TransAlta Corp

TSX:TA

Earnings Call Transcript 2017-Q4

[Operator]

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the TransAlta Corporation Fourth Quarter and Full Year 2017 Results Conference Call. [Operator Instructions] As a reminder, this conference call is being broadcast live on the Internet and recorded. I would now like to turn the conference call over to Sally Taylor, Manager of Investor Relations. Please go ahead, Ms. Taylor.

[Sally Taylor]

Thank you, Jamie. Good morning, everyone, and welcome to TransAlta's fourth quarter and year-end 2017 conference call. With me today are Dawn Farrell, President and Chief Executive Officer; Donald Tremblay, Chief Financial Officer; John Kousinioris, Chief Legal and Compliance Officer; and Brent Ward, Managing Director and Treasurer.Today's call is webcast, and I invite those listening on the phone lines to view the supporting slides, which are available on our website. A replay of the call will be available later today and a transcript will be posted to our website shortly thereafter. As usual, all information provided during this conference call is subject to the forward-looking statements qualifications, which is set out on Slide 2, detailed in our MD&A and incorporated in full for the purposes of today's call. All amounts referenced during the call are in Canadian currency unless otherwise stated. And all IFRS terminology used including gross margin, comparable EBITDA, funds from operation and free cash flow are reconciled in the MD&A for your reference.On today's call, Dawn and Donald are going to review our results for 2017 and TransAlta's 2018 goals. After these prepared remarks, we will open the call for questions. With that, let me turn the call over to Dawn.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Thanks, Sally, and welcome, everyone. It's great to be here today to report that we finished 2017 stronger than expected, and that we have a very interesting and exciting year ahead of us. Let me start by thanking our employees, who accomplished a lot in 2017. They did an excellent job, and it's a real honor to work with all of them.Our performance significantly advanced our goal to deliver 100% green power by 2025. In 2017, we focused on 5 goals that would strengthen our financial position and our ability to transform the company. We delivered on these goals and are ready to communicate new goals for 2018.We were very clear in December at our Investor Day on where we're taking this company, and we'll continue to report on these themes as we move throughout the year. What's important is that TransAlta's financial and operational performance on the existing fleets is now aligning with our ambition and we're feeling very strong as we enter into 2018.Today, I'm going to give you our assessment of how we did against our 2017 goal and I'll set the framework for 2018. So starting with our 2017 goals, last year at this time, I laid out 5 clear goals for the organization. The first was to get our framework in place for transitioning from coal to gas; the second was around commissioning our South Hedland power station in Australia; the third was to grow our renewables platform; the fourth was to continue to execute our financial strategy; and the fifth was all about leading in safety and environmental performance as we delivered our financial results.So I'm going to start this morning with our fourth goal that we set in 2017 as I believe that this goal has been high on the minds in many of our long-term shareholders. So in short, the fourth goal last year was to strengthen our balance sheet. And I am really happy to report today that we ended the year in better shape than we anticipated.Now first, that's because we delivered stronger financial results in the company's over 2016 and second because we did have an unexpected return of the Solomon plant, which gave cash to apply to debt and it absolutely accelerated our deleveraging profile.Now in terms of financial performance, you've all seen the reports in the MD&A. But I would just like to say congratulations to the company. They delivered free cash flow of $328 million, an increase of $71 million over 2016 and a 28% improvement. They delivered funds from operations at $804 million, 9.5% better than 2016. Our EBITDA from generation, excluding our Canadian Coal segment, was up 13% year-over-year, and this is tremendous. All of the businesses improved their results. Our Canadian Coal segment was expected as we went into 2017 to have lower EBITDA due to rising mining cost. And the good news is they were able to recover from the challenges of the summer, which really helped us deliver a strong year.Based on our 2017 results and what we're expecting for 2018, we are now in the final innings of our debt repayment program, and we have a very solid plan, which Donald is going to talk about to manage the scheduled maturities over the next 2 years.In 2020, when the remaining Alberta PPA have tolled off to a loss, we will be down to $1.1 billion in recourse debt. That's going to be a tremendous result. And that is absolutely the right level of debt for our merchant coal and hydro assets, and it will give us a balance sheet that can weather any storm. Donald will give you more insight on how we'll exit 2018, but I can tell you that it feels great to be here entering 2018 with less than $3.4 billion in debt on the balance sheet and an FFO-to-debt metric of over 20%, the best that we've had since 2011.So let me go back to our first goal of 2017, which was all about transitioning from coal to gas and setting up that framework. Now there's a lot of elements to this goal, but I'll talk about each of them briefly.So first of all, in 2017, the team here at TransAlta advanced the game significantly by gaining the legislative framework, both federally and provincially, that allows us to use gas in our boiler. Their effort have us adding 75 years of combined life to our coal facility and we'll add more than $1 billion of free cash flow. So congratulations to that team. That's an outstanding result.We signed an LOI with Tidewater as well, and that gives natural gas-fired facilities much more quickly than we could have ever anticipated and it allows us to accelerate our conversion track timeframe by a year. So that's an excellent result as well.We did gain full credit for our existing renewable assets in Alberta under the carbon regime, so that over time, our existing wind and hydro assets will be able to sell carbon credits into the Alberta market. Now depending on the price of carbon, these credits are worth somewhere between $30 million and $50 million, and they absolutely help us recover some of the loss value that occurred with the coal fleet due to the implementation of the climate leadership plan here in Alberta.So we think this was a very fair decision by the Alberta government and it ensures that Alberta can transition to a low carbon future without undue damage to companies like ourselves that need time to adjust to the new reality. So that was also an excellent result by the team.We also have been advancing our discussion on the Brazeau pump storage project. Today, we're in extensive dialogues with the ISO on the role of dispatchable renewables and storage over the longer term as Alberta transitions off coal. And finally, under this one goal, this is still our first goal, we've been working hard to ensure that the capacity market that's emerging will create stable and more prices for consumers and stable revenues for our assets. Now there's a lot more, as you all know, to do on this in 2018, and I'll talk about our goal for this at the end of the call.So all in all, when I look at the performance in the team, I get people very, very high marks for the progress that we've made on our transition. Our second goal last year was very simple, it was simply to get the South Hedland power station built and delivering new cash flow to TransAlta renewables, which, of course, we're 64% owner. The plant is high quality. It's running extremely well. It's met all the conditions required to commission and sync to the grid. Now while it's absolutely disappointing to end up in a dispute with Fortescue, this dispute will delay the start of about 30% of the cash flow. However, the plant is profitable. It's the lowest cost plant in the region, and it's serving Horizon Power and their other customers.So while we aren't 100% of the way over the line on achieving our goal, we will give ourselves some credit for what we did there in 2017 and we have to drive to close the gap in the cash flows in the 2018 and '19 goal.Our third goal last year was to win an RFP in the locations where we have assets. We didn't win in Alberta, but we have assets available to bid in the next auctions or to sell to end customers. In February, however, this year, we announced that we won 2 windfarms in the U.S. Northeast. The returns on these farms are better than what we would have received in Alberta for the equivalent capital. So we are very, very happy to have waited and been patient. So overall, I give the team high marks for remaining disciplined in achieving our goal even if it meant delivering the goal in early 2018 instead of in 2017. Our final goal in 2017 was to lead in safety and environmental performance while delivering against our financial target. We delivered the company's best-ever safety performance with a total incident frequency of 0.72, and we reduced our greenhouse gas emissions by approximately 800,000 tons year-over-year. I've already talked about our financial progress, which I'm pretty pleased about.And many of you that look at our MD&A, it's an integrated MD&A with financial and sustainability results, and it gives you a very comprehensive view of all the things that we do on both fronts.So 2017 accomplishments have set us up to be very bullish about '18 and '19. We have -- we did tell you last year that we've set a target, which we, in Germany, call the road to $400 million, which would have been a lot easier if we hadn't had to sell back the Solomon plant. But nevertheless, we're a determined team and the work we're doing to Project Greenlight and the work that we're doing as we transition the company to gas has us driving for that outcome in any event. And I'll talk about our free cash flow goals at the end of the call.We also feel that we're getting closer to a time when we can look at other forms of capital allocation, including how we think about the dividend as we transition to gas and renewables.So in summary, 2017 was a great year and has us positioned for even greater success in 2018. So I'm going to turn the call over to Donald, who will talk about the specific financial results, and I'll come back and review our goals for 2018 at the end of the call.

