AES Corp

NYSE:AES

Earnings Call Transcript 2020-Q4

[Operator]

Good day and welcome to the AES Corporation Q4 2020 Financial Review Conference Call. Today, all participants will be in a listen-only mode. [Operator Instructions] As a further reminder, today's event is being recorded.

At this time, I would like to turn the conference over to Ahmed Pasha, Treasurer and Vice President of Investor Relations. Please go ahead, sir.

[Ahmed Pasha, Treasurer and VP, IR]

Good morning, everyone, and welcome to our fourth quarter and full year 2020 financial review call. Our press release, presentation and related financial information are available on our website at aes.com. Today, we will be making forward-looking statements during the call. There are many factors that may cause future results to differ materially from these statements, which are discussed in our most recent 10-K and 10-Q filed with the SEC. Reconciliations between GAAP and non-GAAP financial measures can also be found on our website along with the presentation.

Joining me this morning are Andrés Gluski, our President and Chief Executive Officer; and Gustavo Pimenta, our Chief Financial Officer.

With that, I will turn the call over to Andrés. Andrés?

[Andrés Gluski, President and CEO]

Good morning, everyone, and thank you for joining our fourth quarter and full year 2020 financial review call.

This morning, I will provide an update on our major financial and strategic accomplishments, which position us well for the future. Some of you may recall that last year, I set out three short-term catalysts for our stock: hitting our numbers, getting a second investment-grade rating, and becoming Norges Bank coal generation compliant.

In 2020, we delivered on all three metrics and set ourselves up for continued progress. First, let me talk about hitting our numbers. We delivered adjusted earnings per share of $1.44, which was above our guidance range of $1.32 to $1.42. Our parent free cash flow came in at $777 million, which also exceeded the top end of our range of $725 million to $775 million. Second, in November, S&P upgraded us to an investment grade rating of BBB-, joining Fitch, which had upgraded us in 2019.

Third, by selling a retiring coal plant and building new renewables, we will reduce the percentage of megawatt hours being produced by coal plants to 25% on a pro forma basis, which is comfortably below Norges Bank threshold of 30%. All of these results reflect the resilience of our business model, which is anchored on long-term dollar denominated contracts with investment grade off-takers and U.S. regulated utilities.

In addition to these achievements, in 2020 we continue to advance our leadership in innovation and new green technologies. We signed 3 gigawatts of long-term contracts for renewables, which is also at the top end of our range of guidance of 2 gigawatts to 3 gigawatts.

As you can see on Slide 4, these 3 gigawatts of new renewable PPAs are mostly in the U.S. and South America. In the U.S., we have merged our two development companies AES Distributed Energy and sPower into one entity, AES Clean Energy, to better take advantage of synergies and economies of scale. In South America, our renewables growth was fueled in part by the continued success of our Green Blend and Extend negotiations, which combined new renewables with existing long-term conventional capacity contracts.

With the addition of these 3 gigawatts of new PPAs, our current backlog of projects reached 6.9 gigawatt as shown on Slide 5. About half of the total solar and most of the remainder is wind and energy storage; 100% of our backlog is renewable. We expect to bring almost 4 gigawatts of this backlog online in 2021, one of the largest capacity additions in AES' history.

Finally, turning to Slide 6. Fluence, our joint venture with Siemens to provide energy storage systems, maintained its global leadership position and signed 785 MW of new capacity. Its revenues grew 400% versus the prior year and they acquired AMS' leading AI-enabled bidding software business. A capital raise was also announced with the Qatar Investment Authority, which will provide funds to further accelerate the development of its digital product offerings and the deployment of its systems around the world.

As you can see, we are very well positioned to continue our solid renewables growth, aggressive decarbonization and deployment of leading technology innovations. The electricity sector is changing rapidly and we will be providing a comprehensive view of AES' long-term plans and opportunities in this new environment, next Wednesday, March 3 at our Investor Day.

Now let me turn the call over to Gustavo, who will provide more color on our financial results for 2020 and guidance for 2021.

