CPFL Energia SA

BOVESPA:CPFE3

Earnings Call Transcript 2018-Q3

[Operator]

Good morning, ladies and gentlemen. Thank you for waiting. We would like to welcome everyone to CPFL Energia 3Q '18 Earnings Results Conference Call. Today, we have with us the executives, Mr. Andre Dorf, CEO of CPFL Energia; Gustavo Estrella, CFO and IRO; As well as other officers of the company.

The presentation will be available for download in the website www.cpfl.com.br/ir. [Operator Instructions] It is important to mention that this conference call is being recorded.

Before proceeding, let me mention that forward-looking statements are being made under the safe harbor of the Securities Litigation Reform Act of 1996. Forward-looking statements are based on the beliefs and assumptions of CPFL Energia management and on information currently available to the company. Forward-looking statements are not a guarantee of performance. They involve risks, uncertainties and assumptions because they relate to future events, and therefore, depend on circumstances that may or may not occur in the future. Investors should understand that general economic conditions, industry conditions and other operating factors could also affect the future results of CPFL Energia and could cause results to differ materially from those expressed in such forward-looking statements.

Now I will turn the conference over to Mr. Andre Dorf. Mr. Dorf, you may proceed.

[André Dorf, executive]

Thank you. Good morning, everyone. Welcome to another CPFL Energia earnings conference call to discuss third quarter 2018 results. I have with me the main officers of the group. As usual, we will go over a brief presentation and then we will all be available to answer your questions. Please go to Slide 3 where we'd find the third Q '18 highlights. Increase in load in the concession area up 1.2%, highlighting the growth of the residential and industrial classes more in the free markets than in the captive market, as we're going to see shortly.

We also had a growth of 4.4% in net operating revenue of the company. And as a result of that and of cost management, we had EBITDA growing 21.4%, the cash generation of company in the quarter. Our net debt ended the quarter at BRL 15.5 billion. And therefore, a leverage of the last 12 months of 2.92x net debt over EBITDA. This is the lowest leverage level for the company in a long while.

We also continued our investment program. We invested a little more than BRL 0.5 billion in the quarter, BRL 525 million, particularly, in the distribution segment. Another highlight is the winning projects of CPFL Renováveis renewables. Winning project in the 28th LEN A-6 auction, Cherobim SHPP and the Gameleira wind farm complex. In addition, we're probably following some relevant sector issues. I would highlight here the tariff flags, coverage for the distribution segment to deal with the expenses related to Parcel A. In here we are dealing with insufficient flags and insufficient coverage, generating a higher need for liquidity and working capital by all distribution companies in Brazil.

In addition, we have the GSF in -- this is a recurring topic in our discussions. And now this topic is being analyzed by the House of Representatives. It has gone through the Senate, House and let's wait to see if there will be novelties by year-end.

Integrate expectation not limited to the electric sector but of all Brazilians is the composition of the first level team of the new administration that will take office. Here we highlight the team of the Ministry of Mines and Energy. But it is important to highlight that our high expectation apply to all levels of government, top state-owned banks, development banks and all of the agencies of the new government. The first news are quite promising and we see good names being considered to occupy these high positions in the government.

Moving on to Slide 4, please. Here, we have our EBITDA, our cash generation by segment. Starting with the upper left-hand corner, chart, we only have a EBITDA BRL 1,548,000,000 in the quarter. 46% of the EBITDA came from the distribution segment, followed by renewables. This is the most favorable time of the year incomes of wind and renewable sources. So here it accounts for a higher share than we normally saw in prior quarters because of the seasonality. In conventional generation, 22%; followed by commercialization, services and others, 4% of the company's EBITDA.

So just to the upper right-hand corner. Here we have the distribution segment. We have seen significant EBITDA growth quarter-over-quarter. This stems mainly from a market increase. Market increase drove most of this positive variation that we see in our distribution EBITDA. In Conventional Generation, here we also have a positive variation 4.7%. Here we have some recovery of PIS and COFINS credits. And [ therefore ] -- and recovery of retroactive credits, tax credits, which help this positive numbers. Renewable Generation grew with same percentage 4.7%, here growth mostly was driven by greater wind power generation in 2018. We had more wind power generated in 2018 than in the third quarter of '17. In Commercialization Services & Others, here, we also posted an EBITDA growth particularly stemming from a reversal of ADA in our commercialization company and because of the new services and contracts of CPFL Serviços. This is also a positive result in this new segment of the company.

