Greetings and welcome to the FirstEnergy Corp. Fourth Quarter 2021 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Ms. Irene Prezelj, Vice President, Investor Relations for FirstEnergy Corp. Thank you. Ms. Prezelj, you may begin..

Thank you. Welcome to our fourth quarter and full year 2021 earnings call. Today, we will make various forward-looking statements regarding revenues, earnings, performance, strategies, prospects and other matters. These statements are based on current expectations and are subject to risks and uncertainties.

Factors that could cause actual results to differ materially from those indicated by these statements can be found on the Investors section of our website under the Earnings Information link and in our SEC filings. We will also discuss certain non-GAAP financial measures.

Reconciliations between GAAP and non-GAAP financial measures, the presentation that supports today’s discussion and other detailed information about the quarter and year can be found in the strategic and financial highlights document on the Investors section of our website.

We will begin today’s call with presentations from Steve Strah, our President and Chief Executive Officer and Jon Taylor, our Senior Vice President and Chief Financial Officer. Several other executives will be available for the Q&A session. Now, I will turn the call over to Steve..

Continuing to build a more centralized and robust compliance organization for updating and refining our processes, policies and controls; creating multiple channels for incident reporting; and developing thorough and objective processes to investigate and address incidence of misconduct; seeking continuous improvement by monitoring, benchmarking and obtaining an independent assessment of the program; and completing the training for all employees on our new code of conduct, and rolling out additional training on our speak-up culture and compliance.

Finally, our ongoing commitment to creating a more diverse, equitable and inclusive work environment is an essential part of our overall cultural transformation taking place at our company. I am determined to build on our progress in this area. This is a time of historic change at FirstEnergy, change for the better.

As we look to the future, I believe our company will emerge as a premier utility and a leader in our industry. And I believe we can deliver value to our investors that mirrors the value we provide to customers. In all my years at First Energy, I’ve never been more excited about what’s to come. Now I’ll turn the call over to Jon for a financial update..

Thanks, Steve. Good morning, everyone. I’m also excited about our future and the significant progress we’ve made to place FirstEnergy in a solid financial position.

As I discussed, we have a lot of moving parts this year as we absorb the Ohio settlement, certain accounting changes and begin to deploy the proceeds from the equity financings that we announced last year. As we integrate these elements into our financial plan, 2022 will be a baseline for strong long-term growth.

As always, we provide materials on our website to supplement our discussion today. The fact book has been refreshed to include additional information about our company strategy and our financial plan through 2025.

While we don’t plan to publish the fact book quarterly in 2022, we will expand the quarterly strategic and financial highlights deck to also include updates on our strategic priorities. Now let’s take a look at the financial results we reported yesterday.

Since we have so much to cover, I’ll keep this part of our discussion a little shorter than normal. Yesterday, we announced 2021 fourth quarter GAAP earnings of $0.77 per share and operating earnings of $0.51 per share, which is at the midpoint of our guidance, despite incredibly mild fourth quarter weather.

There were several special items for the quarter, including a $0.47 per share mark-to-market gain on our pension due mainly to a higher discount rate, as well as a $0.22 per share regulatory charge resulting from refunds to customers under our Ohio PUCO settlement and a recent order in Pennsylvania to refund additional tax benefits.

In our distribution business, fourth quarter results increased as a result of new base rates in New Jersey and higher revenues from capital investment programs.

Fourth quarter earnings also improved over last year from the absence of the charge we took in 2020 related to our strategic decision to forgo collection of loss distribution revenues in Ohio.

Also impacting the quarter was lower customer demand and higher operating expenses associated with strategic investments made to enhance reliability for customers. For the quarter, total distribution deliveries increased about 1% on both an actual and weather-adjusted basis compared to the fourth quarter of 2020.

Higher industrial and commercial usage was partially offset by a 2% reduction in the higher-margin residential customer class. Compared to pre-pandemic levels, weather-adjusted demand continues to be strong with our residential customers, reflecting a 4% increase for the year.

And although industrial and commercial customer demand continues to be lower than we saw in 2019, we have seen incremental improvement each quarter of 2021. And our fourth quarter results reflect industrial and commercial demand down just under 2% and 3%, respectively, compared to the fourth quarter of 2019.

In our regulated transmission business, earnings were consistent with our updated forecast, benefiting from higher rate base related to our Energizing the Future investment program, but this was more than offset primarily by higher net financing costs and other charges.