[Gustavo Pimenta, CFO]

Thank you, Andrés, and good morning everyone.

Today, I'll cover the following key topics: our financial performance during the fourth quarter and full year 2020, our capital allocation initiatives in 2020, and our 2021 guidance. As Andrés mentioned, our results for 2020 highlighted the resilience of our business model. We delivered a strong financial performance while navigating challenging macro conditions, including the impacts of lower demand due to COVID-19 and a record dry hydrology in Colombia. We finished the year on a strong note, setting a solid foundation for continued growth.

Turning to Slide 8. Full year adjusted EPS of $1.44 exceeded the top end of our guidance range and was at the midpoint of our regional pre-COVID guidance range. As I noted, the key negative impacts on our results were from lower demand and adverse hydrology. Our generation business, which accounts for more than 80% of our earnings, is largely insulated from demand fluctuations.

However, as we have discussed in the past, our U.S. utilities did experience a reduction in demand due to the economic impact of the pandemic. Although there has been a gradual recovery in demand in the second half of 2020, the impact on a full year basis was approximately $0.04.

Regarding hydrology, we experienced average hydrology in most of our markets, except in Colombia, where it was one of the worst hydrological years on record. The total impact of hydrology on our full year results was approximately $0.05 in South America, primarily in Colombia. We expected the hydrological conditions to be normal in Colombia in 2021, in line with the long-term historical average and have already observed this trend in the year-to-date.

Despite the headwinds from these two areas, we are able to deliver on our full year guidance as a result of higher contributions from new businesses and improved operating performance in South America. We also benefited from our cost savings initiatives, interest expense savings, resulting from $7 billion of refinancings across the portfolio and a lower adjusted tax rate.

Turning to Slide 9. Adjusted pretax contribution, or PTC, was $1.2 billion for the year, an increase of $7 million versus 2019. I will cover our results in more detail over the next four slides, beginning with the U.S. and Utilities SBU on Slide 10.

As you may have seen yesterday, we have rebranded our U.S. Utilities, DP&L and IPL, to align with the new AES brand. So now on, these businesses will be known as AES Ohio and AES Indiana, respectively. In 2020, lower PTC at our U.S. and Utilities SBU reflects the impact of the reversion to ESP1 rates at AES Ohio in 2019 and lower demand at our utilities due to the impact of COVID-19 and milder weather. These impacts were partially offset by the benefit from the commencement of PPAs at the Southland Energy CCGTs as well as the contributions from new renewable projects.

Higher PTC at our South America SBU was largely driven by higher contributions from AES Gener and a favorable revision of regulatory charge at AES Tiete in Brazil. These impacts were partially offset by drier hydrology and a planned major outage at the Chivor hydro plant in Colombia and the regulatory changes in Argentina in 2019. Lower PTC at our MCAC SBU primarily reflects the impact from insurance recovery in prior year as well as outages incurred in 2020 in Dominican Republic, partially offset by improved availability in hydrology in Panama.

Finally, in Eurasia, higher results reflect lower interest expense due to the debt repayment in 2020 in Bulgaria, partially offset by the impact of businesses sold in the United Kingdom in 2019.

Now turning to our credit profile on Slide 14. Our significantly reduced parent debt and growing free cash flow enabled us to improve our credit metrics by 400 basis points since 2018. At the end of 2020, our parent free cash flow to net debt ratio was 23%, well above the 20% threshold required for an investment-grade rating.

Strong credit metrics remain one of our top priorities, and we continue to take steps to maintain and further improve upon current levels. Furthermore, we took advantage last year of a low interest rate environment and refinanced approximately $7 billion of debt across our portfolio, extending maturities and capturing annualized interest savings of $90 million.

Now to our 2020 parent capital allocation on Slide 15. Beginning on the left-hand side, sources reflect $1.3 billion of total discretionary cash. Asset sales of $530 million reflect the net proceeds from the sale of OPGC and the sell-down of 35% of our interest in the Southland Repowering projects. Parent free cash flow of $777 million exceeded the top end of our expectation.

