NorthWestern Corp

NASDAQ:NWE

Earnings Call Transcript 2017-Q4

[Operator]

Good day and welcome to the NorthWestern Corporation Fourth Quarter 2017 Financial Results Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to your Investor Relations Officer, Mr. Travis Meyer. Please go ahead, sir.

[Travis Meyer, Investor Relations Officer]

Thank you, Evan. Good afternoon and thank you for joining NorthWestern Corporation’s financial results conference call and webcast for the full year ending December 31, 2017. NorthWestern’s results have been released and the release is available on our website at northwesternenergy.com. We also released our 10-Q premarket this morning.

On the call with us today are Bob Rowe, President and Chief Executive Officer, Brian Bird, Vice President and Chief Financial Officer, along with several other members of the management team in the room with us today to address your questions.

Before I turn the call over for us to begin, please note that the company’s press release this presentation, comments by presenters and responses to your questions may contain forward-looking statements. As such, I will remind you of our Safe Harbor language. During the course of this presentation, there will be forward-looking statements within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements often address our expected future business and financial performance and often contain words such as expects, anticipates, intends, plans, believes, seeks or will. The information in this presentation is based upon our current expectations. Our actual future business and financial performance may differ materially and adversely from our expectations expressed in any forward-looking statements. We undertake no obligation to revise or publicly update our forward-looking statements or this presentation for any reason. Although our expectations and beliefs are based on reasonable assumptions, actual results may differ materially. The factors that may affect our results are listed in certain of our press releases and disclosed in the company’s Form 10-K and 10-Q along with other public filings with the SEC.

Following our presentation, we will open up the phone lines to allow those dialed into the teleconference to ask questions. The archived replay of today’s webcast will be available beginning at 6:00 p.m. Eastern today and can be found on our website, again, that’s northwesternenergy.com under the Our Company, Investor Relations, Presentations and Webcasts link. To access the audio replay of the call, please dial 888-203-1112 then access code 5682232, again that’s 5682232.

I will now hand the presentation over to our CEO, Bob Rowe.

[Bob Rowe, President and Chief Executive Officer]

Thank you and good afternoon, everyone and thank you for joining us. And we just completed successful board meeting and are enjoying a crisp, clear wintry day in South Dakota. First, recent significant activities, 2017 operating income increased $15.5 million as compared to 2016 due primarily to improved gross margin driven by favorable weather as well as customer growth. 2017 net income was down $1.5 million as compared to 2016 and that is due primarily to a $17 million tax benefit that was included in our 2016 results. GAAP diluted earnings per share was $3.34 in 2017 and that’s converted to $3.39 in 2016, a 1.5% decline.

Non-GAAP adjusted EPS was $3.30 in 2017, which remains flat with 2016 and Brian will cover off more on GAAP to non-GAAP comparisons and disclosures. The Board declared a quarterly dividend of $0.55 per share, a 4.8% increase payable on March 30 to shareholders of record as of March 15. And on February 5, Fitch, on one hand, affirmed Northwestern debt ratings, but revised its outlook from stable to negative writing at a series of unfavorable rulings by the Montana Public Service Commission have weighed on Northwestern Energy’s credit quality.

And with that, I will turn over to Brian to begin with the summary of financial results.

[Brian Bird, Vice President and Chief Financial Officer]

Thanks Bob. Net income for 2017 was $162.7 million, which was approximately $1.5 million or just under 1% less than 2016. As you see on Page 4 the primary driver for that decline was in the income tax expense line. We had over $21 million of incremental income taxes on a year-over-year basis. As a result, as you look at the income before taxes we had a nice improvement approximately $19.5 million improvement or 12.5% improvement on a year-over-year basis on a pretax standpoint. What drove that was a $39 million improvement in gross margin. Also we had favorable interest expense and other income that helped in that regard. And also another positive development even though it was an increase in operating general administrative expenses in 2017, we kept it at a very reasonable increase of just over $2 million or 0.7% increase. Primary negative impacts for – on a year-over-year basis was property taxes up $14.5 million or nearly 10% and depreciation was up 6.8 and a reasonable 4.3% to round out the results.

If I move forward to gross margin on Page 5, the full year gross margin was $895 million versus $856 million from the previous year or improvement of $39 million and almost a 5% increase year-over-year. That benefit came from both our electric business which was up $24.3 million, 3.6% increase in natural gas up $14.8 million or up 8.3%. Of that $39.1 million, $30.9 million of that is a change in gross margin that actually impacts net income. And the two primary drivers were as Bob pointed out earlier we had improvement in both our electric and gas retail volumes from weather and customer growth those things adding to over $26 million. All the $30.9 million we also had – increased our gross margin as a result of items that flow through trackers equating to $8.2 million to get the total $39 million increase in consolidated gross margin.

Moving into the weather on Page 6, this is discussing really whether that the maps here indicating weather versus normal. In the bottom, in the red box we do point out that we estimated favorable weather in 2017 contributing approximately a $3.4 million pretax benefit as compared to normal and actually an $18.6 million pretax benefit as compared to 2016. As you see that charts just above on heating degree days the 2017 as compared with 2016 you can see significantly colder in all jurisdictions. And as a result there and then on a cooling degree days significantly warmer ‘17 versus ‘16, all of that contributed to the $18.6 million improvement on a year-over-year basis. We also can say versus normal our historic average we were not as cold in Montana versus normal and we are actually warmer in South Dakota, Nebraska from a heating degree basis, so that offset to a great extent the benefit in Montana. And we were less warm if you will versus normal from a cooling degree basis in Montana. All of that again to help offset some of the benefits of $3.4 million pretax benefit again as compared to normal. This does show when you have some diversity from a jurisdictional standpoint very positive results from Montana from weather perspective, not very good from South Dakota this year that has always been the case. They do provide some diversity from a gross margin perspective.

