Canadian Utilities Limited (CU) Earnings Call Transcript & Summary

Thank you for standing by. This is the conference operator. Welcome to the Fourth Quarter and Year-End 2021 Results Conference Call and Webcast for Canadian Utilities Limited. [Operator Instructions] And the conference is being recorded. [Operator Instructions] I would now like to turn the conference over to Mr. Colin Jackson, Senior Vice President, Finance, Treasury, Risk and Sustainability. Please go ahead, Mr. Jackson.

Thank you, Claudia. Good morning, everyone. We're pleased you could join us for the Canadian Utilities Fourth Quarter 2021 Conference Call. With me today is Executive Vice President and Chief Financial Officer, Brian Shkrobot. Brian will begin today with some opening comments on recent company developments and our financial results. Following these prepared remarks, we will take questions from the investment community. Please note that a replay of the conference call and a transcript will be available on our website at canadianutilities.com and can be found in the Investors section under the heading Events and Presentations. I'd like to remind you all that our remarks today will include forward-looking statements that are subject to important risks and uncertainties. For more information on these risks and uncertainties, please see the reports filed by Canadian Utilities with the Canadian securities regulators. And finally, I'd also like to point out that during this presentation, we may refer to certain non-GAAP or segment measures such as adjusted earnings, adjusted earnings per share and capital investment. These measures do not have any standardized meaning under IFRS, and as a result, they may not be comparable to similar measures presented in other entities. And now I'll turn the call over to Brian for his opening remarks.