[Donald Tremblay, Chief Financial Officer]

Thank you, Dawn, and welcome to everyone on the call. As you can see on Slide 5, we continue to make progress on the performance of the business. Comparable EBITDA from our power generating asset, which exclude Energy Marketing and corporate segments, increased 2% over last year for a total of $1.1 billion. The cash generated by our operation increased 4% year-over-year.Over the last 2 years, we increased the cash generation from our business by $100 million when including our corporate cost and our Energy Marketing segment.In a challenging foreign market, this is the result of our high level of contracted generation and our steady focus on cost and sustaining capital expenditure reduction. Free cash flow for the year totaled $328 million. This is an increase of $90 million or 28% since 2015. Year-over-year, sustaining capital decreased 13% to $235 million, reflecting the impact of our decision to shut down our mothballed 4 units of Sundance. We expect to spend between $195 million to $205 million in 2019 -- in 2018, sorry.The decision to mothball our Sundance unit was made after considering their operating and sustaining capital cost as well as the power price expectation for 2018 and 2019 and the low utilization rate of those units. In 2017, we allocate almost $25 million to productivity capital to support our Greenlight initiative, up from less than $10 million in 2016. We expect to maintain this level of investment in 2018.We also benefit from lower financing cost as we continue to reduce our debt and expect that to continue in 2018 and 2019. Let's move to our balance sheet and credit metric. As you can see from Slide 6, we repaid our $400 million bond during the second quarter of this year using existing liquidity. At the end of the year, we still had access to $1.6 billion of liquidity between TransAlta and TransAlta Renewables, of which, $300 million was cash in TransAlta.With the Sundance PPA termination proceeds expected in March, we made a decision to repay the U.S. $500 million bond early in March. The next corporate bond maturity, which is not due until late 2019, will be paid off using cash generated from the business and the expected proceed from the financing of the off-coal payment this year. Our FFO-to-debt was within our 20% to 25% target range at 20.4 for the first time since 2011. During the year, we reduced our debt by over $500 million, from $3.9 billion to $3.4 billion, of which $2.6 billion is TransAlta Corp debt and $800 million is debt held at TransAlta Renewables. For reference, our debt at TransAlta Corp at the end of 2015 was $3.6 billion. So we have reduced the debt for TransAlta Corp by almost 30% over last 2 years.We expect to further improve our FFO-to-debt metrics through 2018 as we intends to reduce the debt at TransAlta Corp by an additional $400 million during the year. The construction of the 2 projects we recently acquired in the U.S. will be fully funded by TransAlta Renewables over the next 2 years and will not affect the debt level at TransAlta Corp. As you can see, we are making great progress to strengthen our capital structure and are ahead of our plan to deliver FFO-to-debt at the high end of 25% to 30% range in 2021. As outlined in our Investor Day presentation, our capital allocation plan for the next 3 years is a continuation of what we have been doing for the last 2. Underpinning this plan is our ability to deliver at least $1.2 billion of free cash flow over the last 3 years, including approximately $250 million for the early termination of the Sundance PPA and between $275 million to $350 million of free cash flow in 2018.Given the recent performance of the business and forward price in Alberta, we are highly confident in our ability to deliver at the upper end of that range in 2018. As a result, we will be seeking approval from the TSX for a normal course issuer bid to buy back up to 14 million shares over the next 12 months. Our intention is to use incremental cash flow generated by the business to reduce the number of shares outstanding as we strongly believe our share are undervalued. This will not impact our debt reduction plan.In 2015, we made a significant reduction of our dividend in anticipation of uncertainty around our coal portfolio in Alberta. As we get more clarity on future market design and how it will impact the profitability of our coal, hydro and wind in the province, we will reconsider the level of dividend we could sustain under all market outcomes.Over the next 3 years, we are planning to allocate $300 million of free cash flow to growing and transforming the business. This include a potential investment in the gas pipeline that will supply our coal facility, with natural gas and preliminary reward on the conversion of our coal facility to gas. We believe our capital allocation for TransAlta is prudent for the time being.Let's now discuss our free cash flow target for the next 3 years. As I mentioned earlier, our plan relies on the business to deliver at least $1.2 billion of free cash flow over the next 3 years, and we are highly confident in our ability to deliver that target.As highlighted at our Investor Day, our plan is grounded by our historical performance, the high level of contracted revenue and conservative assumption for pricing in Alberta. Since December, we've seen forward price in Alberta increasing. However, price are still nowhere near the average price of $65 before carbon tax since the regulation in the Alberta market. We also did a lot of work to better understand and model the flexibility and optionality in our merchant coal asset to maximize their financial performance, and we are highly confident in our ability to deliver improved performance to our Greenlight initiative.We expect our recurring free cash flow in 2018 to be at the upper end of our $275 million to $350 million range, which was shared with you in December. With the return to -- of the Sundance PPA effective March 31, we will find ourselves more exposed to merchant power price in Alberta. This refer from our previous highly contracted position in the province.In late 2017, forward power price contract for 2018/2019 were low, and we didn't see the benefit of hedging our generation. However, as pricing move up over the past few months, we are taking risk off the table and have entered into a fixed-price contract for a certain period in 2018. This merchant exposure is positive for TransAlta, and we expect to benefit from the increased near-term price volatility. As we progress through the year and see where power price land, we expect to strategically layer in additional edge to reduce our exposure and lock in value for our shareholders.I will now pass the call over to Dawn to talk about 2018.