If we move on to operating expenses on Page 7, our total operating expenses were $633.8 million or 23.5 or nearly 1% increase on a year-over-year basis. As I mentioned operating, general and administrative expenses were only up $2.2 million and as you look at the list of items that – where that increased one could argue the bad debt expense of $1.9 million was the largest expense and that’s primarily driven from higher loads on a year-over-year basis. The other items there are primarily offset on another. Regarding property taxes, property taxes were up $14.5 million increase, primarily due to increased offset in plant additions, but also higher property valuations and higher mill rates that were assessed to us during 2017. Lastly depreciation and depletion were up $6.8 million or 4.3% primarily due to plant additions.

From an operating and net income, operating income $261.4 million, up $15.6 million or 6.3%, below that item I did mention that a favorable interest expense that was an improvement of $2.7 million that is primarily driven by the $2.9 million interest included in our 2016 results associated increase in interest expense associated with an MPSC disallowance in 2016. We also had a $1.4 million improvement in other income that was primarily due to higher capitalization of AFUDC, netting all those items out, income before taxes $176.1 million, a healthy $19.6 million improvement or 12.5%. And lastly, obviously the $21 million increase in income tax expense was primarily driven from 2016 our adoption of the tax accounting change related to cost or actually just repair generation assets, it was a $17 million impact as a whole. And of that $17 million impact or benefit in 2016, $12.5 million of that related to prior periods. Also we did have higher pre-tax income in 2017 versus ‘16. So those are the primary drivers there.

Speaking of income taxes on Page 9 in terms of the income tax reconciliation, you can see the moving parts and over to the far right is primary drivers in terms of dollars, the two primary drivers of course as I mentioned higher pre-tax income that drove $6.8 million of the change. But the flow-through repairs deductions and primarily the result of the establishment of the generation repairs in 2016 and the $12.5 million related to prior periods is the primary reason for the $10.6 million decrease in flow-through benefits if you will in 2017. And those are again the primary drivers for an income tax reconciliation.

Moving forward to the balance sheet on Page 10, total assets actually came down to $5.4 billion and again that’s primarily driven due to tax reform and you can see that really two line items on the balance sheet and the asset sides, regulatory and other non-current assets came down as a result of tax reform and the offsetting entry was in other non-current liabilities also coming down in that regard. And finally from a balance sheet perspective, from a shareholders’ equity perspective, up 7% due to the improvement in earnings, but also due to the ATM issuance that took place in 2017. At the bottom of the page, the ratio of debt to total cap we did come down into a range of 50% to 55% actually driven by the ATM program and keeping dead flat during the year.

Moving on to cash flow on Page 11, cash flow provided by operant activities is up, that’s primarily driven by the $38 million in refunds we have provided in 2016, obviously not having those refunds in 2017 is a primary driver of the change in non-cash adjustments to net income. We did keep investing relatively flat on a year-over-year basis. Those are the primary drivers from a cash flow perspective.

Bob mentioned that I would speak to non-GAAP on Page 12, I do that at the very bottom there we show on a kind of diluted EPS perspective. On the far left, we show moving from $3.34 after we back-out favorable weather of $0.04 we get to $3.30. You may recall in 2016, we had quite a few moving parts. We had a GAAP number $3.39 backing out unfavorable weather of $0.19, also backing out tracker disallowance, $0.16. We also removed the LRAM reserve release of $0.18 and we also removed the prior year repairs income tax benefit. After removing all of those items, we went from $3.39 to also down to $3.30, so again on a year-over-year basis, flat.

Important to point out though as you look kind of the middle as we have kind of reconciled these things from a non-GAAP basis and actually walk down through the P&L, reasonable improvement in gross margin of about 2.9%. OG&A, we talked about the slight increase there. The one thing I did want to spend a little bit more time on is property and other taxes, up $14.5 million or 9.8%. If you look at that $14.5 million, you might have noted in our bridge ‘16 to ‘17 we were expecting to be from a property tax perspective about $0.09 at the midpoint of that range. If you look at $14.5 million on an after-tax basis, that’s actually $0.18. So, it was – property taxes were huge miss from that perspective. So, if you assume on the expense side, a $0.09 miss, you assumed that you get some of that of course recovered in the tracker, assume that’s $0.04, so you have a net increase and net property taxes of $0.05. Throw on top of that the disallowance of $1.7 million that we had on property taxes for 2017 as a result of the recent ruling on the property tax tracker that’s $0.02, so for a total of $0.07 people are wondering why we are at the low end of our guidance at $3.30 versus the midpoint of $3.375. You can see it right there, its property taxes.

So moving down from an overall operating expenses, fortunately we are able again to manage OG&A to keep that increase reasonable at 3.9%, but obviously we would like to seeing that number lower. And I think for those who think that we don’t necessarily care about property tax you can see how it certainly impacts our earnings in a particular year. Operating income was up 0.7%, because the benefit primarily in other income, pretax income was up $3 million and 1.8% and net income up 0.8 or 0.5%, when you take into consideration the dilution of the ATM program that brings us down to zero increase on a year-over-year basis. So that’s the adjusted earnings GAAP to non-GAAP on a full year basis. Next page shows the same thing on the fourth quarter, reason – primary reason to show this in the fourth quarter is we did indicate we would need somewhere in the $0.95 to $1.10 in the fourth quarter lead our guidance. We did come in at $0.96, but the main thing again to point out in the middle of the page, you can see from an OG&A perspective we did a nice job managing expenses there even above that gross margin a healthy improvement in gross margin on a year-over-year basis of 4.4%. But here is where you can see property taxes up nearly 20% in the fourth quarter. Again higher valuations, higher mill rates and also – and this was up obviously impacting margin, but impacting the property tax tracker.