Thanks, Colin, and good morning, everyone. Thank you all very much for joining us today for our fourth quarter 2021 conference call. Before I jump into a summary of our financial results for 2021, I want to talk more generally about our performance in a year and also highlight a few notable achievements we've had. As most here are aware, our core investments are largely focused on regulated utilities and long-term contracted businesses with strong counterparties. As we look back at the events of the last few years and the numerous challenges faced by businesses globally in the face of the COVID-19 pandemic, the value of these core investments have really shown through. Despite continued market turbulence, 2021 saw our businesses deliver the following: Year-over-year earnings and rate base growth, advance key ESG initiatives, which accumulated in our release of formal targets in January of this year; commenced operations in Puerto Rico through our LUMA Energy business and execute on a number of energy transition investments. 2021 also saw our business successfully go to the market twice for capital to support these ongoing growth initiatives. In both cases, our offerings were oversubscribed and closed at attractive rates. Highlighting the trust investors have in our business and the stability we can deliver even in times of heightened market turbulence. We are truly proud of these results and of our people who work tirelessly to continue delivering service excellence across the business and refusing to low the numerous challenges created by ongoing pandemic to distract them from this objective. Taking this discussion back to our financial performance, 2021 was another great year for Canadian Utilities Limited. We achieved adjusted earnings growth of $586 million or $2.17 per share for 2021. This is $51 million and $0.21 per share higher than 2020. While our businesses overall performed very well in 2021. This growth in year-over-year earnings was primarily driven by the performance of our LUMA Energy business and continued strong performance from ATCO Gas Australia throughout the full 2021 year. As we talked about in our third quarter conference call, LUMA Energy assumed full operation of Puerto Rico's electricity transmission and distribution system under the supplemental operating agreement on June 1, 2021. Since taking over operations, the team has made a number of significant strides, including marked improvements to customer satisfaction, employee and customer safety and the launching of numerous capital and operating initiatives. At the core of these initiatives is the aim of improving grid stability and modernizing the electricity transmission and distribution systems in Puerto Rico. This work saw LUMA Energy contribute nearly $32 million of year-over-year earnings growth in our 2021 results, and we expect LUMA to continue being a significant driver of earnings and cash flow for us in the future. As a reminder, we will continue to operate under the 18-month supplemental agreement until such time that PREPA has concluded its bankruptcy proceedings, at which point we will move directly into the previously executed 15-year operating agreement. While the specific timing of the completion of these proceedings is difficult to predict, -- the approval in January of a restructuring plan for Puerto Rico's territorial debt provides promising evidence that the process is moving forward. We continue to expect PREPA's bankruptcy proceedings to be completed in 2022 and before the completion of this existing 18-month supplemental agreement. As I know many of you have heard us talk about before, the process of transforming Puerto Rico's existing electricity transmission and distribution system into a reliable and modern system is no small undertaking. There has certainly been some bumps along the road and resistance to change, but we remain committed to delivering on our promises for the good of all Puerto Rico citizens. The last point I want to highlight on LUMA is the great work that the team has been doing through our own public reporting and in functions. For anyone on the call that might be not aware, LUMA filed its second quarterly report on February 14, 2022, with both the Puerto Rico Public-Private Partnership Authority P3A, and the Puerto Rico Energy Bureau. This report is publicly available through the P3A website and along with many other recent announcements made by LUMA through its own website and provides further insight into the business's ongoing initiatives. Moving on to Australia. Our natural gas utility continued to benefit from the inflation trends that we saw through the first 3 quarters of 2021. This upward pressure on CPI, along with solid system demand helped us deliver 2021 earnings that were $34 million higher than 2020. While the ultimate duration of the CPI tailwinds is difficult to predict, current economic forecasts suggest that many of the drivers impacting stronger near-term CPI in Australia will persist into 2022. For those on the call that may not be familiar with how CPI impacts earnings in our Australian gas business and why stronger CPI drives higher earnings, it's worth clarifying briefly here. In our Australian gas business, the inflation index portion of rate base is billed to customers through the recovery of depreciation in subsequent years based on the annual rate of inflation. The revenues for adjusted earnings purposes, however, are recognized in the current year as earned for this inflation component of rate base. As such, we see higher inflation denoted by higher CPI translates into higher current period earnings like we have experienced in 2021. On the regulatory front, there have been a number of a few developments in the fourth quarter and early months of 2022 that are worth highlighting here. As we've messaged in our last few conference calls, we've been awaiting the final approvals from both the AUC and the Canadian energy regulator on our acquisition of the Pioneer Pipeline and the subsequent transfer of a 30-kilometer segment to Nova Gas Transmission Limited. I'm happy to report that as of January 2022, we've now received all outstanding approvals related to this transaction. Our revenue requirement for this asset was approved by the AUC as filed and approval NGTL received from the Canadian energy regulator allows for the final transfer of their segment of the line. We will be finalizing this asset transfer through the first quarter of 2022. Switching to our Alberta distribution utilities, we continue to gain additional clarity on the 2023 cost of service rebate in year that will follow the second performance-based regulation term that concludes in 2022. While there's still additional work to be done in filings to be processed by the regulator, early decisions support the expectation of a fair and prospective regulatory framework for our distribution utilities in 2023. Notably, the AUC has agreed to a hybrid approach to the forecasting of 2023 costs, which will see applied for cost compared to an average of 2018 to 2022 -- or sorry, 2020 actual costs. We expect to have these decisions on these applications for both our Alberta distribution utilities in the third quarter of 2022. Moving on to capital. I want to touch on both the capital investments we made in 2021 and also where we are heading in the coming years. In 2021, we invested $1.3 billion in our earned business with $1.1 billion of this being invested in our core utilities. This ongoing utility investment ensures a continued generation of stable earnings and reliable cash flows from our utility businesses and drives rate base growth. When compared to 2020 capital investment, this represents an increase of $221 million. The largest share of this increase is associated with our Pioneer Pipeline acquisition. In our energy infrastructure businesses, we invested an additional $226 million in 2021, an increase of $198 million from 2020. This increased investment reinforces our commitment to energy transition and includes a number of previously announced projects that we're pursuing in this space, including our renewable natural gas investment with future fuels. The acquisition of development rates for 3 solar developments in Alberta and in the fourth quarter, our acquisition of the Alberta Hub natural gas storage facility. While we discussed energy storage as a role in our overall energy transition strategy during our third quarter conference call, it's worth quickly revisiting this discussion in context of our Alberta Hub Natural gas storage facility acquisition. Energy storage is critical to the existing operations of our energy system, and we believe its importance will grow as world decarbonizes. Not only are assets like the Alberta hub facility critical in the development of industrial scale clean hydrogen. They support the diversification of the industry within the province, including support for critical petrochemical industry and also help support the affordability and reliability of our energy system as more intermittent renewable generation is integrated into the grid. Collectively, projects initiated in 2021 represents a significant step forward for our energy transition strategy. As our solar and renewable natural gas developments are completed in late 2022, we will start to see the earnings and cash flows benefited by the bite-sized and rapidly executable nature of these initiatives. Shifting to our larger clean hydrogen production facility project with Suncor, we began to see tangible evidence from both the federal and provincial governments of their support for large-scale hydrogen development. The latter half of 2021 saw the provincial government released its hydrogen road map, a tangible strategy that builds off many of the aspirations within the federal government's hydrogen strategy for Canada. As we've been communicating from day 1, the success of this project will rely on the cooperation and collaboration of industry and government to ensure that policies are in place to make the project of this scale successful. While there's still significant work to be done, the importance of this project for all of Canada and meeting its climate change commitments is well understood, and we'll continue to advance the project with the expectation of a 2024 FID and first hydrogen production in 2028. Moving on to our forward-looking expectation for capital investment. We expect to invest $3.3 billion in our regulated utilities over the next 3 years. While utility operations are the largest contributor to our earnings and will remain so for many years to come. We will also be actively investing in our energy transition growth initiatives in the upcoming years. Overall, Canadian Utilities had a great 2021 that saw us advance key growth initiatives while delivering strong year-over-year earnings growth for our shareholders. The groundwork that we've laid to establish ourselves as leaders in the energy transition space position us well heading into 2022, and I am excited to continue pushing the business and these key initiatives forward. That concludes my prepared remarks, and I will turn the call back to Colin.