Please go to Slide 5. Here, we need to give more detail about the distribution segment. We have the highlights for the quarter. Like I said, we had an increase in load of 1.2%. We had an increase in sales of 2%. In the concession area, we can see in the upper right-hand corner, 2%. 2% increase in sales in the concession area, more representative in free clients, free market clients. 5.4% in particular, this slide for captive market clients. And at growth of the residential segment, to highlight going to RGE and RGE Sul. The most significant growth in the southern region of the country because of the temperature difference quarter-over-quarter. High temperature in 2018 generate more significant increase in the south region. We see stability in the commercial segment. Here we don't really see a more substantial recovery of the commercial segment.

However, in the industrial segment, we see more exciting growth of 2.4%. Highlights going to CPFL Piratininga, RGE and RGE Sul. Here, it is worth highlighting some segments that shows this kind of growth. I would highlight chemical, automotive, rubber, plastics and food industry. These were the segments that really drove this recovery.

In terms of losses, we continue to work on this to invest in recovering losses. Here, we see an indicator of 8.87%, which is lower than in the second quarter of 2018 and -- which was lower than the third quarter of '17. In the pie chart on the bottom left-hand corner, we'll see the market breakdown in the concession area. Industrial continues to account for the largest portion, almost 40%, followed by residential, commercial and other segments.

In the middle chart, we illustrate the comparison or the behavior of CPFL Energia comparing with the region. Overall, CPFL grew 2% in sales versus 1.3% growth of the Brazilian market. In the Southeast, we grew 1.7% versus 2.2%. And in the southern region, we grew 2.6% versus the whole region growing 1.5%. I'm not going to get into details about the charts on the right, but then show sales performance by consumption segment. Here, I would highlight in the quarter the residential segment and the industrial segment. Residential because of the difference in temperature. In the industrial segment, because of the slow recovery that we're observing particularly in the segment that I mentioned.

Moving to Slide 6, please. Here, we talk a little about generation. The big theme of the quarter regarding generation not only applying to CPFL, but of the interconnected system in the reservoir levels. We've ticked the third quarter with a yellow light in terms of reservoir levels of the regions and of the NIPS system. When we ended November, we were a little more optimistic. We moved from the low part of the curve. We don't have any more of the worst curve in the history. Recent rainfall has shown a marked recovery in the southeast and in the NIPS system overall, which results in our spot price on the bottom left-hand corner. We did see the volatility of [ spot ] prices along the months and along 2018. You can observe on the chart that we started 2018, more or less, at half the chart at [ BRL 180 to BRL 100 ] because of that yellow light regarding hydrology. We hit a top mark of BRL 505, and now it was at BRL 142 in the first week of November.

On the right, we see the effect of hydrology on GSF, an indicator that we monitor and that generates financial impact to generation companies. In September, in the quarter, we had the worst GSF level ever. And now, the trend is that it will ramp up, given that we are going to start a favorable hydrological period.

On the next page, we have a little more details on our results. And I turn the floor to Gustavo Estrella, the CFO of the group.

[Gustavo Estrella, executive]

Well, I'm on Slide #7 with our results. This quarter, we had robust results. You can see the performance of our EBITDA of 21.4% in the quarter, of 22.5% in the 9 month. When we compare the net income 60% up vis-a-vis 2017 for the quarter and for the 9 months, 100.6% higher. This net income of the first 9 months of the year of BRL 1,496 million is already higher than the whole year of 2017, which was [ BRL 1.2 billion ]. As we can see in the main effects, the main effects really comes from the distribution segment with a total variation in our EBITDA of BRL 230 million positive. And the main factor here is coming from what we call market and tariffs. We have seen that the concession market had a growth of 1.2%. And the main factor here is undoubtedly coming from tariffs and here, especially, we have an effect of tariff review of our distribution companies of positive [ BRL 178 million ]. And this is coming from the tariff review of companies that did have that tariff review over 2018. We also had a positive effect in here, this is basically inflation effect and the adjustment of the financial asset, adjusted by the IPCA. And we have a variation of almost BRL 90 million. Some lower variations by private pension fund of BRL 6 million. And here we have a positive effect -- I'm sorry, this is a negative effect of PMSO in the quarter of BRL 70 million negative. Here, we do have some seasonal effects, basically we were affected by legal and judicial expenses. And for our ADA in this quarter, once again, these are seasonal effects. It's important to look at the legal and judicial expenses that are not recurrent and in terms of results. And the same applies to ADA that when we look at the 9 months, both legal and judicial expenses as well as ADA for 2018, they are at lower levels than what we had in 2017. So this is the trend, which is a positive trend when we compare what we have so far to -- in 2018 to 2017.

In conventional generation, there was a sort of variation of BRL 15 million. As Andre has mentioned, we are recovering retroactive credit, so the main one has to do with PIS and COFINS credits at EPASA, and that was BRL 11 million, and this is our main effect coming from conventional generation.

In renewable, we have a higher effect in the wind farms. Wind generation that has a volume of energy produced this year, which was higher than the volume we had in 2017. Therefore, we have an additional revenue coming from renewable. And also, we have some penalties in 2017, which we did not have in 2018. This has also -- provides us a positive effect in the comparison. And also, as Andre has already mentioned, we did have a negative effect of BRL 14 million coming from the impact of GSF. Another important [ meaningful ] results come from the financial results basically because of the variation of interest rates, that allowed us to have a [ mix ].

[Technical Difficulty]

Slide #8. We analyzed the performance of our leverage. We go back to a level that since 2012, we were not able to see. We are now at 2.92 in the third quarter of '18. Also it's very important to highlight that now we have a regulatory asset of almost BRL 2 billion also affecting our leverage. Without that regulatory asset, we would be at a leverage close to 2.5x net debt over EBITDA. It's important to stress that these BRL 2 billion will be integrated to the tariff review over 2019. Therefore that will go back to cash, accelerating our reduction, our leverage over the next year. Our gross debt cost basically is stable, vis-à-vis the prior quarter. As we have mentioned mainly all our exposure is of CDI of our net debt. In the year, we show gross debt. But in our net debt, we had 0 exposure to CDI. And now we have 45% of our gross debt already prefixed at prefixed interest rates for 2018. We'll go back to having exposure to CDI in 2019. But this year, we -- I would say that we have a stability regarding financial expenses up to the end of the year.

Now turning to Slide #9. We analyze our liquidity. In the quarter, we have ended the quarter with

[Technical Difficulty]

all our maturities in the short-term, and here, we are following a policy of a previous refinancing of the company in order to avoid any type of exposure to market volatility.

On to Slide #10. We have a highlight of our projects. The main one is Boa Vista SHPP, which should start operating in 2020. This will be anticipated in the next few weeks. We should have the project going into operation 100% with -- ahead of time when we consider to -- the schedule that we had in the auction. We have 2 projects that we were winners and the A-6 auction should have been SHPP with 28 megawatts of installed capacity. And Gameleira wind farm complex with 69 megawatts of installed capacity, both of them should have various start-up in 2024. And we will now start development of these 2 projects.

[André Dorf, executive]

Well, this is Andre Dorf again. We have a final slide to share with you. This is an interesting initiative coming from the company. We have [ added ] the third quarter, the first edition of the CPFL Inova, this was an initiative that we created here in the company in order to expand the interaction of our initiative, of our business areas or management areas. And in terms of what's happening about start-ups and technologies out of the company, we know that major innovations are happening, all of them larger companies. And for us, this is a new learning, such as for any other company to be able to bring that in and to create a type of cooperation with start-ups. So we launched this project in partnership with Endeavor, which is a company totally dedicated to foster start-ups and scale-ups. We intend to accelerate 12 start-ups in this first edition. We had 496 companies enrolled in the program and our solutions are listed in the bottom part of the slide. Everything is very hands-on, very practical and it is of great interest for our business and for our company. So at the end of this initial addition, we already have BRL 6 million in contracts with these companies and the solution should bring us optimization of processes in the company, also new services to be provided to the market. And also solutions that will optimize costs, avoid losses, will deal with data in a different fashion. Anything that could allow us more efficiency in our services as well as greater productivity in the company.

So I now end the presentation, I'll turn the floor back to the operator to start the Q&A session.

[Operator]

[Operator Instructions] Our first question comes from Bruno Varella, Solana Capital.

[Bruno Varella, analyst]

Andre and Estrella, I have 2 questions. The first is, I would like to know from your standpoint can we have -- we see a higher EBIT of RGE Sul higher than RGE? And the second question about RGE Sul. I was looking at the EBITDA of this quarter. And in the comparison with the prior year, we have an increment. But I would like to understand why there was a restatement of some account because the RGE Sul EBITDA last year was [ BRL 77 million ] negative and now there's [ BRL 72 million ] positive that we see now. So was there a restatement of any sort? And finally, I would like to understand the legal and judicial expenses that you mentioned, Estrella. I would like to know what is the origin of this? Does this have anything to do with the CPFL Paulista pension fund discussion? Where do these expenses come from and are they to be -- expected to recur in the next quarter?

[Gustavo Estrella, executive]

Thank you for the questions. First regarding RGE Sul. The higher EBITDA than RGE. Well, we had this situation in the first quarter of this year, RGE Sul, was an EBITDA for the first time that was higher than RGE in the year. Our expectation, given the characteristics of the 2 concession areas, which are relatively similar, but with the potential of investment in the RGE Sul area higher than in RGE. Our expectation is that, that in 1 or 2 years, we will be able to overcome the EBITDA of RGE but not for this year. This year, RGE EBITDA will be higher than the EBITDA of RGE Sul. I would like to remind you that in the beginning of 2019, we should have the merge of the 2 companies, so we're going to see the results of one single company. But in terms of the business plan, we will continue to manage this, looking at the companies separately, so that we can know exactly what are the business plans that we drafted in 2016 is being executed as defined by our Board of Directors. You mentioned an EBITDA variation of RGE Sul a negative EBITDA. Well, last year was the year of adjustment in RGE Sul because of the adjustments we made of the PPA process to restate the balance sheet after -- [ in a quotation ]. The PPA is the power purchase agreement. So we have to know exactly what comparison you were making if it's in the individual balance sheet of RGE Sul or the RGE Sul balance sheet for consolidation purposes? Because they have different phases. I need to know whether we are comparing the same thing here.

[Bruno Varella, analyst]

Well, actually I was using the restated balance sheet and not the one for consolidation purposes.

[Gustavo Estrella, executive]

Well then, what we see is that continues -- there is a difference and it is basically because of the restatements that we had to mirror the PPA effects. This is basically regarding contingencies in the balance sheet of RGE Sul. If you want perhaps we can speak more in detail in person. And I can explain to you the variations. But the reason is exactly this. We are counting our PPA reflected in the RGE Sul individual balance sheet of 2017.

[Bruno Varella, analyst]

Okay, perfect.

[Gustavo Estrella, executive]

And finally, you talked about legal and judicial expenses. This is basically because of civil claims. Again, when we look at this [ unrelatedly ], the first quarter is not a good proxy to show our trend of legal provisions because we have to [ absolutely ] determine seasonality to recognize legal provisions in our balance sheet. So what we normally do is look at the year-to-date comparison. Year-to-date, we expect some seasonality that we have different from 2017 year-to-date, and this is kind of softened in the 2-year comparison. Our expectation in [ RGE ] is that we have a positive trend with a volume of legal and judicial provision. Again, based on several claims that [ will lower ] levels than what we had in 2017. So considering everything we are doing at the company in terms of follow up of lawsuits, legal claims and to having preventive measures for both civil and labor claims, with everything we have done, we start seeing -- we've started bearing the fruits in the balance sheet of the company.

[Bruno Varella, analyst]

But one last question regarding the leverage. You mentioned adjusted leverage of 2.5x the EBITDA. And given the concern of the controlling shareholders regarding the 3x net debt-to-EBITDA that the company was having. What would be a level that you would consider comfortable for you to work with looking forward and to go back to paying dividend with a somewhat higher yield? Will it be something like 2x or 2.5x?

[Gustavo Estrella, executive]

Hello, Bruno. Well, here, we don't have a leverage target. We changed the philosophy of the company. We used to work with the maximum leverage. Having a maximum dividend payout. And therefore, our debt cost varied between short and long-term debt. We have to accumulate a lot of cash to deal with somewhat more short-term debt. But all of that has changed. So now because we're generating more in cash and we have a fewer capital-intensive projects and fewer dividend payouts in the last 2 years, we have significantly reduced our leverage. The target is that we will reduce this leverage a little more. We don't have a target index though. And looking forward we have to consider paying more dividends to our shareholders. But at the moment we don't have any final decision regarding how to pay dividend on the future results of the company because we don't have any pressing need on the part of our shareholders.

[Operator]

[Operator Instructions] We are now closing the question-and-answer session. I would like to invite Mr. Andre Dorf to proceed with his closing statements. Please go ahead, sir.

[André Dorf, executive]

Very well, we are getting to the end of the first 2 years since we started this corporate transition. So we have focused a lot of our efforts on cultural issues and trying to harmonize the culture but always placing the company in the first place, Always doing what is best for the company. We have devoted a lot of attention to operating aspects with investments in organization that will give us more quality and greater control over information and over our operations. And also focusing on lowering costs for the company. We are seeing some results of these endeavors and we are reporting this to the market. In addition to operating issues, we are dealing with a very agitated sector in terms of consolidation, M&As and privatization. I want to stress that we are keeping our ears and eyes open to all opportunities of growth, about organic growth through options or by acquisitions, but always with a lot of discipline, which is our mark.

With this, I end this conference call to discuss our results. I thank all shareholders and partners of the group for their trust and confidence. And I would like to thank you for joining us in one more conference call. Thank you very much.

[Operator]

That does conclude CPFL Energia conference call for today. Thank you very much for your participation, and have a good day.