As I move forward to Page 14 talking about earnings guidance, you do show obviously 6 years of history here. We have been able to certainly provide results within our guidance and obviously disappointed to be at the low end of our guidance range this year. Also to point out over the 6-year period, we had non-GAAP adjusted EPS growth of 6.8%. When you assume a dividend yield of kind of 3% to 4% you are looking at 10% to 11% total return. And again historically we have certainly beat our historic 7% to 10% return over that time period. We know as we faced certainly regulatory headwinds here as of late, we have talked about being in the low end of that range. We have actually changed that target now. And we are now talking about being in the 6% to 9% total – long-term total return to our investors through a combination of earnings growth and dividend yield. I should point out the negative outcomes in our upcoming regulatory proceedings may result in near-term returns below our 6% to 9% targeted return and generation investments to reduce or eliminate our capacity shortfall will allow us to achieve the higher end of our range over the long-term.

Speaking to guidance as I move really to Page 15, 2017 to 2018 EPS guidance and bridge, at the top of the page and our year end results $3.30, we did provide this guidance in the past. These things were slightly adjusted here for tax reform and other year end numbers as they came in. Please note that the guidance range itself has stayed the same at $3.35 to $3.50. When you take that into consideration also trying to keep our dividend competitive, we are looking at now paying a targeted payout ratio of 64% in a range of $2.15 to $2.25. We have come out with our dividend. You are going to see total targeted dividend for ‘18 of $2.20 for the year, again primarily at the midpoint of that range.

Speaking to just a little bit to the ETM – our ATMs dilution excuse me, prior to the ATM dilution in the bottom red box there, the earnings here would have been a 7% increase in turning to provide value of course to shareholders as a result in order to protect our credit ratings and our need to continue to issue equity, we issued 54 million in 2017 and we expect to do the remaining 46 million in the 2018 after that ATM dilution the improvement is only just under 4% increase. So again trying to continue to provide that growth, but obviously more difficult with the equity issuance that we are necessary to take and obviously going from $2.10 to $2.20 from a dividend perspective is just under a 5% increase and trying to provide growth in our dividend as well to provide value to shareholders.

Moving forward to Page 16, fortunately we only have to do this every 30 years or so we did have tax reform in 2017. Obviously, this would be to the benefit of our customers going forward. The first thing I point out in the red box at the bottom of this page is tax reform had no impact on our net income in 2017 as a result of the reduction in federal corporate tax rate and reduced our deferred tax liability by approximately $320 million, this reduction was offset in regulatory assets and liabilities. For 2018 and beyond for that matter, we have dockets initiated in both Montana and South Dakota to provide the income tax benefit to customers effective January 1, 2018. As a result immediately this year, we began deferring the recognition of revenue estimated to be $15 million to $20 million in 2018 on a consolidated basis into a regulatory liability account. The reduction in revenue recognized is anticipated to be offset by an equal reduction in income tax expense with no impact to net income.

As a result of tax reform, we are updating our effective tax rate assumption, including in 2018 guidance to 0% to 5% previously 8% to 12% and NOLs are now anticipated to be available into 2020, previously 2021. Though I would argue we are from a net income perspective we are neutral, I would argue that tax reform has been cash flow negative and we point out here in the slide that again equal to the $15 million to $20 million, we talked about not impacting net income, but the range of resulted tax reform will impact negatively our cash flow from operations and primarily so if you think about we are actually deferring revenue that ultimately will be returned to customers in the form of refunds or dollars spent on projects to the benefit of customers. And finally, we currently believe our debt coverage ratios even though adjusted due to this tax reform will maintain or continued to be adequate to maintain existing credit ratings. However, we should point out further negative regulatory actions would likely lead to credit downgrades.

Moving to Page 17, financing activities we did talk about this the last time and we chatted with you, $100 million ATM program initiated in September of 2017. The main thing to point out here is during the third and fourth quarters of 2017 we sold shares of equivalent of approximately $54 million in proceeds. And as I mentioned earlier, we anticipate issuing the remaining $46 million by the end of 2018. On the long-term refinancing, we did refinance debt that was at approximately 6.34% with debt of approximately 4% 3-year money with the benefit of approximately $5 million net of make-whole amortization from that transaction alone.

And with that, I will pass it back over to Bob.

[Bob Rowe, President and Chief Executive Officer]

Thank you very much, Brian. I will start with a regulatory and legal update, but before I do that just a couple of points following up on Brian’s remarks. First is that this company really has at all levels tremendous people and there are people who were skilled at executing in whatever environments they are called upon to execute and continuing to invest in and grow the companies. Brian described we had a couple of curveballs thrown at us, essentially in the last 6 weeks to 2 months with the Montana property tax mill rates coming in high, most recently the Montana Commission’s decision changing methodology in the tax tracker docket and then also obviously the changes in federal tax law.

And starting from the executive management level all through the company, people have just done a tremendous job doing what you are called on to do and continuing to execute for our shareholders and for our customers. Secondly and related to the to the regulatory area, some of you know that our very Senior Vice President for Regulation and Government Affairs, Pat Corcoran retired in January after quite a remarkable career and we use that as an opportunity to make some changes at the executive level. We have consolidated our operations with the remaining executive team and for these purposes most particularly the regulatory responsibilities have been taking over by our General Counsel, Heather Grahame and we have added some resources, some new people to support the great veterans we have in our regulatory area and they are across legal and regulatory, really working as an extraordinary team with full support of the rest of senior management and of the entire company. So, we really like where we stand right now just a lot of appreciation for the people doing the work. The three things to pay attention to over the next year as of this moment: first of all, the federal tax law change implementation proceedings, Brian did a good job describing in both South Dakota and Montana; secondly the Montana PCCAM docket, the electric supply tracker; and then third, preparing to file a general electric rate case in Montana this fall.