Moving to uses on the right-hand side. Roughly, 1/3 of our discretionary cash was allocated to shareholder dividend and debt repayment. We invested $812 million in our subsidiaries, primarily in our renewables backlog, Southland repowering and AES Ohio. Approximately 90% of the total investments in subsidiaries were in the U.S., contributing to our goal of increasing the proportion of earnings from the U.S. to about half.

Turning to our guidance on Slide 16. Today, we are initiating guidance for 2021 adjusted EPS of $1.50 to $1.58, in line with our average annual growth target of 7% to 9%. Parent free cash flow for 2021 is expected to be $775 million to $825 million, which is based on 7% growth from the midpoint of our 2020 expectation of $750 million.

Key drivers of our expected growth in adjusted EPS in 2021 include: a full year of operations of our 1.3 gigawatt Southland Repowering project, which came online in mid-2020; continued growth in renewables, including 4 gigawatts expected to reach commercial operation this year; efficiency gains from cost savings in our digital initiatives; and an interest savings due to refinancing benefits and completed that reduction. We look forward to discussing our long-term growth rates and drivers with you all at our Investor Day next week.

With that, I'll turn the call back over to Andrés.

[Andrés Gluski, President and CEO]

Thank you, Gustavo.

Before we take your questions, let me summarize today's call. Thanks to the extraordinary dedication of our people and the resilience of our business model, we've met or exceeded all of our strategic and financial goals in 2020. We are very well positioned to capitalize on significant growth opportunities arising from the rapid transformation of our sector. As always, our primary focus is to continue to deliver superior returns to shareholders. We look forward to discussing our strategy and longer-term financial outlook with you at our Investor Day next Wednesday, March 3.

With that, I would like to open up the call to your questions.

[Operator]

[Operator Instructions] Today's first question comes from Angie Storozynski with Seaport Global.

[Agnieszka Storozynski, Seaport Global]

So two quick questions, one on your of 21 guidance, what effective tax rate is embedded in that guidance and is this an indication that you are actually expecting lower effective tax going forward?

[Gustavo Pimenta, CFO]

So Angie, Gustavo. No, I think we are - I mean, we had a - this year, 2020 was particularly lower, around 23%. For 2021, we're expecting to go back to our original expectation on the mid-20s to high 20s.

[Agnieszka Storozynski, Seaport Global]

And then one of the points, a drag, year-on-year drag on your '21 guidance is some GSF adjustment in Brazil. Could you explain?

[Gustavo Pimenta, CFO]

Yes. So we had this positive gain there, but we also had especially in Colombia, some negative, call it, one-timer hit. So we had a life extension project there that was about $0.05 to $0.06 negative. So when you look at both businesses, they pretty much net each other out. So I wouldn't expect any drag from the hydro businesses in 2021.

[Agnieszka Storozynski, Seaport Global]

Okay. And I know that you're going to be talking about strategy and longer-term growth plans only next week, but do you have any sense when Moody's could review your rating?

[Gustavo Pimenta, CFO]

Look, they came earlier this year and with a positive update on their credit view for AES, basically lowering the overall FFO to debt on a consolidated basis to 14% versus 16%. We are seeing us there, very close to these ratios. So we are positive. I think they will - we expect them to make a move hopefully this year. We'll see what is exactly the move that they make. But the ratios are there, and we think we're in a positive moment with them.

[Agnieszka Storozynski, Seaport Global]

And then again, I know the Analyst Day is next week, but can you comment if you see yourself issuing equity any time soon, like, say, over the next 5 years?

[Andrés Gluski, President and CEO]

Yes. Hi. Angie, this is Andrés. Look, that's one of the tools available to us. And it depends, we'll see the growth rates we have. We have a lot of opportunities. So that's one of the tools in our kit.

[Operator]

The next question comes from Richard Sunderland with JPMorgan.

[Richard Sunderland, JPMorgan]

Just want to start off maybe on the events in Texas last week. What do you see as the role for storage in the state going forward? And how might AES benefit from the deployment of storage locally?