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Thanks, Donald. I'm going to step away from our performance now from last year and let's start talking about 2018 and the future. Again, I'll reiterate our overall goal is to deliver 100% clean power to customers by 2025. Our customers want power at costs that help them compete, that are generated with minimal environmental impact and that come from a provider they are proud of.We're retooling our businesses to supply customers with exactly what they want and as well with supporting Alberta shift to a capacity market. So that leads to our first goal for 2018, which is to support the development of our capacity market in Alberta that gives investors confidence to support our coal to gas investments in the Alberta power market.A capacity market that supports the climate leadership plan creates the lowest cost for energy capacity and ancillary services for consumers, creates stable pricing and stable revenues for producers and provides the right incentive structure for new investment in power is within reach. The promise is to ensure a level playing field for capital, whether it is investing in existing power plants like our coal-to-gas or new, and we believe that, that will be achieved once the final design is in place. This is what will give our investors even greater confidence to support the strategy and to support our investments in the Alberta market.This summer, we expect the ISO in Alberta to finalize the capacity market design, which will take effect in 2021. The first draft of the design was published at the end of January for comments, and we, like others, are busy getting our views into the ISO. We are confident by the time we get to the final version, the comprehensive market design will achieve its objective and will give us an investment horizon for our assets.Our second goal is about gas supply. By the end of the year, we expect to be in the position to know when the first fill will be in the ground for the Tidewater pipeline. We want a clearer view to when we can start bringing gas to the plant to reduce our greenhouse gas cost and ultimately, to convert our plants to gas.Our third goal is to start the coal-to-gas conversions on at least 2 units. More specifically, this means completing engineering work and obtaining the required permits as well as adjusting the cost structure to align to a smaller and less complex operation.Our fourth goal is about growth. Last week, TransAlta Renewables announced an arrangement to acquire 2 wind projects in the U.S. These projects are right in TransAlta Renewables' wheelhouse, and they're supported by long-term contracts with highly creditworthy direct customers. We're focusing now on completing the purchase and building the plants on time and on budget.As well this year, if things go well, we could round out our year with another couple of projects, which will meet our investment criteria for TransAlta Renewables and generate value for our shareholders. We will continue to invest exploratory development funds at our Brazeau pumped storage project, and we're also getting pretty excited about a future where we can supply more renewables to end customers with drawn credit ratings.Our fifth goal is to gain about delivering financial safety and environmental result. Our financial goal is to grow free cash flow in 2018 by 5% to 10% over our 2017 level. We've also set an internal goal to improve safety by 20% over 2017 levels. Growth in cash will also include divestment strategies to bring additional revenue in Australia to the South Hedland plan.Our sixth goal is to exit the year with $3.2 billion in debt for the existing asset and with an FFO to debt ratio north of 22%.And our final and most important goal is all about our people and our culture. Now let me take a pause here. Most of the time, we find that investors aren't all that interested in our people strategy. But today, I believe that investors that don't pay attention to how management teams invest in people will wake up one day and find out that their investments are not sustainable over the longer term. As we transition this company to gas, we need fewer people at our plants. As we look into the future that is coming, we frankly need less people in our industry. It takes far fewer people to build and maintain wind and solar plants. But those people need to be even more technologically savvy, flexible and adaptable than the past.Our front, mid and back offices need to adapt to systems and processes that will tie together on more distributed asset base in markets that have ever changing and evolving roles. So as we move towards 2025, our goals are to increase our use of technology and to develop our people to adjust to the new reality of a much more distributed marketplace. And for those people that leave TransAlta as our investments change, our Greenlight transformation is designed to ensure they have sought after skills and quality.So in closing, let me make it simple. Everything that we're going to do in 2018 will move us 1 year closer to 100% clean power by 2025. So in summary, we're moving ahead with our coal-to-gas conversion so we can supply low-cost capacity to back up renewables as the Alberta market transitions away from carbon. We're securing new gas supply for the plant as soon as we can get it there. We'll continue to grow our renewables platform, which is the future for our industry. We will continue to execute our financial strategy and increase our financial flexibility, so we have more options when it comes to capital allocation. We will lead in safety and environmental performance. And finally, we will support our people through the transition so that we have a strong and vibrant culture regardless of what changes are on the horizon.Last year was a pivotal year in our journey, and we created the momentum we need for success in 2018 as we become the provider of choice for clean, low cost, reliable and firm power. Lots accomplished and lots to accomplish, and I'm very confident in our ability to succeed. So with that, I'm going to turn it back over to Sally for questions.