On Page 18, we give you an update on a number of these. First, the Montana property tax tracker and filing, the Montana statute recognizes that the tax burden on regulated utilities is substantial and allows us to recover far from all, but a significant portion of the change in taxes year-to-year than that is screwed up when we filed a general rate case as it was in the gas case last year and will eventually be on the electric side. So, the end of January, the Montana Commission issued the property tax tracker filing and reduced as Brian described our recovery of Montana property taxes by a total of $3.5 million and that affected both 2017 and 2018, but approximately $1.75 million that impact was in 2017. And this was a result of changing the allocation methodology between federal jurisdictional and state jurisdictional customers the method we had applied was the one that the Commission had instructed us to apply when the property tax bracket was first implemented over a decade ago.

On February 8, we filed a motion for reconsideration with the commission. If you are interested in the subject, I certainly encourage you to take a look at that filing. One of the things that we demonstrated was that in fact over time the method this Commission had previously ordered produced a benefit to customers and we requested certainly in the first instance that the method, the commission it previously employed continue to be appropriate. However, most importantly, we explained that the method should not be changed retroactively and laid out the legal analysis to support that. The commission when it issued its order at the end of January did correctly anticipated that there could be request for reconsideration, so they have as part of that order set a schedule for briefs on any request or reconsideration that might be filed. So, there will be the rounds of briefs and deliberations and we expect to see a decision by the end of March.

Next, the Tax Cuts and Job Act implementation, the South Dakota and Montana are taking somewhat different approaches, but we did file our initial proposal with the South Dakota Commission in January and anticipate an additional filing in March. And in Montana, we expect to make a comprehensive filing with the Montana Commission by the end of March. In both states, we have had good preliminary discussions with the commission and the staffs.

Next, to the power cost and credit adjustment mechanism or PCCAM, the history for those of you who don’t know is that in April of last year, the Montana legislature passed House Bill 193 and that amended a statute that had provided for mandatory recovery of our prudently incurred electric supply costs. The revised statute, which was advocated for by the commission gives the commission additional discretion. The Commission then initiated a process to develop a replacement mechanism. In July, we filed a proposed electric PCCAM that was very much in line with the Commission’s advocacy to the legislature in support of HB 193. Intervener testimony was filed in November. In December, the Commission issued a notice of additional issues stating that the range of options proposed by the parties was not sufficient and directed to parties to consider alternatives incorporating risk sharing features. On February 7, we filed rebuttal testimony and also addressed the Commission’s additional issues. Intervener additional issue testimony is due at the end of March and a hearing is now scheduled for the end of May. And the Commission may apply its eventual decision to variable costs on a retroactive basis to July of last year, which is the effective date of HB 193.

Again, in this case as well, I would encourage you to take a look at our filing of our person responsible for the administration of the supply tracker expenses on a day-to-day basis filed some very practical testimony. Crystal Lail did a fantastic job with testimony describing the specific Montana context, the history and the implications of trackers for the company. Then John Quackenbush, a former state regulator with great financial experience provided good testimony providing the larger context, including debt and equity concerns and the appropriate use of supply tracker and other tracker mechanisms that really is pervasive around the country.

Nextly, the ongoing saga of Dave Gates generating station, as you know, we did appeal parts of the FERC order, which resulted in a partial disallowance of federal jurisdictional costs that went to oral argument before the DC Court of Appeals in December and we are hopeful to see a decision there by the end of the second quarter. Final legal matter to update you on the disallowance of replacement power costs at Colstrip Unit 4 and that has now been briefed for the courts and the argument was that the decision by the commission was inconsistent with commission precedent arbitrary and capricious and we expect a decision on this appeal one way or the other within the next 12 months.

Turning to the ongoing discussion of Montana’s what we would view as a critical capacity shortfall. The chart on Page 19 that you have seen before compares the positive planning reserve margins with the negative planning reserve margin that we have in Montana. And actually this is relevant to some of the issues raised by the commission in the PCCAM docket as well and that we are quite constrained in our ability to participate in the regional market. The resource initiatives, the action items developed in the Montana 2015 plan did focus on the needs of our portfolio, including solutions to resolve our current negative planning reserve margin. Over the months of course, we have talked with you about the strategies to first of all optimize the hydro system and continue to take advantage of its great benefits, secondly, co-optimize the hydro system with our traditional thermal resources, and then thirdly, began in a very responsible way to reduce the exposure of our customers to the need for dispatchable capacity resources.

We had in implementing the plan issued an RFP, retained a third-party to administer the RFP. So, it was in essence blind to us. Reluctantly, on February 7, we terminated that solicitation process not with a result of the Montana Commission’s extension of provisions in a qualifying facility order to utilities, which has applied the utilities would essentially require that utilities be able to show benefit over a 15-year period or rather then for example over the lifetime. In the RFP we had looked at a 20-year window and obviously the difference between the 20-year window and the 15-year window the commission had ordered require that we terminate the RFP. At the same time though in addition to the other implementation activities under the 2015 plan, our supply team is well underway working on 2018 plan for Montana to be completed by the end of year as well as a South Dakota plan. The commission had issued through unusual several series of comments on the Montana plan a number of questions or concerns and we have pride, we have made modifications to the planning process to include for example public hearings, use of a third-party facilitator and the like. But we plan – planning process is well underway again in both Montana and South Dakota.

Moving to the capital spending forecast, this is in the aggregate quite similar to the 5-year forecast that we have shared with you previously. What’s different is about $123 million of previously included capacity generation investments have been removed and that is pending while updating the Montana and South Dakota plans over the rest of this year. So that’s the [indiscernible] is incremental investment related to grid modernization and automated metering infrastructure or AMI for now for Montana as well as for South Dakota and Nebraska. The Montana amount is right around $116 million. As we have discussed this before the communications platform to support AMI was intended to be – will be deployed over the entire service territory for all of our gas and electric customers and as we move ahead with planning with more visibility for the decision to include Montana deployment as part of that.

So the current estimated cumulative 5-year capital spending is now $1.596 billion. You could probably round that up if you wanted to. And we do continue to anticipate funding these expenditures with a combination of cash flows aided by NOLs through 2020 and the remainder of our current equity distribution program as well as long-term debt. And as we always highlighted if other opportunities arise that are not in these projections for example national natural gas reserves, asset acquisitions or the like, additional equity funding made the necessary. And I will close with just a couple of our brag pages. First we had and this is the most important thing when we will be holding an employee call soon as with you visiting on this call that another great safety here and that is where we start, every employee meetings. I think probably many or most utilities do and we continue to be a top performer nationally on safety. And that is closely related to the execution excellence of our folks as well.

We have the best ever JD Power scores in terms of overall customer satisfaction. We are very proud of that. That’s ultimately why we are in business. We were yet again recognized as a finalist for best proxy statement for small to mid-cap company by Corporate Secretary magazine. And we have been a finalist of a number of years and won the award in 2014. What I will highlight here is this is homebrew. This is a project that is done in-house which is notable in itself. And I think it is also makes it that much better a reflection of corporate culture and corporate governance. We were also recognized for gender diversity on our Board of Directors for 2020. By the 2020 women on-boards project and three of our company’s eight are independent directors are female. If you pay attention to our Board, we have had sadly two deaths and one retirement. We have had some significant change in our Board of Directors just over the last several years, just like the executive team that has a tremendous Board and good corporate governance really does begin with them.

And then finally on this page we have published our second annual environmental stewardship report. And I certainly do encourage you to take a look at that given the part of the country we are privileged to serve, that’s something we are very proud of. You see a photo of the cover page over to the right that’s the Mystic Dam, up high in the Beartooth mountains, it’s a stunning facility, it’s a beautiful hike. If you want to come out we will take you up there. It’s around a little train car for part of the trip. One of the neat things about this is a very, very old facility, relatively small facility, but among other things we are able to use this to meet the new FERC reliability based control transmission regime. So an old facility that’s been lovingly cared for a modernized and provides really cutting edge services for our system and for our customers.

Looking forward, we have talked about key items already, regulatory treatment of tax reform in both South Dakota and Montana and certainly eventually in Nebraska too for that matter continuing to work on the PCCAM docket and then filing an electric rate case in September. Lots of work underway is to get ready for that case right now and many moving parts, whole series of studies both with a parallel FERC case and for the Montana case. We do manage our costs, I would say extremely effectively. And through Brian’s earlier comment that includes our property tax assessments to the degree that we are able to do so, I mean successfully Montana negotiated significant decreases from the initial valuation, hats off to our tax department for their work there as well as on the federal side.

Most importantly, we continued to invest in our transmission and distribution infrastructure. The DSIP and TSIP plan that got us off to a great start was clearly a success. Now we are building on that as we think about the overall health of all parts of our infrastructure. An important part of that for us and for other local distribution companies is the PIM’s integrity verification process, a good new work that our gas transmission department in particular is doing there. And to grid modernization specifically, we have taken a very thoughtful approach to both the basic underlying investments acquiring the communications access and then layering on technology projects as those technologies became stable and provided value to our customers. And then I did highlight the planning work ongoing at both Montana and South Dakota. Standards are somewhat different, we – essentially is the same rigorous process in both states to meet the requirements in those states. I encourage you to take a look at the two plans there just by [indiscernible] they tend to be a little bit different, but those are very important documents that deal with the issues of concern to our customers and to us in those states.

And lastly as we know on an annual basis this is a very good market in which to be acquiring natural gas for both price security and delivery security to our Montana customers and to the degree that we are able to identify transactable opportunities that is something we are very interested in doing. So with that Brian is available to answer your questions.

[Operator]

[Operator Instructions] Our first question comes from Michael Weinstein from Credit Suisse. Please go ahead.

[Michael Weinstein, Credit Suisse]

Hi Brian, how are you doing?

[Brian Bird, Vice President and Chief Financial Officer]

Alright. Thank you.

[Michael Weinstein, Credit Suisse]

It’s interesting that I guess that the lower generation CapEx in the current forward plan you were able to make up that with more grid modernization CapEx and which I assume is kind of an acceleration of previous plans into the current 5 years. Just looking forward, you lowered the total return target 1% to 6% to 9%, does that mean – I am just wondering what’s the push and pull in that, there used to be about $1.3 billion of potential generation CapEx over like almost a 10-year period assuming that this lowering of the targeted range by 1% accounts for that being significantly reduced I am presuming...

[Brian Bird, Vice President and Chief Financial Officer]

I am sorry Mike I didn’t mean to interrupt you that.

[Michael Weinstein, Credit Suisse]

I am just wondering how much of that is offset by grid CapEx going forward?

[Brian Bird, Vice President and Chief Financial Officer]

Yes. I think as you think about the midpoint of our guidance even for 2018 that means if we are able to achieve our plan, we should be able to perform within that return profile and the thought processes that I did demonstrate earlier on the slide when we are able to grow our business with investment in generation, we were able to perform at a high range at the high end of our 7% to 10%. And I think kind of look at the 6% to 9% as the same point if in fact we are able to reinvest in supply on a going forward basis particularly to deal with our capacity shortfall, I expect that we would be at the high end of our range. Until that becomes a reality in some form or fashion, I expect that we are going to be in the low to midpoint of that range. And I would add – I just add as we point out here if we see continued regulatory headwinds, it’s going to be difficult to even achieve in the near-term that 6% to 9% range.

[Bob Rowe, President and Chief Executive Officer]

And I would just add a bit of a friendly amendment to your question in both electric supply and transmission and distribution, we are really thinking about orderly sensible investment plans. So as to AMI, for example, the question is what’s the thoughtful sequence to proceed with our deployment strategies. And I think that’s what’s reflected in the plan. Obviously, lot of work has been done by our asset management and automation folks over the month to get more clarity there. The same thing is really true on the supply side. And what we had just to Montana electric supply specifically in the 5-year capital of coming out of the 2015 plan was relatively small bet in terms of the overall identified need. And as we have discussed in response to regulatory concerns in Montana, we have pulled those investments out of the plan. There is some risk associated with that very clearly and then we will see where we are coming out of the plan that we will file this year, obviously, there have been policy market developments as well that we will factor in, into that plan, but the world that we are looking at still have some of the basic characteristics in whatever comes out of the Montana South Dakota plans to the degree that it requires capital that’s going to be reflected in our future capital forecast.

[Michael Weinstein, Credit Suisse]

Right, understood. This next long-term procurement plan, how is that going to differ from the last one in terms – what conditions would you want to see before you reinitiate another RFP, I mean, am I correct in inferring that you need at least 20-year contracts to be approved or at least 20 years of security behind rate base?

[Bob Rowe, President and Chief Executive Officer]

It’s really early to say what we would be looking for at this point. As part of the plan in South Dakota, we are going to be building on our experience integrating into the Southwest power pool and changing operations there. We are also looking at the no offense to our supply folks, the antiquity of some of our fleet and evaluating the efficient operation of those units. So, that’s a study going on that will be included in South Dakota. In Montana, we are again looking at the same kinds of challenges that we did in the 2015 plan, but as regional developments move forward and as we look at how we are going to interact with the larger region that will be a factor, the concern to say that in responding to the region you have got to bring something to the table in order to participate.

[Michael Weinstein, Credit Suisse]

Hey, one last question for Brian and then I will see the floor. Could you explain how much of the property tax hit is an ongoing figure, is it just that $1.7 million a year, is the ongoing hit into 2019, 2020 and beyond unless you are successful in getting FERC recovery for that portion of the allocation?

[Brian Bird, Vice President and Chief Financial Officer]

Yes, I think what you need to do from the portion that’s going to Montana think of the 1.7 in ‘18 – the ‘17 that will continue on a prospective basis and going forward basis, but we also have to get recovery on a going forward basis in FERC. And by the way when we go in for a rate case in Montana we will reset the base for property taxes as a whole and start over again. One of the things to probably point on property taxes is that from a recovery standpoint the amount that we are able to recover on a going forward basis is kind of one minus the tax rate. So, since the tax rate has come down ability to recover through the tracker should go up as well. So, this is moving parts there.

[Michael Weinstein, Credit Suisse]

Got it. Okay, thank you very much.

[Bob Rowe, President and Chief Executive Officer]

Thank you.

[Operator]

Our next question comes from Nick Campanella from Bank of America/Merrill Lynch. Please go ahead.

[Nick Campanella, Bank of America/Merrill Lynch]

Hi, good afternoon.

[Bob Rowe, President and Chief Executive Officer]

Hi, Nick.

[Nick Campanella, Bank of America/Merrill Lynch]

Hey, before tax reform you talked about upward pressure on the tax rate, sorry if I missed it in your remarks, but do you still – is that still going to happen with this new guidance on your tax rate now. Should we expect it to slightly increase through your forecast period?

[Brian Bird, Vice President and Chief Financial Officer]

Actually, Nick thanks for pointing that out. I didn’t share that on a long-term basis and solely focused on 2018 with 0% to 5% for 2018. And on our long-range plan, in fairness, we do expect some upward trajectory there, but as a result of this tax reform that increase will be much less and the range that we would show over the next 4 years would be in that 3% to 8% range if that’s helpful to everyone.

[Nick Campanella, Bank of America/Merrill Lynch]

Very helpful. Thank you. And then just your comments on cash flow given tax reform how should we think about FFO to debt if you can maybe tell us what you’re targeting in ‘18?

[Brian Bird, Vice President and Chief Financial Officer]

Well, what we are targeting is we want to be – we would like to be certainly even higher than this, but we certainly want to be in that 15% to 16% range on a going forward basis and obviously over time we would like to be a little bit higher, but we certainly need to be in that range I think from maintaining our ratings. And again, that’s a only portion of the ratings, the regulatory environment is another portion of the ratings. So, I want to make very, very clear even if we can maintain those ratings, we have a difficult regulatory environment – excuse me, maintain those types of FFO to debt numbers other things could impact our ratings, I know you are aware of that.

[Bob Rowe, President and Chief Executive Officer]

I would add to that the metrics including FFO to debt are in significant part driven by regulatory outcome.

[Brian Bird, Vice President and Chief Financial Officer]

Fair enough, Bob. Good point.

[Nick Campanella, Bank of America/Merrill Lynch]

Fair enough. That’s all from me. Thanks.

[Bob Rowe, President and Chief Executive Officer]

Thanks Nick.

[Nick Campanella, Bank of America/Merrill Lynch]

Thanks.

[Operator]

Our next question comes from Chris Ellinghaus from Williams Capital. Please go ahead.

[Chris Ellinghaus, Williams Capital]

Hey, good afternoon Bob, Brian and all the relevant traverses out there.

[Bob Rowe, President and Chief Executive Officer]

Hi, Chris.

[Chris Ellinghaus, Williams Capital]

Bob, you are talking about it’s little too early to talk about what’s your thought processes on the terms required for new supply resources, is part of your thought process going to be – it’s pretty traditional for utilities to use 30-year financing. Is that going to be part of your sort of calculus in determining what you think those terms need to be?