[Gustavo Pimenta, CFO]

Sure. Look, storage can be used to make a more resilient grid definitely. And so I think that storage, the potential for growth in storage is enormous. What particularly happened in Texas, of course, was that you don't have capacity payments. So you didn't have really an incentive to winterize a lot of the existing plants into fossil plants and also, quite frankly, the wind turbines. Interestingly, solar performed very well. So I think the follow-on is, yes, people are going to be concerned about more resilient networks and storage can play a part, transmission, it can also play a part locally.

So I do think that this will cast more light, more attention on energy storage as part of a more resilient grid.

[Richard Sunderland, JPMorgan]

So do you see kind of a different opportunity for solar than for solar plus storage or just storage in general going forward as a result of the events? Or do you think it's more markets dying issues and kind of other specific factors that may be due to change?

[Andrés Gluski, President and CEO]

Well, my own personal opinion is that when you have a market where you don't remunerate capacity, I think is one of the key sources. Having said that, and of course, energy storage has many uses. It's not only solar plus storage, wind plus storage, stand-alone storage, but also to make improved transmission with existing lines, so you don't have to upgrade the whole line. So all of these, attention to the robustness of the grid and the network, is a positive for future sales of energy storage.

[Richard Sunderland, JPMorgan]

And then just one specifically on the '21 guidance here. Any way to frame assumptions around asset sales, coal sales baked into '21 guidance versus what has been announced last year into this year?

[Gustavo Pimenta, CFO]

Yes, this is Gustavo. So all of the announced asset sales and retirements are incorporated. Effectively, we have India that closed late last year, so it's in here. We've said Vietnam, which was the other large one, would probably close between the end of this year, early next year. So it doesn't hit 2021. But effectively, all of the announced asset sales and retirements are incorporated in this 2021 guidance.

[Richard Sunderland, JPMorgan]

And are there placeholders for incremental sales as well?

[Gustavo Pimenta, CFO]

I mean, if they happen, they'll probably close later. So specifically for 2021, wouldn't make any difference here.

[Operator]

The next question comes from Stephen Byrd with Morgan Stanley.

[Stephen Byrd, Morgan Stanley]

I wanted to explore your corporate partnership with Google and just get your overall views on the degree of interest you're seeing from other companies to partner with AES, given AES' global reach in renewables and storage capabilities to help those corporates to achieve zero emissions. Is that an area you're encouraged by?

[Andrés Gluski, President and CEO]

Very much so, very much so. We've talked in the past about our relationship and partnership with Google, that continues to progress. But we're also seeing interest from other similar players, about - 24x7 renewables. So definitely, we're encouraged by this. And the fact that we have presence in other markets is an additional plus, not immediately, but down the road.

[Stephen Byrd, Morgan Stanley]

Okay. So it sounds like something in the long term you're excited about, but nothing near term, but something we could see over time. Okay.

[Andrés Gluski, President and CEO]

No, I wouldn't say so long term.

[Stephen Byrd, Morgan Stanley]

Okay. That's great. And then I guess just stepping back, maybe building a little bit on Angie's question on financing. You have a really great growth outlook in many different asset classes. And I was just curious, just at a high level as you think about just innovative financing approaches, financing tools out there, there certainly - strikes me, there's a lot of folks who love to provide capital to high-quality clean energy and storage projects. Are you seeing anything sort of new in terms of innovation? And as AES gets bigger and bigger in renewables, just different approaches to financing all of this growth?

[Gustavo Pimenta, CFO]

Well, it's a great question. Over the past, let's say, 8 years or so, we've sold about $6 billion of assets. And we have churned that money, right? And that's provided impetus for a lot of our new growth. We've also done partnerships. So those continue to - we'll continue to do asset sales, and we continue to do partnerships.

So you're right. We're seeing a lot of interest in people co-investing with us in different shapes or forms. So this is very positive. I think we have a good reputation as a partner, who really looks at all shareholders in these joint ventures. So you're absolutely right, we're seeing a lot of new things.