And in our corporate segment, our results for the fourth quarter reflect lower operating expenses and higher discrete income tax benefits as compared to the fourth quarter of 2020.

For the full year, we reported GAAP earnings of $2.35 a share and operating earnings of $2.60 a share, which is at the midpoint of the range we provided last fall, representing a 9% increase compared to 2020 operating earnings of $2.39 a share.

Our strong financial performance also resulted in $2.8 billion in cash from operations last year, which was $200 million more than our original cash from operations guidance and above the midpoint of the revised guidance range we provided on our third quarter call in October, and also reflects over $300 million of nonrecurring cash payments such as the penalty under our deferred prosecution agreement.

Last fall, we outlined our $17 billion sustainable investment plan through 2025, which includes our $3.3 billion investment plan this year, encompassing grid modernization resiliency, energy efficiency, enabling the energy transition and base reliability improvements.

We expect these investments to not only drive our 68% growth rate but help us emerge as a leader in the energy transition. We also plan to make further improvements to our balance sheet this year. On January 20, we redeemed $850 million of holding company debt and plan to retire another $500 million in holdco debt expiring later this year.

We have begun to recapitalize certain of our operating companies to fund their capital programs and improve their credit profiles. For instance, we recently issued redemption notices for $150 million and $25 million of operating company debt at CEI and Toledo Edison, respectively.

We also plan to recapitalize certain other companies later this year to fund growth and enhanced credit metrics and capital structures as we plan to be much more active with rate proceedings in the future. For 2021, our CFO to adjusted debt, as defined by Moody’s, was 11.5%.

This excludes the one-time non-recurring payments, I mentioned earlier and that’s our $1.5 billion cash position with debt. We are pleased with our progress and we remain well-positioned to achieve 13% CFO to debt by 2024.

As we consider the full deployment of the proceeds from the equity transactions, we will remain flexible considering market conditions to optimize our balance sheet and to fund our capital programs, including further reducing balance sheet debt at our holding company, optimizing utility capital structures to fund capital programs or voluntary pension contributions.

Our qualified pension status has improved to 83% funded given the current interest rate environment. As Steve discussed, FE Forward is transforming our organization and setting the stage for us to deliver a superior customer experience.

In 2021, we achieved $300 million in total cash flow improvements from the program, compared to our original expectation of $240 million. This included $170 million in net CapEx efficiencies, along with $130 million in working capital improvements.

As we look through 2025, we anticipate cash flow improvements to fund $1.6 billion in sustainable investments in our distribution business to support the energy transition while keeping customer rates affordable. Steve touched on several of our FE Forward focus areas, and I’d like to expand on one more.

As we all know, unprecedented supply chain issues have impacted virtually all industries throughout the pandemic. We have successfully served our customers and continued our infrastructure investment programs despite these challenges.

However, through FE Forward, we are investing in our supply chain function to drive more integrated and strategic sourcing, improved market intelligence, resulting in better pricing decisions and to optimize performance in terms and conditions with our suppliers.

We have also integrated our warehouse and inventory management group into our procurement function to complement our demand management forecasting with long-term purchasing decisions.

By leveraging technologies and investing in resources, we’re streamlining our processes, achieving cost savings and better cash flow and working to mitigate risk the entire industry is experiencing.

While FE Forward is focused on transformation and innovation, we are seeing efficiencies in our operating and maintenance activities, which will provide for flexibility with our operating costs. In fact, from our 2022 base O&M of $1.4 billion, we anticipate that FE Forward will naturally reduce O&M levels at least 1% annually starting in 2023.

This will afford added flexibility to be strategic with O&M as we were in 2021 and will also mitigate the impact on customer rates as we think about future rate cases. We recognize that we have a lot of moving parts this year.

However, by applying the same focus that has changed our company for the better over the past 12 months, I’m confident we will continue to implement the plans we’ve outlined and further transform our company into an industry leader.

At the same time, we will deliver on our financial commitments, including achieving our 2022 operating earnings guidance of $2.30 to $2.50 a share, with growth of 6% to 8% thereafter, delivering on our 2022 cash from operations target of $2.6 billion to $3 billion, and growing operating cash flow consistent with earnings over the planning period.

Executing our $17 billion investment plan, which includes $3.3 billion of investments in 2022, maintaining our anticipated annual dividend rate of $1.56 a share this year with the objective to grow the dividend within our payout ratio as earnings increase consistent with our plan, successfully closing on the FET minority interest sale, and finally, making progress toward improving our balance sheet and strengthening the credit profile of FirstEnergy, as we work to reach 13% FFO to debt by 2024, with mid-teens thereafter.