[Bob Rowe, President and Chief Executive Officer]

Yes, it really is too early to say. The driver is going to be in the planning side of a plan that identifies what our customers’ needs are and then you look at what the options are that best meet those needs usually do that through an RFP. What – it’s not so much a financing question has as it is a cost effectiveness and a recovery question. Typically including in Montana regulators have wanted long asset lives for owned resources to feather the cost impact to customers and to provide some generational equity for resources that are going to have the greatest value in the out years. So as we looked at this 15-year period for to essentially show a benefit, but it’s contrary to what typically regulators expect and it’s hard to imagine how you would do if you were to make a commitment to a resource and then essentially doing a re-look in 15 years, the customers will have been receiving the benefit of depreciation for the first 15 years, would you then if it turned out there is even greater value in the resources of what the market was doing with customers we expected to payback some kind of a dividend to the company that doesn’t make sense. So the 15-year notion is just so at odds with other parts of the regulatory method that we need clarity to understand how it would apply and we can’t realistically make resource decisions until that is addressed. In a specific situation with the RFPs we asked for resources on a 20-year basis, so right out of the gate for 5 years past what the commission has required. But most importantly we are now well into the next planning cycle, so we will just see where that goes and what the commission will work over the rest of the year to try to get more clarity.

[Brian Bird, Vice President and Chief Financial Officer]

All I would add to that, I think your point Chris early on is fair. I mean obviously long lived assets historically have been able to allow us to track 30-year financing and it will be difficult to look to those tenors if in fact 15 years is – as a debt investor I would be concerned of course to the lending beyond the risk period if you will. So it’s something we ought to factor that in as we develop a plan this year.

[Bob Rowe, President and Chief Executive Officer]

Mismatches is what’s troubling us and to the degree that regulatory actions create risk that otherwise exist, that risk needs to be compensated. And what we are saying unfortunately now is a series of actions just triggering concern both on the equity and debt side that from the view of investors is creating risk that’s not compensated.

[Chris Ellinghaus, Williams Capital]

Right. Along the same lines, Brian you have included the supply request in the guidance range, is there some obviously you have got some concern about credit ratings that should the supply docket results in a less favorable outcome. It seems like you have some risk to your guidance and to credit ratings, is the commission aware of those risks to the equity side and the credit side as far as what the outcome of that docket will be?

[Brian Bird, Vice President and Chief Financial Officer]

I would like to think that they are I know various sell-side reports have been shared with commission staffing and commissioners. I know the recent Fitch rating and the negative outlook and therefore report was shared with the commission staff. And so I believe there is an awareness, but I can’t speak for the commissioners.

[Bob Rowe, President and Chief Executive Officer]

I will add to that, I did mention John Quackenbush’s testimony in the docket, it is first rate, it is professional. And he does attend to his testimony most of the relevant reports.

[Chris Ellinghaus, Williams Capital]

Okay. Couple of quick questions on the ATM. Do you expect to fulfill the 2018 portion throughout the year, early in the year? Can you give us some clarity on that?

[Brian Bird, Vice President and Chief Financial Officer]

Yes, I can at this point in time, Chris I am not sure myself when we will do that, I just believe we were committed to get it done by the end of the year.

[Chris Ellinghaus, Williams Capital]

Okay. Can you give us a little color on the weather year-to-date so far?

[Brian Bird, Vice President and Chief Financial Officer]

Yes, I would tell you that we would have wished it was a little colder in January.

[Chris Ellinghaus, Williams Capital]

Okay. Thanks.

[Bob Rowe, President and Chief Executive Officer]

With the hydro system, we pay a lot of attention to moisture content and snowpack and we are having a very good year. Interestingly, last year was a little bit light, but with the diversity in [indiscernible], we were still pretty close to the overall targeted capacity factor for the system and this year things look great.

[Brian Bird, Vice President and Chief Financial Officer]

Yes, February is a bit colder, so that’s been helping too.

[Bob Rowe, President and Chief Executive Officer]

Okay. And on the economic development front, if you are skier, come to Montana.

[Chris Ellinghaus, Williams Capital]

I will not.

[Bob Rowe, President and Chief Executive Officer]

Chris maybe I wasn’t talking to you.

[Chris Ellinghaus, Williams Capital]

Thanks so much, guys. I appreciate it.

[Bob Rowe, President and Chief Executive Officer]

Thanks, Chris.

[Operator]

Our next question comes from Paul Ridzon from KeyBanc. Please go ahead.

[Paul Ridzon, KeyBanc]

Bob, did I hear you say that maybe the market was improving for potential gas reserves?

[Bob Rowe, President and Chief Executive Officer]

From a customer perspective, I would say the market continues to be positive, I certainly wouldn’t say it’s improving though.

[Paul Ridzon, KeyBanc]

Okay. And then Brian, you said that in the next several years tax rate should increase, but is that uplift smaller than it was before tax reform?

[Brian Bird, Vice President and Chief Financial Officer]

Yes, I think it is. You heard my 3% to 8%, I think we were looking some for something closer as approaching 20% as we spoke about in the past and obviously as tax reforms put downward pressure on, you could argue that on a percentage basis going to 0 to 5 to 3 to 8 might be similar to percentage basis, but other thing to keep in mind, a lot of these investments that we are making continue to get repairs deductions, things like meters get those types of deductions too as we continue to focus on means to keep our taxes down in addition to the benefits of tax reform and so that will help keep downward pressure on those rates. So, again, ultimately all of those benefits captured for the benefit of customers and rate cases and obviously for 2018 as a result of tax reform through the process that we are going through our dockets now.

[Paul Ridzon, KeyBanc]

In that 3% to 8% uplift is over what time period?

[Brian Bird, Vice President and Chief Financial Officer]

However, that’s 4 years beyond. So over the 5-year time horizon you could argue 0 to 8 correct 0 to 5 if you are talking about for ‘18, but so I was saying over the next 4 years past ‘18. Is that helpful?