Thank you, Brian. [Operator Instructions] I will now turn it over to Claudia, the conference coordinator for your questions.

[Operator Instructions] Our first question is from Linda Ezergailis with TD Securities.

Appreciate the context around the inflationary benefits that your Australian utility is getting now. I'm just curious if you can help us understand, in Q4, how much of that uplift was related to the quarter specifically versus the full year? And how might we think of the potential seasonality around the Australian gas distribution earnings in 2022?

Yes, Linda, thank you for your question. Yes, the Australia CPI certainly was a big driver and I would think that in the fourth quarter, the increase in CPI experienced in the fourth quarter of Australia was way higher than anyone expected and certainly drove a big portion of the increase throughout the year. And I would say the quarter results for Q4 was higher than normal just because of that higher-than-expected increase for Australia CPI. As we look forward, we look to see that over time, the CPI would normalize. And certainly, we've had a uplift here in 2021. And in previous years, we've had really low inflation. But overall, we expect it to normalize over the years.

And maybe moving on to my second question. Your secured capital for -- through 2024. Just wondering how much that might potentially grow in terms of your backlog of opportunities, I assume substantially related to energy transition opportunities. Can you give us a sense of order of magnitude of what else you are looking at that's not in your secured bucket?

And as you mentioned, we do have a number of energy transition projects in the queue, whether it's our energy solar projects. We've got renewable natural gas. So we have a number on the go, and we're certainly focusing on that. As to the magnitude, I guess that will depend. Obviously, we've talked about our hydrogen Suncor project, which is a significant project, and obviously, it can have a large impact to that forward outlook, though the construction of that is beyond 2024, and we're working really hard today on that. As we've mentioned in previous calls, we see a number of opportunities continue to be in the hopper. I guess it's a tough question to answer other than we are committed to ensuring that we only pursue those opportunities that fit well within our energy strategy. And we recognize that it is a high competition for some of these projects. So we want to make sure that when we enter them, we have the right team in place, resources in place to execute successfully on that. So I can't give you more guidance than that. I think there's a lot of opportunities, as we've mentioned before. And we'll make sure that we select a combination of bite-sized as well as pursuing these big projects like the Suncor project.