Before we open the line for questions, I want to thank you for your time and your interest in the company. We are proud to be building a long-term, sustainable company and culture centered on our core values and the vision Steve shared with you today. I would be happy to take your questions..

Thank you. [Operator Instructions] Our first question comes from the line of Michael Lapides with Goldman Sachs. Please proceed with your question..

Hi guys. Thank you for taking my question.

Just curious, how do you think about bracketing the potential for O&M cost cuts? Meaning is the 1% a year kind of a guideline level, or do you think you can actually achieve more than that? And can you give a little more detail on where in the business you think it is that you are going to get those cost cuts? Is it supply chain, or is it across a lot of different functions?.

Yes, Michael, this is Jon. Thanks for the question. So, if you think about where we are for 2022 with $1.4 billion of operating costs, about 60% of that is labor. The other 40% is materials and contractors that we have on the property to supplement our labor force field work.

And so as we think about O&M reductions through the FE Forward program and productivity improvements, that’s going to optimize, obviously, how we backfill attrition. But more importantly, it’s going to eliminate external contract needs.

And we anticipate improved productivity through all the different initiatives that we are working through somewhere in the 20% to 25% range in field operations. Another example that we are working through is around our asset repair, replace decision and using better data and analytics to drive better decisions. And we are piloting a few programs now.

We have done some benchmarking, and we think we can get 30% more efficient in those types of programs in terms of how we deploy resources.

And then finally, we are modernizing our customer group, making it more automated, making it more user-friendly with customer self-service options and the like, which will significantly reduce the number of manual transactions that our call centers take today by up to 40%.

So, it’s improved productivity, it’s mostly around driving contractors off the property, but also it will help us maintain staffing levels with our attrition..

Got it. Hey Jon, one other follow-up. Just curious, I noticed in the slide deck, you are talking about kind of a wave of rate cases next year.

Any potential change in kind of the structural regulation you are expecting, meaning any efforts to get things like more trackers or forward-looking rate making in places like West Virginia?.

I think it’s just going to be a traditional base rate case. We have the veg management program in West Virginia. New Jersey is an area that I think we need to address the level of deferred storm costs that we have on the balance sheet. Today, we have over $300 million of storm costs that we need to collect.

So, there will be something that we need to address there through some type of mechanism. But I think for the most part, these are going to be traditional base rate cases. And we will try to continue with the riders that we have in place in each of those jurisdictions..

Got it. Thank you, Jon. Much appreciate the guides..

Thank you. Our next question comes from the line of David Arcaro with Morgan Stanley. Please proceed with your question..

Hi. Thanks so much for taking my question.

I was wondering if you could maybe touch on right now kind of how you are prioritizing use of capital that you generate, the $5.5 billion that the plant generates over the next 5 years priorities for deploying that capital and when you might kind of stage and make those decisions?.

Sorry, can you repeat your question? I wasn’t sure I totally understood that..

Sure. So, over the course of the plan, there is about $5.5 billion of cash that you are generating. And you have mentioned dividend growth, minority interest distributions.

Just wondering if there are kind of priorities for how you plan to allocate that capital and make strategic decisions around it?.

Yes. No, I understand now. Yes. So, if you look at our – just our high-level financing plan, if you do the capital program with our cash from operations and our planned financings, there is going to be a pool of cash left over of $5.5 billion.

About – there is going to be a portion of that will obviously fund dividends and dividend growth as we look to the future. But there will be a portion of that is available to us, as I mentioned in my prepared comments, that we will remain flexible on either to find additional CapEx, de-lever the balance sheet or make pension contributions..

Got it. That’s helpful.

I am just curious on timing of how that might play out over the next several years when you might be kind of able to take some of those initiatives?.

Yes. So, my sense is we are going to try to close on the FET transaction sometime in the second quarter, will obviously take some time to assess market conditions and probably make some decisions on that back half of this year..

Got it. Thanks. And maybe separately, just in West Virginia with the dialogue that’s going to be undertaken around the coal plants.

Wondering if you could give any expectations on how you think that could play out if there is appetite to pull forward closures of Fort Martin or Harrison?.

David, this is Steve. I think right now, it’s too early on to really give you a good sense of that. We did do the ELG filing, which I think was an important step relative to just living up to our environmental responsibilities to continue to run those plants responsibly, as I have said in my prepared remarks.

