Brian Dingerdissen - Chief of Staff Chris Franklin - Chief Executive Officer Dave Smeltzer - Chief Financial Officer Dan Schuller - Executive Vice President of Strategy and Corporate Development.

Spencer Joyce - Hilliard Lyons Tim Winter - Gabelli & Company.

Good day, and welcome to the Aqua America Q2 2017 Earnings Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Brian Dingerdissen. Please go ahead, sir..

Thank you, Michelle. Good morning, everyone, and thank you for joining us for Aqua America's second quarter 2017 earnings conference call. If you did not receive a copy of the press release, you can find it by visiting the Investor Relations section of our website at aquaamerica.com. The slides that we will be referencing can be found on our website.

There will also be a Webcast of this event available on our site.

As a reminder, some of the matters discussed during this call may include forward-looking statements that involve risks, uncertainties and other factors that may cause the actual results to be materially different from any future results expressed or implied by such forward-looking statements.

Please refer to our most recent 10-Q, 10-K and other SEC filings for a description of such risks and uncertainties. During the course of this call, reference may be made to certain non-GAAP financial measures. A reconciliation of these non-GAAP to GAAP financial measures is posted in the Investor Relations section of the website.

Presenting today is Chris Franklin, Aqua America's Chief Executive Officer; and Dave Smeltzer, the Company's Chief Financial Officer and Dan Schuller, our Executive Vice President of Strategy and Corporate Development. After the presentation, we will open the call for questions. At this time, I'd like to pass it over to Chris Franklin..

Thanks, Brian and good morning everyone. Thanks for joining us.

Quick summary of what we'll discuss today, talk about a little recent news on the company, highlights for the second quarter; Dave Smeltzer, our CFO will review the Company's financial results and our rate activity and then Dan Schuller, who's our Executive Vice President of Strategy and Corporate Development will take us through an update on our acquisition and growth programs.

Then we'll conclude with a formal portion of the presentation by recapping our guidance for 2017 and then we'll take any questions that you might have. So let's start it then. By now you've seen our release and we started the year with a good solid first half.

We feel very good about our work on the growth front and I'm going to let Dan discuss that in a little more depth just shortly.

Our annual infrastructure improvement program is off to a strong start and we've invested about $210 million so far this year in waste water infrastructure and we remain on track to spend a record spending of capital at about 415 million for the year. I'm happy to report that we're on track to replace about 150 miles of main this year.

This includes pipes replaced across our eight state foot print. We're also installing some new water main as opposed to replacement we're installing new projects as well as some plant expansions. And I'll just mention two I think are interesting. The two projects both in Illinois. First is our University Park pipeline project.

The University Park is just south of Chicago. We're building a 16 mile pipeline to bring our award winning Kankakee river water up to the University Park area. Previously University Park was served by wells, which needed significant treatment to improve their water quality.

This new pipeline is a much more cost effective solution, compared to treating each of the wells in the University Park to bring them up to what we would call best standard. The new pipeline will also provide increased capacity in that University Park area.

The second project is related and is the expansion of our Kankakee water treatment facility, which also supports some pretty significant economic development in that area, in particular Biodeck [ph] plant there which is doing manufacturing work.

In that plant expansion will provide - our Kankakee plant expansion will provide additional reliability and redundancy for the current plant and also bring some new and additional water supply to these industrial users who are already requiring about 4.5 million gallons a day and we expect them to ask for more in the future.

But one of the project I'll mention little closer to headquarters here in Pennsylvania, we completed a pipeline in Bucks County just north of where we sit.

We were purchasing about 3.5 million gallons a day of water from the Bucks County Water Authority, but upon completion of our new pipeline, which now connects the customers to an existing and recently expanded Aqua water supply. We are able to eliminate that contract with Bucks County.

The result is an annual operating expense savings of about $7.3 million that's significant for us. So this is another one of our examples that we've talked about before of these seven to one projects where we can spend up to about $7 in capital to eliminate $1 of operating expense, which really benefit to the customers and the shareholders.