[Paul Ridzon, KeyBanc]

Yes. And then just to clarify on your ‘17 to ‘18 earnings bridge, some big moving pieces there, but that’s really just the impact of tax reform here in the revenue line?

[Brian Bird, Vice President and Chief Financial Officer]

Yes, that’s the biggest impact on gross margin. There are a couple of other things that we have learned obviously since we provided this last guide, but tax reforms is the biggest drivers moving things here.

[Paul Ridzon, KeyBanc]

And when would you expect the discussion in Nebraska to take place about what to do about tax reform?

[Brian Bird, Vice President and Chief Financial Officer]

That’s a good question, I think as you know it’s a very, very small part of our business. I think we will likely be seeing as we need to do the math even what that impact would be to Nebraska customers and think about that from a rate case perspective and it will continue to have a dialogue there as well.

[Paul Ridzon, KeyBanc]

But in the interim, you will just kind of reserve for all three jurisdictions?

[Brian Bird, Vice President and Chief Financial Officer]

Correct. And I think that the thing to point out here I just want to be very, very clear that $15 million to $20 million is a consolidated number.

[Paul Ridzon, KeyBanc]

Understood. Thank you very much.

[Bob Rowe, President and Chief Executive Officer]

Thanks, Paul.

[Operator]

Our next question comes from Jonathan Reeder from Wells Fargo. Please go ahead.

[Jonathan Reeder, Wells Fargo]

Hi, good afternoon. It’s revised Montana and South Dakota IRPs again determine the new generation capacity if needed. What’s kind of the earliest possible timeframe we could see some CapEx materialize?

[Bob Rowe, President and Chief Executive Officer]

I would be very careful getting too far ahead of that question will have the plans done by the end of the year and then any action capital or otherwise will flow out of that.

[Jonathan Reeder, Wells Fargo]

Maybe asking another way, I mean do you expect like some of the $123 million of CapEx that you pulled out could come back into the forecast over this 5-year period?

[Brian Bird, Vice President and Chief Financial Officer]

Yes. I think in fairness, Jonathan, certainly over that 5-year period as you rollout anything we do from a generation perspective, I believe there would be dollars within that 5-year plan, but we have to wait and see what those plans – ultimate what plans will show and keeping the skiing analogy going we certainly don’t want to get ahead of our skis at this point in time.

[Jonathan Reeder, Wells Fargo]

Okay, that’s fair enough. And then remind us what’s driving the expectations for the lower OG&A in ‘18 versus ‘17 I think like half of it relates to the end of deferred DSIP expensing amortization?

[Brian Bird, Vice President and Chief Financial Officer]

You hit the major one right out of the blocks right there just for everyone’s knowledge there. We were amortized the upfront costs for DSIP and that last year was the final year of that. So, that’s going away as the significant portion. We have scheduled maintenance that’s schedule over let’s say a 3-year period. We do not have any significant maintenance associated with that as well. We are making a significant amount of investment in technology obviously as our plans continue to show that and all of the work we have done on DSIP continues to help reduce reactive expenses. But lastly, I want to say as an overall company, we are trying to manage headcount we are trying to manage costs, because it’s difficult in this particular environment to continue to provide the earnings growth and ultimately we are trying to do what we especially can in terms of returns for our shareholders and we also do understand that reduction in these costs ultimately alter the benefit of customers and we think that’s important on the lung run as well.

[Jonathan Reeder, Wells Fargo]

Okay, so the major one, it’s just a lot of other kind of ways that you are trying to run the business more efficiently in realizing some of the benefits of those investments made in DSIP?

[Brian Bird, Vice President and Chief Financial Officer]

Yes.

[Jonathan Reeder, Wells Fargo]

Okay. And then Brian, we need to issue long-term debt this year to kind of permanently finance the outstanding revolver balance?

[Brian Bird, Vice President and Chief Financial Officer]

We typically have – each year we typically have some debt issuance in our plans. They have been mitigated to an extent by the ATM issuance, but I guess I am not prepared to speak to exactly what our issuance would be, but I would argue it’s going to be less than we have done in prior years. If you consider the fact that our CapEx is relative to the same on a year-over-year basis and we are doing again finishing up the ATM program it’s going to – you will see lower debt amounts than have been in our plans in the past. And again, that’s kind of continuing output downward pressure on our debt to capital also help our coverage ratios on a going forward basis.

[Jonathan Reeder, Wells Fargo]

Okay. I just thought the revolver is kind of carrying a higher balance where you may have to kind of clear that out? Is that not the case or…

[Brian Bird, Vice President and Chief Financial Officer]

Anytime that we issue long-term debt that there is the ability to reduce obviously your short-term debt at that time.

[Jonathan Reeder, Wells Fargo]

Okay. And then last, can you kind of briefly walk us through how I guess you plan to utilize all the $420 million of federal NOLs by 2020 given just the 8% effective tax rate expectations?

[Brian Bird, Vice President and Chief Financial Officer]

Yes. I think obviously you have got a lower tax rate of course that helps, but you also have no bonus which certainly hurts. And so even though we have kind of pulled in that NOL benefit is a net result of all that really 1 year from 2021 into 2020, we won’t actually be a full cash taxpayer until 2022, because we still have some AMT and PTCs that we have benefit of for those 2 years as well, so significantly continue to stay focused on tax in terms of trying to maintain the non-cash status.

[Jonathan Reeder, Wells Fargo]

Okay, thanks. I appreciate the color.

[Brian Bird, Vice President and Chief Financial Officer]

Thanks Jonathan.

[Operator]

There appears to be no other questions at this time.

[Bob Rowe, President and Chief Executive Officer]

Okay. Well, thank you for the good questions and discussion. We look forward to seeing many of you over the coming months and visiting with hopefully all of you in April. Take care.

[Operator]

This does conclude our conference for today. Thank for your participation. You may disconnect.