As for the ongoing dialogue that we are going to promote for the energy transition in West Virginia, we are really just going to take that one step at a time. And we are going to follow our approach in all matters here, and that’s to be open and constructive, listen to various concerns along the way.

I think concerns will lead to opportunities that we could define that we will be thoughtful of and really just take one step at a time..

Understood. Thanks so much for the color..

Thank you..

Thank you. Our next question comes from the line of Angie Storozynski with Seaport Global. Please proceed with your question..

Thank you. So, just a couple of things. So, we are still waiting for an SEC settlement. I think we are all surprised that you guys are getting money from the last settlement.

So, is there a way for you to communicate if net of that cash coming in, there is – you would still expect to have some meaningful cash outflow related to the SEC settlement?.

Angie, thanks for your question. Our work with the SEC is continuing in terms of, once again, being open and collaborative with them. And I want to respect that process and really not get ahead of it at all.

With regard to the very nature of a derivative suit, there was a cash payout from the insurance companies that amounted to the $180 million unless court approved plaintiff fees that will be cash returned to the corporation. We have several other items that are in litigation beyond the SEC work.

And we are going to once again tackle those one at a time and just take it on a step-by-step basis..

Understood.

And then secondly, can you comment on Icahn’s involvement with the Board now that it feels like the strategic transformation of the company is almost done?.

Well, I think their involvement with our Board remains unchanged. They have continued to be very constructive, very productive members of our Board, and I don’t see any change in that, Angie, right now. And we have found them to be great colleagues of ours as we have moved ahead..

Okay. That’s all I have. Thank you..

Thanks Angie..

[Operator Instructions] Our next question comes from the line of Jeremy Tonet with JPMorgan. Please proceed with your question..

Hey, good morning. It’s actually Ryan on for Jeremy. Just wanted to ask one on the FERC audit that came out last week and you guys are kind of very clear on the different management changes that are going to being contemplated next year.

But just wondering, is there anything in there that we would kind of be thinking about that would kind of impact go-forward earnings thinking about kind of the calculations or the capitalizations, any impacts from that?.

Well, Ryan, let me just provide a couple of comments here, and then I will flip it over to Jon. As you recall, in 2019, FERC initiated a routine audit of accounting and reporting under FERC regulations. Due to the events in 2020, we saw that staff extended the audit.

I think importantly, there is nothing that was newly identified that the company wasn’t already aware of within the audit itself. And we did that through our own very thorough review of all the matters contained therein. Also, the audit didn’t identify any additional lobbying related to expenses for those that had a question around that.

As for the details of the key findings, I think I will pass that over to Jon Taylor, and he can elaborate..

Yes, Ryan, there is really just two major findings that really impact our financial plan that we have already really incorporated into the business plan going forward. One was the capitalization of corporate support, and so we have factored that into our plan.

We still got to get to a time study that’s in process right now, but we have included an estimate of what we think will be the outcome associated with it, and then the capitalization of veg management. That also has been incorporated into our business plan. So, those are the two primary findings from a financial perspective.

An you can see that we provided pro forma return on equities for each of our jurisdictions, which have been significantly lower from where they were on an actual basis in 2021. So, I kind of view this as a temporary issue in terms of being able to recover those costs in the future in rate cases that will be filed soon..

Got it. That makes sense. I appreciate all the color there. And then just maybe one on the settlement that was kind of announced last night, and I know I appreciate you on trying to get ahead anything.

But just thinking through how we should be thinking about this kind of from a process standpoint and just when we might kind of get kind of incremental updates or announcements on all these different items, the moving pieces that are kind of involved in that settlement?.

Well, Ryan, the way I look at the settlement, it’s one more additional step for our company to put our legacy issues behind us. And by each action we take in this regard, we continue to rebuild the trust and be able to really focus our entire company on what is a very bright future with an excellent business strategy and supporting business plan.

So, I don’t have details beyond what’s contained within the term sheet that’s been made public. But as events warrant and significant issues are brought forward and moved, we will certainly keep the investment community up to speed on that..

Understood. Thank you for taking my questions..

Thank you..

Thank you. Ladies and gentlemen, that concludes our question-and-answer session. I will turn the floor back to Mr. Strah for any final comments..

Well, thank you. I wanted to thank you for your ongoing interest in FirstEnergy, and thank you very much for joining us today. And please, above all else, please stay healthy and stay safe. Thank you very much..

Thank you. This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation..