portfolio of businesses to achieve utility and nonregulated growth, with an emphasis on regulated growth. This strategy allows us to participate in, learn from, and be prepared to take advantage of nonregulated opportunities with an acceptable risk profile when those opportunities are available.

Our 2005 basic earnings per share guidance for income from continuing operations is the same guidance provided last quarter. However, it does include a net loss per share of 10 cents from Sunbury operations, which was not included in our guidance last quarter since Sunbury was classified as discontinued operations at that time.

Our year-to-date basic earnings per share of $2.37 is an 87 percent increase compared with the same period last year. These year-to-date financial results have been accomplished in addition to several activities, which have lowered the risk profile of our company.

Our portfolio of businesses and asset management strategies will support delivery of our predicted shareholder return and help maintain our outstanding dividend record. We recently announced a dividend increase on our common stock. We increased our quarterly dividend for the 47th consecutive year. The 56-1/2 cent dividend is payable on September 20 to shareholders of record on August 31. This is the 65th consecutive year we have paid dividends. We plan to continue delivering value to our investors for many years to come.

Please remember our four key points for today:

Now, Joe, Phil, Mark, and I are available to answer your questions about our financial picture and plans for the future.

Thank you for being a part of our second quarter earnings conference call. A replay of this conference call will be available through August 18, 2005, by dialing 800-294-3091.

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

If you have additional questions, you may contact Joe O'Leary at 920-433-1463 or Donna Sheedy at 920-433-1857.