[Sally Taylor]

Thank you, Dawn. Jamie, could you please open up the call for questions from the analysts and media?

[Operator]

[Operator Instructions] Your first question comes from Rob Hope with Scotiabank.

[Robert Hope, Analyst]

Maybe to start off on the 2021 outlook that you presented at your recent Investor Day, does -- how the CMD has presented the capacity market align with what your expectations were, including high availability of your hydro units to be bid into the capacity market?

[John Harry Kousinioris]

It's John Kousinioris speaking. In general, I think the answer is yes, it is. There's a lot more work to do on the capacity market. But I think when we did the presentation in December, we talked about a number of changes that would occur to support, for example, our hydro fleet, including the eventual expiry of the PPA that we have in place with the Balancing Pool, which will result in a significant uplift. I think, right now, a bit over 60%, sometimes as high as 80% of the revenue effectively generated from the hydro fleet goes to the Balancing Pool. But to answer your question, yes, we are seeing it track in the right direction. And just to give you a sense, some of the sort of capacity value that we're seeing attributed to our hydro fleet are in excess of 80%. So we're pretty pleased where that's going generally.

[Robert Hope, Analyst]

All right, that is good to hear. And then just in terms of capital allocation and the NCIB that you are looking to install, is the idea to put kind of maybe excess capital that you're earning in 2018 into the NCIB? And then I guess, more broadly, how do you view the return on buying back your own shares versus investing in late-stage development renewable projects?

[Donald Tremblay, Chief Financial Officer]

So yes, the idea is to take incremental cash that we don't -- like, we have like a target on our debt and every cash that we don't need to basically, like, to achieve that target, we'll use to buy back share. And in terms -- like, fully over time, we'll make the decision based on the portion that are in front of us. But generally, the growth will be in front of renewables, and at future investment, gain us a lead, like, attractive for concept of shareholders but that determination will be made in due course. But currently, like, our view is, like, it's better to buy back our share, like, at current value because we believe -- like, we had a discussion at the Investor Day on the value of our share and really believe that they're undervalued, that the market doesn't reflect the value of the coal asset that we own that will convert to gas, and we really want to get the live on this.

[Operator]

Your next question comes from Mark Jarvi with CIBC.

[Mark Thomas Jarvi, Director of Institutional Equity Research]

I just wanted to clarify in terms of the -- your comments around excess free cash flow to use in the NCIB. When you think about those projects, the U.S. wind projects, and you might have to upfront fund some of the capital that tax equity partners might have actually supplied. Do you include that? Or do you just put that on a construction loan or credit facility and free up more cash with a buyback?

[Donald Tremblay, Chief Financial Officer]

So the way to look at it, it will be, like, using our, like, excess cash to fund the construction. At some point, it will be tax equity that will came in. And potentially, at some point, like, that's TransAlta Renewables will look at, like, how much cash is sitting in front of renewables based on their performance that they will achieve this year. The other transaction in front of them and potentially at some points, like, raise equity in front of renewables if needed. But we haven't made that decision. We'll see as we go other opportunity in front of us.

[Mark Thomas Jarvi, Director of Institutional Equity Research]

So when you think about the spend that once facility is already used [indiscernible] and then also your component of the equity for this, how much growth equity would you consider for 2018 just so we can back into how much sort of excess free cash flow you have for the buyback?

[Donald Tremblay, Chief Financial Officer]

So what we have, like, on a consolidated basis, we have $300 million that we allocate to growth over the next 3 years. Some of that will go to the pipeline, if we decide to go ahead with the pipeline.

[Mark Thomas Jarvi, Director of Institutional Equity Research]

Okay. And then maybe my last question is on the U.S. wind projects. If you go back a few quarters ago, you guys commented about how competitive it was and prices were being bid up, returns were going lower. What was it about this opportunity, which I understand was through a competitive process, allowed you guys to find the right returns to secure those projects?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. I mean, I think, as you know, the market for wind is very competitive. I mean, you have to find a way to get an edge on every slice of the project, whether it's the turbines, the wind farms, the locations, the cost of capital and it's just a game of seeing if you can add a little bit of margin here, there and everywhere. And as we've said to you, we remain very disciplined. So we bid a lot, like we're -- and we expect to lose a lot, and we don't mind that. So we've got the machines set up to do that. And in this particular, case, the team when they got in to look at these wind farms, were able to add some significant value both in terms of making sure we got the right prices for the equipment, but as well on the construction side. And that enabled us, I think, to be the winner and get the returns that we need to be confident about how we're growing TransAlta Renewables. So like I say, you'll see us in the market a lot, you'll see us losing a lot, and you should be happy about that as investors because when you say us win, then you can be confident that we got the returns that we're looking for.

[Operator]

Your next question comes from Ben Pham with BMO.

[Benjamin Pham, Analyst]

Some of the questions are on growth versus buybacks. How does dividend increases hit the mix in terms of your priorities?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. I mean, Ben, as we come around the corner here and finish off our debt program, and Donald showed you the great progress we've made in the last 2 years. I mean, we've reduced debt at TransAlta by about $1 billion and we're doing another $800 million. As we go forward, you're going to end up with very little recourse debt left at TransAlta. So as we think about the TransAlta cash flows, those cash flows will come from the existing hydro that's in there, which we've given you our views on what will happen to that hydro. And we've got some other assets inside TransAlta. And then of course, we've got our share of TransAlta Renewables. So as we think about -- first of all, as we think about where we are today, as we get closer to a date where all that cash flow starts to not have to pay down debt, which we're getting very close on that, then we've got to say, "Okay, how does the cash come into TransAlta get reinvested in either gross or share buyback or a dividend?" Currently, we started this NCIB because we -- and we showed you this at Investor Day and Donald already said it, our overriding concern is that people are not dialing the cash flows in a big part of the company. We think they trade TransAlta if it's only TransAlta Renewables, it's 64%, and that's completely ridiculous. So right now, in terms of capital allocation, it's relative to thinking about share buybacks. But as we get into that 2020 period, depending on whether if -- we have to have growth projects that fit with the TransAlta shareholders and then we'll compare dividend increases against what the growth -- potential growth opportunities for TransAlta are at that time. Because we do see the growth in TransAlta being a different kind of asset than growth in TransAlta Renewables. So as we clear office debt, it's still our #1 priority. We're not walking away from that. Donald said that we'd be at that 25% to 30% range, and I think he said 2021, but he meant to say 2020. So in 2020, we are well within the range of a very, very strong balance sheet for going into that capacity market. And we've said that we're starting to look ahead and say, "Okay, what does that mean for dividends?" and we see dividends of something that we might potentially be able to start to grow again.

[Benjamin Pham, Analyst]

Okay. And then can I ask on RNW and really, how you're thinking about that more from a longer-term perspective, health that was -- the TA side of things? And really, if you've really reduced debt to TA level, utilizing RNW the last few years and pretty low interest environments in servicing some growth. But as you look forward and rates are increasing and you seem are risking RNW indirectly, impacting your own stock negatively, does that play a role on deciding what ownership levels are in RNW and how you think about using that vehicle longer term?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. I mean, I think we can always flex our ownership up and down with RNW if we think that it's better to do that from a value perspective for TransAlta. But I would say, Ben, kind of overall, as rates go up, it does affect people's view of the existing cash flows, and that's just the way it works, right. That's what a YieldCo does. But the good news is, and remember, we've been in the utility business as well for a long time. The good news is as we do the incremental projects, the incremental projects are being financed with project debt, and we're pretty disciplined about making sure that those returns reflect those new cost of capital. So debt costs a lot, the new prices on the new renewables will have to reflect that. And so as you put in incremental projects, they should be at the right returns for that vehicle. And then over time, as interest rates drop, then of course, the sustained -- you'll see kind of an up and down reflection of that in the vehicle. In terms of how I see it for TransAlta, I think it's absolutely strategic for TransAlta. It is a different mix of assets and investments. I can tell you that it absolutely 100% supports our credit rating. So if you look at being a Canadian company, as you know, in Canada, investment-grade balance sheets are more important than they would be in the United States. So when you look at having that mix of long-term contracted assets in our mix, anybody who understands our business know that, that mix supports the credit ratings. So that's a really good thing for TransAlta shareholders. The cost of capital overall is important. And as well, I personally believe that 95% of the growth in the next 10 years is going to be in renewables, not in anything else. And so we'll -- I think it's a strategic vehicle. We'll grow it. I think it will be important as a value, a piece of value for TransAlta both in terms of the credit rating, but also in terms of those stable cash flows. Because everybody thinks they want these long-term cash flows until they get them. And we just went through that cycle. So now these stable cash flows from TransAlta has been really, really important as we've gone through these last couple of years with low commodity prices. So we continue to believe that both vehicles together work and that continues to be our strategy.

[Operator]

Your next question comes from Andrew Kuske with Crédit Suisse.

[Andrew M. Kuske]

Maybe just on Project Greenlight and just the progress there. I think in the disclosures, you said $29 million of cost related to project Greenlight through '17. Is there a breakdown on capitalized versus expensed on that number? And then what are the expectations in '18 on those fronts?

[Donald Tremblay, Chief Financial Officer]

It's all expense. So there no capital cost in that. Like, we have some capital cost, but that would be part of our, like, project [ activity ] capital that we have. And for, like, 2018, we expect this to be in the range of, like, I would say, $15 million to $20 million, much lower because we did a lot of the work in 2017.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. So Andrew, just let me put some color on that. So the program that we've put in place January 1, 2017, has kind of an 18-month timeframe on it. And the significant investment cost to get that program set up, get the teams on it, train everybody up, get everybody onboard, get 900 initiatives across the company, get us all exercising in a completely different way than we did before, those costs were, as Donald said, in our P&L for 2017 and there's a few more costs as we go to sort of the end of April. But the program itself, in terms of continuing to create the projects and continuing to reduce cost, add value, all that stuff, it continues. It's now a core part of the way we do business here. So we'd expect to see additional run rate cash flow coming into our business here in 2018 as a result of what we're doing. And then we get the full year of it in 2019 because we have no program costs. Very small, we have a small [indiscernible] office that cost us less than -- kind of in that $1 million range a year, which is insignificant for what we're talking about with you guys. But that program becomes fully operational without those start-up costs in 2019. So that's just to tell you how it works. In terms of the success of the program, not only has it been successful in terms of running the base business, but it's a critical execution engine for how we do our transition. And it's given us all the execution capability of that. So that's really important as we go through this transition that we have that tool.

[Andrew M. Kuske]

So just as a follow-up, when you think about the capital allocation and things like share buyback and then just other alternative forms of capital return to shareholders, these types of initiatives and cost reductions and really reposition the business tend to have the most bang for buck. So clearly, you did a lot of that in '17, you're doing more of it in '18. And is that really the front-end of the allocation to have the gift that keeps giving over a period of time and then pivot the culture before you really look at share buybacks to a much larger degree?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

You know what, I'm not sure what you're saying. Can you say that again?

[Andrew M. Kuske]

Yes, I guess, it's really just a function of you do all the heavy lifting and establish the foundation with Greenlight, and that sets you up very well to have the cash flows in the future to buy back the shares as they should be distressed in price.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes, that's absolutely right. Absolutely correct.

[Operator]

Your next question comes from Robert Kwan with RBC Capital Markets.

[Robert Michael Kwan, Analyst]

I can come back to the NCIB, and I've asked [indiscernible] certainly talked about using the NCIB when you see the share was undervalued, and you've had to come in and they called it, you're starting to believe the shares are undervalued. So how should we expect the usage of the NCIB for the course of the next year? Should we -- are you expecting to be active regularly, whether it's daily or weekly? Or do you need to see, Donald, as you pointed out, your cash flow trending into the upper end of the free cash flow range for this year before you take action?

[Donald Tremblay, Chief Financial Officer]

Yes. So clearly, like what we're seeking is, like, the approval for, like, up to 5%. What we said is basically, we'll be opportunistic. So clearly, like, we have. Like, our project #1 is achieving our target from a debt reduction perspective. So that's number one. And when we have clear visibility, that we're basically we have, like, more free cash, then we will be in the market in due course. But it will be very opportunistic based on value of share and cash that we're generating in the business. But we will be prudent in the way that we're using this for sure. And basically update you as we go.

[Robert Michael Kwan, Analyst]

Okay. So in some ways, if the share price stays where it is, you probably need to be reasonably into 2018 before you feel confident enough to execute on the NCIB?

[Donald Tremblay, Chief Financial Officer]

So clearly, like, when we have, like, good visibility in our, like, 2018 number, we will be making the decision at that time.

[Robert Michael Kwan, Analyst]

Okay. You highlighted the Solomon plant as being positive for your plan. And effectively, while you didn't necessarily go down the road, it was effectively an asset sale. So given something like that was viewed positively, are there any plans to proactively look to monetize assets, whether that's to fund the NCIB or fund growth?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

No.

[Robert Michael Kwan, Analyst]

Okay. Maybe I'll just finish then. Dawn, your thoughts on power prices. First, just do you have some comments as to what you're thinking about forward curve as well? Just interested in your thoughts as to what we've seen here in the first quarter. On the upside, we've seen a handful of hours with some of that nice spiking into the several hundred dollars per megawatt hour. But we've also seen a short period of time where prices were below coal's marginal costs and coal units were still running off deep losses. So what do you think about the quarter and what type of readthrough can the quarter provide for when you get the offer control from some of the units back on April 1?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. I mean, the quarter, I think is still mixed up with bidding that's not all that rational. So I'm not paying any attention to it. When I look ahead, what I do know is as we bring back -- on April 1, when we are bidding our units into that market, we can only bid as economic rational agents. So we cannot bid below our cost. We cannot run our units at a lower cost ever, and we never will. So we have to be absolutely economically rational. And if you look at the cost of the Sundance Units 5 and 6, if they're in the market, they're going to set a price that's probably higher than what you've seen in the first quarter. How much higher? Don't know. But I do know that we don't have a choice to make irrational, uneconomic decisions in the Alberta market with those units. Now when I look at -- when you look ahead, we do -- I think when we originally were looking at our -- remember, our strategy was to consolidate gigawatt hours under 2 units rather than running 5 units uneconomically, and we had decided to close down Sundance Unit 1. So we really got 5 units at that site now. And I think when we originally run our models last year, we probably thought that those 2 units would run maybe at lower capacity utilizations. And I think our forecast is starting to show for potentially higher capacity utilization. But as you know, I've been in this market for a long time. So as I say to our team over and over again, do not be confident about what's going to happen tomorrow because you absolutely have no idea. Because all sorts of things happen as you go through the -- remember, I ran the trading business that did the commercial business in that sort of 2010, 2011, 2012 timeframe. And we would be at this part of year and everybody would be saying price are going to be this and that, and we get there, and they wouldn't be any of that. So I think as Donald talked about our hedging strategy, I think as we go through the year, we'd given our team much more flexibility on hedging than what they had in the past. And as they go through the year and we report back to you about how that went, I think that's really what you've got to measure us against. And we'll try to find a way to give you some measurements to see if we were able to get -- I mean, our challenge, we got to be there to produce when prices are high either on a forward basis or in the month on a stock market basis. So we're kind of going back to a time where we used to do that. So we'll be trying to find a way to give you some indicators on that. So net-net, I think prices will be higher than the first quarter. How much higher? Don't know. And it's because we have to bid as an economically rational agent.

[Robert Michael Kwan, Analyst]

Understood. And just, Dawn, when you talk about bidding at or above your cost, and I apologize if I misunderstood your previous statements, but I think previously, you talked about your cost being the fully loaded cost on the unit and not just the marginal cost of production. Is that correct?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Well, I think we can -- so at times, we'll bid at the marginal cost, including the cost of carbon and including the cost of all the fuel and all the rest of it. And there may be times when we can bid at a fully loaded cost. But if you are trying to model that and you know sort of what the capital is and what the kinds of return to expectations you'd need on merchant units, so you could model it between those 2 levels. But we have to get -- like, we're not going to bid just to break even, right. Like, we're just wasting -- the way I look at it, and it's really, really simple. Unfortunately, having operated these machines, I'm not going to waste a megawatt hour to break even when I could use that megawatt hour in the future at a profit because these are older plants and expectedly, they're expensive to maintain, and I'm only going to dole those megawatt hours out into the market when there's a margin on them.

[Operator]

Your next question comes from Patrick Kenny with National Bank Financial.