As you know, in the past, I'd say the one thing that did not come to fruition really was the effort that Tom led for about a year. Honestly, without COVID, it would have come to fruition, which was quite innovative. But as I always said back then, this was extra. We didn't need it to finance our growth. That was just a plus. So we're seeing, again, a lot of people who are interested in partnering with us and are different technology plays.

[Operator]

Today's next question comes from Julien Dumoulin-Smith with Bank of America.

[Julien Dumoulin Smith]

Congratulations, again. Perhaps, just to kick it off here on '21, and I'm going to try to hold back ahead of next week, obviously. But can you talk about the renewables contribution here in earnings as well as Fluence? How are you thinking about those two pieces? And especially, as you try to refine your expectations and given the success on renewable backlog here, I get renewables are not necessarily homogenous. But how do you think about renewable earnings contributions here?

And I know this is getting a little bit ahead of next week, but can you speak to it especially in the context of '21, for both Fluence and renewables?

[Andrés Gluski, President and CEO]

Yes. Let me start it, and then I'll pass it over to Gustavo. So look, next year is very interesting just from a cutting ribbon point of view. We have 4 gigawatts that's coming online. So that represents PPAs, which were signed in the past. And this is one of the highest additions to our fleet in our history in a single year. So that we feel very good about. So the second thing is, as you correctly pointed out, our renewables come in different flavors. So about half is outside the U.S. and about half is solar, and about half is - there is some hydro coming online but there is mostly wind, some energy storage.

Regarding Fluence, I would say that Fluence will not be a contributor to earnings next year because it's in a very rapid growth phase. What we see is a big increase, an acceleration in demand for energy storage as more uses are seen. And there were some questions about - prior on this call about grid stability. And then yes, it can play an important role in that.

So we see growth accelerating in Fluence. And basically, as a result of that, it's harder to hit that break-even. But I would say that in terms of - it's just a little bit postponed in time because you're gearing up. Now we came out with the new cube stack. We also bought the AI-enabled bidding platform from AMS and that's a very interesting addition.

And we've had sales of AMS bidding engine, actually not using Fluence's hardware. So generally, I would say that this kind of software platforms have less capital-intensive than building the cube stack itself. So that will help us turn profitability sooner. But there's this trade-off between very rapid growth and starting to break-even. But we feel very good about the company.

So I'll pass it now to Gustavo to talk a little bit about the breakdown of our earnings. Now I realize a lot of these things are somewhat tied together because you have like Green Blend and Extend. So you basically have a capacity contract with a fossil plant plus renewables being added on to that.

So with that, I'll pass it on to Gustavo.

[Gustavo Pimenta, CFO]

Thanks, Andrés. So Julien, I would say that 2021 is mostly driven by new additions. So remember, we had just half of the year for Southland, so we're going to have a full year of Southland, that's about $0.04. And then renewables altogether - we are bringing 4 gigawatts online, as Andrés said. Renewables altogether is about $0.05. So the delta 2021 is mostly driven by those additions. And then you have some items that offset each other. So there was a drag on tax. Tax was particularly lower. But we have recovered, for example, in the demand side from the Utilities, we're expecting some recovery there. We have the cost cuttings also that will offset some of the drag from tax.

So if you clean all of that, I would say mostly of the growth of - primarily the growth is coming from the new additions, being Southland full year and $0.05 from renewables.

[Julien Dumoulin Smith]

Excellent. If I can ask you the obvious question here. Your target for annual development, I suppose, is 2 to 3 gigs, [technical difficulty] 4 gigawatts next year. Obvious question is, how do you think about that long-term target? And then related, given your comment on continued drag on Fluence, why hold on to a business that continues to drag your primary valuation metric in light of accelerating and improving outlook?

[Gustavo Pimenta, CFO]

Sure. Let's see. Let me take the first question, which was about the renewables growth. So we have 2 years where we've basically been about 3 gigawatts. Now when we talk about that, that's PPA signed. So those will be brought online normally in a period within 24 months, probably the average is about 18 months. So there's a lag there. So we have had two very strong years. So 4 gigawatts are going to come online, that means they're actually coming online. So the goal is sign PPAs.

The second is - which are actually going to start contributing to your earnings. So we see continued acceleration, let's say, in the renewables business. So we feel very comfortable. It's no longer sort of 2 to 3, it's more a 3-plus going forward. And this could - we'll be talking about this on Wednesday, I don't want to get too ahead of us.

Now regarding Fluence, and really we do have a number of unicorns that we've done. It started with Athimos in Brazil, which was the telecom fiber optic rings, that we had distributed energy, Fluence is one. And we have another - some more potential ones that we're developing. So I would say that we're creating a lot of, lot of value with Fluence in two different ways. First, half of our renewable PPAs that we're signing have an energy storage component. So right there, it makes us competitive, really understanding how to use energy storage and how to be very creative.

I mean, what we did in Hawaii, as you know, we won a prize for that. We have other projects coming on in Hawaii. We have the world's first virtual reservoir. We have a number of new uses. So AES is part of that engine of growth affluence because we are creating many new applications and that is helping Fluence. And then we're getting it through the valuation of Fluence itself.

So if you look at the valuation of Fluence, I expect it to do very well. We started with the Qatari Investment Authority. Qatar is a particularly excellent partner at this stage for its investments in other technologies, from batteries to potential clients like NABROS in the Middle East. So this is kind of somewhere between the financial and a strategic investor here.

So no, I don't think the time is now to get rid of Fluence in any way. I think we're in it for the long term. I think there are opportunities in the future that we will evaluate. But, no, we're very pleased with it. And I think we're just starting to see the real inflection point here for energy storage.

[Operator]

[Operator Instructions] Our next question comes from Charles Fishman with Morningstar.

[Charles Fishman, Morningstar]

Good morning. Andrés, I know you were targeting Alto Maipo for commercial operation by end of the year, did you make it?

[Andrés Gluski, President and CEO]

It will be this year. We were targeting this year, 2021 - maybe originally. But I'd say over the last year or so, we've been targeting 2021. It's coming along very well, and we are very close to completing all the tunneling work, and we've already done a lot of work in terms of putting in the turbines in the machine room. So Alto Maipo is proceeding nicely, and it will come online this year. And as you know, you basically complete construction, then you got to fill up all the various tunnels with water before you start producing. But we're very pleased with construction at Alto Maipo.

[Charles Fishman, Morningstar]

Okay. And then on dividend policy, I'm just looking back over the last 6 years, it looks like you've been pretty consistent on the dividend being 50% of the parent free cash flow. Is that still the first metric the Board looks at? Is that still the primary tool they're going to use or metric they're going to use for determining the dividend going forward?

[Andrés Gluski, President and CEO]

We really look to see if we have a dividend that we think is competitive for our investors. So what we're targeting going forward is a growth between 4% to 6% in our dividend. I think if you go in the past 5 years, we probably had the fastest-growing dividend of - or 7 years, we've had the fastest-growing dividend of anybody, really, if you take the longer time frame. So we're happy with our growth that we've been forecasting as 7% to 9% in the past, and we'll continue to grow our dividend 4% to 6%, which we think is competitive in our sector.

[Charles Fishman, Morningstar]

So the fact that it's been about 50% of free cash flow is just - I won't say coincidental, but it's just secondary importance?

[Gustavo Pimenta, CFO]

That's correct. We're not targeting a payout of our free cash flow in that sense. So that's really not the target. It's really to make sure that we have an attractive dividend payment for our shareholders.

[Operator]

At this time, we are showing no further questions in the queue and this concludes our question-and-answer session. At this time, I would like to turn the conference back over to Ahmed Pasha for any closing remarks.

[Ahmed Pasha, Treasurer and VP, IR]

Thanks. Thanks, everybody, for joining us on today's call. As always, the IR team will be available to answer any questions you may have. Next week, we look forward to speaking with you again at our Virtual Investor Day. Thank you, and have a nice day.

[Operator]

The conference has now concluded. Thank you for attending today's presentation, and you may now disconnect.