[Operator Instructions] Our next question is from Matthew Weekes with IA Capital Markets.

I think I just wanted to revisit, first of all, comments made during the prepared remarks on how the CPI translates into earnings in Australia. And I was wondering, going forward, if there's a recognition in the current period based on that -- is there any way that, that would be given back in future periods and reduce as that passed through a little bit more in the earnings? Or I was just wondering if you could clarify how that works a little bit?

Sure. Thank you for your question. And so maybe just to hit it right off. No, there would no -- it would not reduce versus in future years. It's based on current year's inflation, and that's translated results, and that will be collected over a number of years through depreciation. It is -- it can be a very complicated way of looking at it. And perhaps maybe what we can do for Matthew is just take that offline and call you directly and walk you through this very complicated regulatory mechanism, if that works.

Yes, absolutely. I appreciate that. Second question is a little bit bigger picture in talking about the energy transition and wanting to be aligned with all stakeholders and governments really before proceeding with opportunities. Looking at the so-called blue hydrogen opportunity and implementing carbon capture. Would you say that part of one of the key catalysts that would drive going forward with that is going to be government support in the form of a carbon capture tax credit? And do you believe you could see that implemented as soon as this year?

Yes. There is -- government support and policy is critical for developments of hydrogen and other energy transition opportunities. And -- there's a number. You mentioned one, carbon capture and -- but there's a lot, whether it's securing cost-effective poor space for carbon capture. There's a clean fuel standards and related clarification on the value of liquid and gas credits under these standards. There's Alberta tier and BC low carbon fuel credit guarantees. You mentioned investment tax credit, certainly, as that something that needs to be clarified by the federal level. There's amendments to the Alberta Gas Utility Act to allow hydro blending and so on. So I could go on for a long time. But yes, I would just say policy is critical. And certainly, that's been one of our major focuses that we've been working with both the federal and provincial governments to gain certainty on these and clarity on these policies. And I think these policies in place will allow all stakeholders to be able to proceed on these long -- these projects that need to progress and that's certainly that we're working on as we get to FID by 2024.

Okay. I appreciate that. And just one last question, just building on that. And you mentioned the clean fuel standards with the government -- with the federal government expected to implement nationally the clean fuel standard in 2023, was that really one of the drivers behind the decision to move forward with the RNG project and aligning with the timing of contributing really in late 2022, 2023? And building on that, do you think there are more opportunities to invest in renewable natural fast going forward?

Yes. Great question. And I would say like renewable natural gas is not new, and it's something that we see as one of the part of the puzzles for addressing climate change. And we've been working on various opportunities over the years. The -- I think one of the facilitators is in BC, they are allowing for renewable natural gas to be included in their natural gas system and pay for from customers. And certainly, -- that has allowed us to commercialize some opportunities in Alberta. Although today, it's something that will be transported and recognize in BC. But as we work with the Alberta government, that is one of the policy changes that we're looking to implement or the government document is to allow renewable natural gas to be part of the market system here in Alberta. And I think as, quite frankly, there's the benefits are clearly known and it's something that makes a lot of sense. So yes, I do see a lot of opportunities in Alberta and elsewhere for renewable natural gas. And certainly, that's kind of the rationale for why we entered into that space earlier last year.

Our next question is a follow-up from Linda Ezergailis with TD Securities.

Just wanted to maybe take it up a level in terms of your capital allocation philosophies and how you might choose to finance them? Just trying to understand how that's being influenced fees and your strategic priority for 2022 to maintain an investment grade rating, I guess, a strong investment-grade rating potentially. And within that, I also understand how that might influence the cadence and rate of dividend increases as well.

Yes. Sorry, Linda, I think you cut out a little bit there during the question. Do you mind repeating that? Sorry, a little bit.

Apologies. So in terms of your capital allocation decisions, especially as you face growing opportunities in energy transition. I'm just wondering how that might have been -- how that might be influenced by your discussions with the debt rating agencies and your strategic priority to maintain a strong investment-grade rating. And within those capital allocation decisions beyond just looking at new investment opportunities and adding that to your secured capital bucket from your backlog? I'm just also wondering how that might inform the pace around your dividend cadence of your dividend growth?

Thanks for repeating that. That was helpful. Yes, maybe as general, like when we address all our capital allocation, we're looking at all factors in terms of how we would finance that growth and allocate the capital. Strong financial tenants are a key value for us at Canadian Utilities and CU Inc. And one aspect of this is our credit rating like you mentioned. And certainly, we -- our businesses -- if our business would be assessed as a pure-play utility on the low-volatility table, we would expect our FFO-to-debt to metrics to be well aligned with expectations for a credit rating and stable outlook. But strategically, we believe the energy transition investments will play a significant source of growth for us in our businesses moving forward. And these investments are critical to ensuring the long-term stability of our businesses. So unfortunately, from A credit rating perspective, where investments are nonregulated and are seen as increasing our business risk and push us further away from assessment under SSP's low volatility table. So while we value our A credit rating and we're consistently seeking opportunities in credit investments that would increase our group's FFO-to-debt metrics and financial stability. We're mindful that managing this metric is not our only objective. And we can't let -- can't let it create undue pressure that would prevent us from executing on our overall strategy and that kind of goes to that capital allocation. That being said, we note that CU Inc. maintains a one-notch installation factor from the group rating. And given this, we expect Sink to maintain its A rating even if a credit event at the group level were to take place. So in terms of cost of -- in excess of capital, we don't expect that our funding costs would look materially different if we for say we're rated at BBB+ and a scenario. Similarly, we expect to continue to have good access to capital in both scenarios, and we would -- if we needed to go to the market. So I'd just kind of give the examples of our recent preferred share and dividend issues, both having very strong market acceptance and demand exceeding issue sizes in both cases. So overall, we're mindful of our credit rating. Obviously, we worked very well with the credit rating agencies debt holders. And as we look to our capital allocation, we want to make sure that capital allocation is directed to our long-term strategy and stay -- stick with that despite near-term pressures on some of our metrics that we face today. So dividend policy included like we reinstated the DRIP. All these things are options to us, and we're constantly evaluating them. So hopefully, that answered your question, Linda.

And just as a follow-up question, just building on your energy transition opportunities and recognizing that there's still a lot that needs to be put in place from a regulatory and political perspective to enable those opportunities to be realized. I'm wondering how much work you've done in your Alberta utilities to establish how much hydrogen you think could be blended into your natural gas distribution and transmission networks and that sort of investment would be -- what would be the nature and type of investments that would need to be done to enable that mix?

Yes. Yes, we've done a lot of work on our natural gas system to prepare ourselves and evaluate the blending of hydrogen. And again to remind you and others that blending of hydrogen and natural gas networks is not new. It's been done in a number of places over the world. So part of that is we are starting to -- we've actually got a couple of pilots where we're blending 20% of hydrogen in houses. Obviously, you've heard about our pilot in Fort Saskatchewan, where we're going to be blending initially 5% of hydrogen in the homes an area Fort Saskatchewan. We have been working for quite a while in Australia to our clean energy hub there in terms of the blending of hydrogen. So obviously, important to us is to ensure that we've got the safety case as well proven and educating all parties and stakeholders involved. And we will continue those efforts, and that's a strong focus for us here this year. In terms of getting ahead into on the regulatory front, we have filed as part of our 2023 cost of service application. Included in there is the discussion about blending hydrogen. And certainly, we're working through the regulatory process -- through that, we've also engaged with the federal -- or the provincial governments in terms of getting gas amendment they act amended to allow for the blending of hydrogen in and we've been on that for some time. So I guess we've been very active, and I could go on to ensure that we are prepared for the day when we start blending hydrogen into our network and then we've got all the policies, procedures in place and ensure that all stakeholders are educated on the safety and the benefits of hydrogen in our natural gas system.

Our next question is from Maurice Choy with RBC Capital Markets.

My first question, just being back close to the home. Can you discuss the ROEs that you achieved in 2021 for your 4 Alberta utilities?

Yes, in terms of the outperformance in our utilities, maybe I'll just speak just generally. Certainly, I'll start off maybe with electric transmission and electric transmission we've had a number of kind of previous compliance filings that came through in 2021 in terms of getting those final requirements. And as you've kind of seen our MD&A had a negative impact on our 2021 earnings for electric transmission. I think $12 million of that was related to prior year. So overall, the electric transmission is operating in line with the AUC approved returns. Electric distribution has been doing extremely well, and we're continuing to bring in those efficiencies year-over-year and building off of that. So we've seen very strong utility returns and outperformance in our electric distribution business in 2021. Our gas distribution business continues to have very strong outperformance in the business. And ultimately, builds off some of the initiatives that we've been over the last 4 years, and then we prepare ourselves for 2023. And then a natural gas transmission, 2021 reflected the rebasing, and were we passing all the cost efficiencies that we earned in prior years back into customer rates moving forward. So again, we've had some great performance in our natural gas transmission business as we again start the first year of the incentive mechanisms of finding efficiencies in that business. So overall, I think we're very proud with the men and women of our teams, delivering continued premium returns for our shareholders. And obviously, the benefits that goes to customers in the long run. So maybe I'll leave it at that, Maurice.

Great. Thanks for those explanations. Maybe as a quick follow-up for the 2 distribution utilities. I suppose whilst you haven't given us an exact number about how many basis points have outperformed, but maybe a different question we are asking is how would you compare this year's outperformance versus, say, over the past 1 year or 2 years?

Yes. Okay. For the distribution. So I would say for the natural gas, and I don't have -- we haven't gone to the full detailed calculation, Maurice. There's a lot of math that converted into regulated returns. But I would say generally, our natural gas is in line -- relatively line with 2020. And for our electric distribution business, there's quite a bit higher outperformance in 2021 versus 2020.

Perfect. And my last question and just sticking again with the ROE in Alberta. What are your views of the potential for the ROE methodology moving to a formulaic approach from 2024 onwards? And directionally, do you see a risk that the starting point may be rebased from 8.5%?

Yes. Great question, Maurice. And as you're aware, the Alberta Utility Commission has outlined that falling a generic cost of capital proceeding for 2023 that it's looking for '24 on to evaluate a new process for generic cost of capital, which could include the discussion of a formula. And I guess our views on that is it's early days, and we would need to better understand the components of the formula to making sure that they can capture the market conditions and the volatility that there is a solid starting point, whether it's off ramps, that's taking consideration. And so -- and then obviously, how the inflation and capital compensation factors are -- sorry, I'm thinking more of PBR. But basically, just overall market and conditions. And we've seen so much market turbulence over the last number of years. And obviously, we need to make sure that, that formula and how the market is going to capture those impacts. So what we have seen is that we're not against a formula, but that formula we have to be comfortable that, that formula would capture all those market conditions and provide a fair return, which is ultimately important component of the regulatory compact.

Got it. And like a sneak one in as a follow-up. If the composition of that formula mimic the one that we currently see in Ontario, would that be a good starting point? Or do you think that there still needs to be some customization that you need to Alberta?

Yes. Great question. Honestly, I don't have the specifics, and I would need to do some more review. And you mentioned Ontario, but I'd also say that there's very, very few jurisdictions that have a formula-based ROE right now and Ontario will be one of them. So I just kind of goes to show that right now, it's been pretty problematic to put something like that in place. Again, it's not something that is not doable. But again, we'd have to we'd have to see what parties and the commission is proposing and we could probably take something out off-line, Maurice and get back to it as a comparison to Ontario provide you a little bit more details. But I just respond generally in that way.

[Operator Instructions] There are no further questions registered at this time. I would like to turn the conference back over to Mr. Colin Jackson for any closing remarks.

Thank you so much, Claudia, and thank you all for participating today. We appreciate your interest in Canadian Utilities and we look forward to speaking with you again soon. Thank you.

This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.