[Patrick Kenny, Research Analyst]

Just on the Tidewater pipeline. I know you're working on finalizing the take-or-pay agreement at the moment. But can you also speak to your thoughts around how the actual gas supply agreements might look with producers in terms of perhaps matching the 15-year take-or-pay on the pipe with the similar duration supply agreement? And maybe what price for the gas you think you'll be able to lock in? Or you're just looking to take spot exposure for the eco market?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. So Patrick, we're just in a throes of doing that. So there's -- as you know, if you look and maybe on a future conference call, we can have Brett come in and talk about how that's going because it's pretty interesting how that all comes together. So the best thing about Tidewater is we think we can get that gas there very, very quickly. And the other good thing is with the carbon pricing, the guys, the engineers are designing everything so that when we do get the gas there, even if we haven't done the conversion, we can burn quite a bit of -- we can burn up to 30% in our boilers, and that will start to make an offset for greenhouse gas cost. So net-net, we're working like crazy to get it there. Now the guys that supply around the facility and that will supply into that pipeline, we're lining up discussions with all of those gas suppliers. And frankly, the challenge you have in Alberta is if you look at the spot market price, it tends to run around this $1, $1.50 range, and if you look at the forward curve, they're trying to get up to $2.50. So effectively, we'll have a risk management strategy with that pipeline, where we'll have kind of a range of -- we might layer in some contracts and have some spot and then the traders will trade around those positions as we get there. Now we haven't quite decided what that looks like yet and the teams are working on that. I would say, in general, just based on the bearishness of gas in the province, it's going to be a higher percentage of spot to start with. I personally don't think we'll ever end up in a 15-year contract with a fixed price. But we might end up -- we might do some contracts, which I think would be more akin to what you see in other commodity markets, where we'll do volume contracts with price resets, so things like that, so that we can make sure we've got the volumes that we need. So all of that is really a work in progress. And you all know Brett Gellner, he's been working -- and Jennifer. Jennifer's been working on the gas supply under the trading group and Brett's been working with the pipeline guys. So maybe on a future call, we can get out a little more discussion on that.

[Patrick Kenny, Research Analyst]

Yes. And then maybe just for Donald, just to close the loop on the NCIB and credit ratings. Was there an update to the negative outlook from S&P? Or did you have any discussions with S&P that gave you comfort that the negative outlook will be lifted even with executing the NCIB?

[Donald Tremblay, Chief Financial Officer]

We -- so the negative outlook is still there. We are having, like, clearly, like, real discussion with the rating agency. What is important to them is that, basically, we keep, like, our plan to deleverage is still intact and the NCIB is not impacting this. And so that's why, like, that decision from their perspective is, like, it doesn't matter. Because, like, we have a plan and we're executing on that plan and that's what matters.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. And I'd just like to -- I mean, I know everybody thinks about the credit rating agencies, that we didn't have discussions with them. But I would like just to underline that it's management's plan, not the credit rating agency. So when Donald and I look at the sort of the volatility of cash flows that can come around plants that don't have 20-year PPAs anymore, that's why we're aiming at having the recourse debt at $1.1 billion and FFO-to-debt between 25 and 30. The credit rating agencies will do what they'll do. They have to assess the business risks. From our perspective, that's the right level of debt. And I've said this to a number of investors who -- some investors who would, frankly, like us to do more share buybacks and less debt repayment. And I'm not going to be the IPP that has 70% debt on volatile assets. We're going to have 30% debt, which is a simpler measure for me. Everybody else does these more complex measures. And so we are headed in that direction come hell or high water.

[Operator]

Your next question comes from Jeremy Rosenfield with Industrial Alliance Securities.

[Jeremy Rosenfield, Equity Research Analyst]

Just a couple follow-up questions. First, on the gas supply into the converted plants. I think you had mentioned that you would look for a second pipeline option. I'm just wondering if that's something you're looking to lock up for 2018 or that might take some longer time.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes. Well, first of all, there's some really good leverage under that first pipeline. So we're signing up for 130, but if there's an opportunity to take that much higher, if we want to. We are in discussions with 2 other pipeline suppliers. And frankly, it's the cheapest guy that can get it there the fastest, that will win. So right now, there's -- I have to say the Tidewater guys, they're just so entrepreneurial and they're fast and they're smart and they're aggressive. And we really appreciate working with them because that's what we're trying to do. So we're hoping the other 2 pipeline companies get in the same mode.

[Jeremy Rosenfield, Equity Research Analyst]

Okay. And I wanted to ask a couple of other ones. Just on the Sundance PPA termination and the payments. I'm wondering if you can provide any more detail on conversations or discussions or negotiations that might have taken place with the Balancing Pool and where you there.

[John Harry Kousinioris]

Yes, Jeremy, it's John. We have had discussions with the Balancing Pool on trying to bridge the gap between what we think the termination should be versus what they think the termination payment should be. We haven't been able to resolve that yet candidly. We do expect to receive at the end of, we're at March now, at the end of the month kind of the, at a minimum, the undisputed amount of the payment and then we're considering what the next steps would be to be able to get clarity on our position versus their position. So it's something that we'll get some clarity on over the coming number of months.

[Jeremy Rosenfield, Equity Research Analyst]

Can you just let us know, is there an arbitration process that's specified in the contract? Or do you have to potentially pursue other legal means?

[John Harry Kousinioris]

Yes, there is an arbitration process, which is in the PPA to be able to get clarity around these things. And there's also avenues to be able to go to court to get clarity on things. So there are a number of avenues that you can take if we can't get a resolution of the matter.

[Jeremy Rosenfield, Equity Research Analyst]

Okay, that's perfect. And then just the last question on the comprehensive market design, there was some wording around the potential for a price cap for operators with certain market shares. And I'm just wondering, what's your take of how that was proposed and how you're reacting to that?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

We're still trying to model that to really understand it. Because I mean, when you first look at it, at first glance, it just means that all TransAlta's units are dispatched in at the front-end of the curve because we're limited to bidding below 0.5x, whatever the net CONE. So we're just really giving some thought to that in terms of -- I mean, whether or not that's the most efficient way to do it. Our overall concern -- we want to make sure that we were finished here, that the way in which it all works -- so first of all, we had no problem with being mitigated as people we have market power. But at the end of the day, that total design has to be the cheapest design for customers because, as you know, we're about low-cost green firm. And really, this is the firm part of that promise and the low-cost part of the promise. So it's making sure in the modeling that the design also leads to low cost. So there may be other ways to mitigate TransAlta if we have too much market share that actually continue to make sure that consumers get the low cost in the province. I think when we get -- just so you're clear. When we get to second, we'll have enough work done by the time they come out with that second content of market design. It comes out at the end of April. And probably on our May conference call, just we'll have seen how the input to the ISO has changed their view and what that second design looks like. And we'll have enough modeling done, I think, to be able to just provide a lot more clarity on how we think that impacts us. At this point, depending on how you read those rules and depending how you do the modeling, I'm not sure that it's exactly achieving everything everybody's looking for.

[Jeremy Rosenfield, Equity Research Analyst]

Yes. I mean, just a response to that. I think the -- what I was looking for was something along the lines of do you think that you can use some of the mitigating measures that have been proposed initially in terms of how you bid in some of your plants to avoid that price cap. But I think I understand that there's probably a lot of work that needs to be done.

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

No, I don't think so.

[John Harry Kousinioris]

Jeremy, it's John. I don't think that, that is something -- we're not actually looking at that, to be honest. I think it's a work in progress. We continue to be engaged with the ISO as it develops, and as Dawn said, we're trying to model that what the implications are. But we're not looking at spending a lot of time looking at various sort of unique bidding strategies for the [indiscernible]

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Yes, we don't -- that's not even on -- the big thing to remember about that whole capacity design is its net CONE concept. And believe me, the guys keep working with me and I keep looking at them and my eyes roll in the back of my head. But as best as I can get it, it's a trade-off between energy and capacity. So -- and it's a net CONE concept. So it's net between the 2. So you're kind of moving money around between the capacity market and the energy market. If you get it wrong, consumers pay a ton of money because they end up paying $10 more on every unit of energy and they end up with a slightly lower capacity price. If you get it right, you get the right price in the energy market and the right price in the capacity market so that consumers have the lowest bill, and that's really where the balancing act comes in. And we, TransAlta, provide a complication to how they do that because of this market situation we have. So our teams are thinking about just how do we bring some positive proposals forward because we want to make sure that at the end of the day, consumers get the right pricing, energy plus capacity and the right cost for ancillary services because net-net, Alberta will only be strong as they get the lowest overall target, and that's where we're trying to take it.

[Operator]

Your next question comes from Charles Fishman with Morningstar Research.

[Charles J. Fishman, Equity Analyst]

Dawn, I just had one question left. This isn't the first time that we've heard you talk about the competitiveness of the U.S. market as far as acquiring wind or renewable assets. Would you say now, that the U.S. tax reform is set, certainly, there's been an observation in the U.S. market that these projects might be less desirable to U.S. investors. Does that help you from a competitive standpoint? Or is it just not even move the needle?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Well, I think as I -- these things ebb and flow, there's -- and people, I think, get overly focused on what's happening in the moment. What I tend to look at is just -- my accountability for this company is to position us, thinking 10 years ahead and making sure that whatever we're doing today gets it to where it needs to go. So I would say, yes, we're in a period where people have -- and they do this, they overbid the assets and they reduce the returns and then they all get tired of it, and they go away and go somewhere else. And I think it is a good time for them all to go away and go do something else because -- and as long as we can get returns that we like at this time with those kinds of projects, over the long term, those will end up being really strong projects through this company. So I think as investors in the U.S. move on to other things, especially if the U.S. economy is getting frothy in other areas, it does this give us an opportunity. And maybe that's a little bit behind what we saw with those plants in the Northeast.

[Operator]

This concludes the analyst Q&A portion of today's call. We will now take questions from members of the media. [Operator Instructions] Your first question comes from Chris Varcoe with Calgary Herald.

[Chris Varcoe]

I just have a couple of questions. I'm wondering if you can tell me how much work you've done so far on the Brazeau pump station? And what work will you be doing on it in 2018?

[Dawn Lorraine Farrell, Chief Executive Officer, President and Non]

Well, we've done quite a bit of work so far. I mean, we've done some preliminary engineering. We've engaged with the First Nations. We've done quite a bit of regulatory work to think about what the regulatory file would look like on it. Now I must say that the Canadian government's just announced a new way of thinking about big projects. So we're just in the process of figuring out what that means for the projects. We've also done a lot of work with all the political parties here in Alberta to get support on a nonpartisan basis and make sure that as the project advances, that it would have support in the province. We've just gotten a tremendously positive response from everybody. So right now, we're doing the work with ISO. And of course, the ISO, it's challenging because they're trying to stand up a capacity market and at the same time, they have to be thinking about what does that look like over the longer term. Because remember, our coal-to-gas assets bylaws has to come out of the system by 2039, which is quite a lot of megawatts that come off. And so we see that project as a long-term project for Alberta because it's basically is going to provide a lot of storage to the renewals that are coming on. So far, we've done quite a bit of work on it. With this year, it's a big turning point though. Until there's actually a call for either storage or dispatchable renewables, then we can qualify in that call, and we can really advance some sort of long-term contract, we can't really do all that much more. So we've got it a bit on hold as we work through the regulatory arena this year. But we're really hopeful that somewhere in this year, there'll be a call and we'll be able to bid it. So great project, it's got lots of support and hopefully, they'll be a way to get the contract.

[Operator]

And Ms. Taylor, there are no further questions at this time. Please continue.

[Sally Taylor]

Thank you, everyone. That concludes our call for today. If you have any further questions, please don't hesitate to reach out to the Investor Relations team.

[Donald Tremblay, Chief Financial Officer]

Thank you.

[Operator]

And ladies and gentlemen, this concludes the call for today. Thank you for participating. Please disconnect your lines.