We're always working to identify projects like this and to see more of them in the future. Switch gears a little bit to our board governance. We added a ninth Board member to our Board of Directors who met earlier this week, we welcomed Dan Hilferty, who's the CEO of Independence Blue Cross in Philadelphia.

We're excited to have Dan on the Board as he's really expanded his business, he's also very familiar with regulated world albeit healthcare and he's been a big player on the national scene in healthcare reform. So Dan is a great addition to our Board. Now let's turn to the highlights of the quarter. Year-to-date we've added 5,326 customer connections.

This accounts for about a 0.5% in customer growth. We acquired a system called Tobyhanna in Pennsylvania just in July and two small systems in Indiana, both investor owned so far this year. These are small systems where in that backlog mentioned of these small private deals that we've amassed over the years.

Now regulated revenues were up in the quarter to $202 million compared to $198.1 point one million last year and total operating revenues were $203.4 million in the quarter compared to $203.9 million in '16. Now rates, surcharges and regulated customer growth increased our revenues by about $4.3 million for the quarter.

And this was offset by what we talked about many times as decrease in market based activities and we really concluded that program at this point. Consequently, earnings per share were $0.34 compared to $0.33 reported in the second quarter of 2016. And lastly, important to mention that the Board met this week and raised the quarterly dividend by 7%.

The new quarterly cash dividend is just over $0.20. The fractional amount is in the release, $0.20 per share and on an annualized basis, nearly $0.82. This marks the 27th increase in 26 years and the company has paid consecutive dividend, quarterly dividends for more than 72 years now and we're very proud of that.

With a long history of enhancing value for our shareholders and we're pleased to continue building on that history by increasing our quarterly dividend. This strong growth in the dividend is reflective of our confidence in the business and our commitment to the living long-term value for shareholders.

The Board continue to target 60% to 70% payout ratio compares to where we are right now we're in the high 50s, call that 58%, 59%. With that let me turn it over to Dave Smeltzer to take us through the financials in a little bit more detail.

Dave?.

Yes. Thanks, Chris, and good morning, everyone. Today, I'll review the financial results for the quarter and discuss some of the key factors impacting our performance and provide a look at our 2017 rate activity. So we reported revenues of just over $203 million for the quarter.

Our Regulated segment reported revenues were $202 million, up 2% compared to the $198 million in 2016.

I'll show waterfall chart on this in a minute, but when we look at Q2 17 versus Q2 16, the increase in revenues from rates surcharges and regulated growth was largely offset by reduced revenue from market based activities as we've been talking about the last few quarters.

O&M expenses were down 4.2% to $70.9 million for the second quarter of '17 compared to $74 million in the same period of '16, largely as a result of expenses that were associated with our former MBAs. For our Regulated segment O&M expense increased by 4% to $72.6 million compared to $69.7 million last year.

And we reported net income of $61 million or $0.34 per share compared to $59.6 million or $0.33 per share in Q2 last year. For the year-to-date annual revenues decreased slightly to $391.2 million from $396.5 million the same period last year.

Regulated revenues however were up 1.1% to $388 million as Regulated revenues exclude the impact from our market based activities. O&M expenses were down 5.1% to $140 million for the year compared to $147 million in the same period last year largely due to lower production expenses and continuation of the story of our reduced market based costs.

Regulated O&M expenses were up 2.2% due to a number of prior-year items including a gain of $1.1 million recognized for the buyout of an operating contract, a reduction in claim reserves of $1.6 million and a system sales gain of $1.2 million all of which occurred in Q2 '16. Partially offsetting these increases was a decrease in pension expense.

And also for the year-to-date net income was $1109 million compared to $111.4 million last year. Earnings per share was $0.62 compared to the $0.63 reported in '16 and the year-to-date waterfall chart on EPS is in the appendix and that would give you more color on this year-to-date matters.

Looking at different components of the 0.2% revenue decrease, rates and surcharges, consumption increases and customer growth in our Regulated operations increased revenues by approximately $4.3 million but then the market based revenue decline of $4.4 million and other minor items offset the increases.

O&M expenses were almost $71 million for the second quarter compared to $74 million in 2016. Expenses related to regulated acquisitions, our prior-year reversal of reserve due to the settlement of a contractual obligation and other expenses in the quarter increased O&M $3.3million.

Reduced market based activities expenses, lower production costs and lower employee related costs primarily insurance offset the aforementioned increased by $6.4 million for a net decrease in O&M. expenses of approximately $3.1 million year-over-year for Q2. And like me you may have noticed that anomaly in our O&M expenses.

The fact that we would have had negative O&M expenses that are non-regulated operation kind of stands out and it was very, very straightforward matter, our costs are way down and we did have a contract in that non-regulated sector that we're able to reverse the reserve on this year upon exiting that contract that we had inherited with the previous acquisition.

So looking at earnings per share, starting with the $0.33 we reported last year, regulated growth rates and surcharges, consumption and tax repair benefits increased our earnings per share by a $0.015 in the quarter and reductions in market based activities and other expense increases in aggregate decreased our earnings this quarter by over $0.005.

Net for the quarter, we reported earnings of $0.34 per share. Moving to rate activity, so far in 2017 we completed rate cases or surcharges in six states with $11.1 million in additional annual revenue. We also have rate cases pending in Illinois and Virginia where we are requesting an additional $14 million in revenue.

And lastly I'm going to provide you with an update on our plans to file a rate relief in Pennsylvania. As you'll recall, we've not raised customer rates in Pennsylvania since the conclusion of our 2011 rate case.

And sticking with our prior guidance, we do anticipate we'll begin implementing a PA bid later this year and plan to gradually phase in the increase which we would expect to reach 7.5% over multiple quarters. We expect to file a full Pennsylvania rate case in 2018. And additional rate information can be found in the appendix of this presentation.

Chris?.

Thanks Dave. When I became CEO I talked with many of you about our desire for greater transparency and greater exposure to our management team and we've really attempted to do that over the last couple of years.

And today do continue in that trend, I'm going to introduce you to Dan Schuller, our Executive Vice President of Strategy and Corporate Development by a way of introduction to Dan, today is Dan's second anniversary with the Company, exactly today. Dan is going to talk a little about our growth strategy and the review of the acquisition landscape.

Dan?.

Thanks, Chris, and good morning, everyone. First I'd like to refresh your memory as to how we think about our growth strategy. You recall that our views on growth strategy are anchored in our core competencies, which include capital investment, regulatory affairs and operational excellence.

Think that is prudently rehabilitating and expanding our infrastructure, earning a fair return on those investments and running our business in an optimal manner. We believe these core competencies can be leveraged in three primary areas or avenues of acquisition growth., meaningful acquisitions, strategic M&A and market-based activities.

Today I'll provide an update on our municipal market, municipal acquisition activity, and touch on the completion of our exit of a legacy MBA or market-based businesses. First let's look at the acquisition we've closed so far this year.

This slide summarizes what we've completed to date, we acquired a couple of investor owned utilities in Indiana in the first quarter, recently added Tobyhanna, a municipal waste water system in Northeast Pennsylvania. Next, I wanted to provide an update on our municipal activity thus far in 2017.

This slide depicts the municipal systems we have under agreement this year. We closed Tobyhanna in June adding the 740 customers that I mentioned a minute ago. This was System C on the chart that we showed on our last earnings call. You'll note that we added System E as it is now under contract. It's a fairly sizable deal adding nearly 3,000 customers.

System E includes both water and wastewater connections and it's in our target range of 2,500 to 25,000 connections. The deals either closed or anticipated to close in 2017 represent nearly $114 million of purchase price and nearly 9,000 customers or 12,000 equivalent dwelling units.

In total, the system is represented on this slide consists of about 12,000 connections at a purchase price of approximately $126 million. On future calls, we will keep you updated as these systems reach financial close.

Lastly while they're not as many deals on the slide as some expect, we remain excited about the numerous opportunities that we are seeing in the municipal market. As Chris has indicated previously, we're seeing more interest than ever before on this front especially in those states with fair market value treatment.

Given our pipeline and anticipated regulatory approval schedule, we're still targeting the 1.5% to 2% full-year growth that we discussed as part of our guidance call in January. Now let's turn to our top prospects slide. You've seen a slide like this from us before, this is meant to provide you with a sense of our opportunity set.

It's simply segments the top 70 deals on which we're working by systems size. As you'll recall we're most focused on those deals with 2,500 to 25,000 connections. As the header indicates 94% of the nearly 500,000 connections represented here are from systems within that target range.

While we clearly don't expect to close all of these potential transactions, when one falls off, it's quickly replaced by another opportunity from our much longer list, which has many more acquisition candidates. Now let's turn to our market-based activities. In June, we completed our last planned divestiture of a market-based activity.

Our efforts to divest many of our subscale market-based businesses are now complete. Therefore this is the last time I'm expected to talk about this on an earnings call. The one primary market-based activity that we plan to keep is home serve product, a product to protect the service lines between our mains and our customers' home.

You may recall that we receive a royalty on these contracts, but also keep a limited number of O&M contracts that are close to our owned utility operations. We occasionally evaluate market-based opportunities which are closely related to our core business and expertise.

And if we find something that is of the right scale with an appropriate risk and profitability profile, we may decide to expand our market-based portfolio.

That being said, we don't envision this segment of the Company becoming more than 10% of Aqua America as we continue to place our primary focus on growing the regulated water and wastewater business. And now I'll turn it back to Chris..

Okay. Thanks, Dan. Appreciate the update and Dan will stay for the questions when we wrap up as well. So let me just quickly reaffirm our 2017 guidance and then we'll move to questions. We expect our full-year earnings per share to be in the range we predicted of $1.34 to $1.39.

And as always we remain laser focused on minimizing O&M expenses and expect year-over-year increase in the 1% to 2% range. We expect to invest more than $450 million in infrastructure in 2017, again a record amount for us. This will be about $1.2 billion of CapEx over the next three years that's through 2019.

This will improve and strengthen our infrastructure to our customers in the systems we currently own and it's important to recognize it's these improvements that allow us to provide this high level of service to our customers. But in addition to that we expect to spend additional capital to make improvements to the newly acquired systems.

Again this isn't captured in that $1.2 billion CapEx budget. This would be an additional CapEx on top of the $1.2 billion. We expect a grow rate base in the range of 6% to 7%.

And as Dave previously discussed, we expect to file a disk here in Pennsylvania this year and we expect to file the Pennsylvania rate case or a case in 2018 and we would see resolution sometime in 2019. Finally, as Dan said, year-over-year we expect total customer growth to be in the 1.5% to 2% range.

So before we end the call, I'd like to open it up for any questions you might have..

Thank you. [Operator Instructions] And your first question comes from Ben Kallo of Robert W. Baird. Please go ahead. Mr. Kallo, please go ahead. Your line might be -.

Kallo, your phone is on mute. Okay, maybe we should move on and come back to Ben..

Thank you. The next question comes from Spencer Joyce, Hilliard Lyons please go ahead..

Hey, good morning guys. Thanks for all the color. My question is for Dan and welcome to the calls.

Great to have you on here, two years into your tenure here, I was just wondering if you could talk about the development of the M&A pipeline versus perhaps what your initial expectations were? And then just kind of give you the floor a little bit to discuss anything as far as the go forward outlook with respect to kind of your initial assumptions..

Sure and I appreciate that Spencer. And two years ago, we sat here with the senior team and the Board really that the day before the Board meeting and today we sit here after having really accelerated like I'd say formalize and accelerated our municipal acquisition program.

So as we talk at Analyst Day, 1.5 year ago now, putting that process in place with an investment committee and putting a database in place where we're tracking our opportunity set and shepherding the opportunities through that process working with our state teams and so forth.

What we've done is, built a strong pipeline and we showed you that slide today with the top 70 opportunities and we continue to advance these in moving forward and we would expect that the fair value legislation will continue to be beneficial to us in bringing us pipeline of opportunities.

We've certainly seen that as we said earlier, in all of our fair value states, a real acceleration in the opportunities side. Now, as you know they don't develop overnight, take a while to develop these, to get them into the pipeline to convert them to a signed agreement at some point and then to get them to regulatory approval..

Yeah, fair point there on the timeline and I appreciate the color.

Talking about the fair value legislation is it safe to assume that most of the top 70 prospects would be in those fair value states?.

That is a –I got to look at the numbers exactly, but that is a fair assessment that a good percentage of those would be in the fair value state..

I guess another way to ask would be, have you seen a migration over the past couple of years towards that list, I guess shifting towards the fair value?.

Yeah, let's put this way. That list if we had looked at it before, when we were in the kind of pre-municipal initiative days, would have been - the top 70s would have been shifted to do left, there would have been many more small opportunities to acquire small investor owned utilities.

What we really pushed for is to increase the scale of our targets and to move those targets to being municipal. So, that's why we show that slide 2, when we show that slide to the board saying, this push towards the 2,500 to 25,000 connections has taken hold, many of those being fair value type of system acquisition opportunities..

Chris I think one of the things that Dan brought to the team here too is, we are more sales team now, in other words we are out there more actively speaking with and generating sales. In the past we would wait many times for regulatory agencies, call that environmental BEP, DPA's and PUC's.

They call us with troubled systems, we'd react and we purchase some. Now we are out there actively, more aggressively talking with various systems and outside as Dan mentioned..

Yeah, to that point, are you comfortable with kind of the current size and scope of the business development or the sales team or are there perhaps any additions or changes there for the next few quarters?.

That's something Spencer we constantly evaluate, but I think at this point we are pretty comfortable with the team that we have in place and their ability to generate and develop opportunities for us..

Yeah, I hope you don't get the secrets aren't you. But on the other hand, I think it's fair to say, central systems have arrived, we have rammed up both the number of people and the activity around the sales..

Okay. I appreciate the color there, and that's all I had. Thanks guys..

Thank you..

Thank you. [Operator Instructions] The next question comes from Jonathan Rader [ph], Wells Fargo. Please go ahead..

Hey, good morning gentlemen.

How are you doing?.

Good thanks. Thanks for being with us..

Yeah, no, thanks for taking the call.

So with regards to the PA rig that we planned, Dave do you have to hit the 7.5% discap before you can make the general request or can you continue in performing disc increases as the rig takes around its course?.

Well the answer is no and yes, right. We could file before reaching 7.5% technically, right. But, generally the way we would prefer to do it would be to reach the 7.5 first and then file the base rate increase, which would be beyond that 7.5%. So that's our expectation right now..

Right, but once you file the rate increase, you can't keep, I guess implementing disc increase is what you're saying, right?.

Well, certainly if we reach 7.5% before we file as is our intention that's exactly correct. But, just from a generic stand point if we hadn't reached it, we certainly could continue to increase during the penalty of the rig case..

Okay, okay, so it does give you that flexibility, if you want to do. As I said if I think of the trajectory of the disc increases if you are not starting until late in '17 and then may be in position of file the rate case still in '18.

In terms of the timing rate case filing, do you think it will be consistent with when - or particularly filed in the past, November?.

Yeah, we haven't nailed down a time yet. I would like to think it would be before that, but again we haven't made that final decision just yet.

But when you think about this way, we have already decided that rather than go to 7.5% on the on the disk immediately, as we are qualified for having put over a billion dollars of piping in Pennsylvania since the last rate filing.

We've decide instead of hitting that 7.5% all at once to roll in over several quarters, to be more gradual, and more customer friendly. So, when you think about that, in order to do that and implementing our first disk, obviously we haven't implemented our first disk in Q3, which we are in today right.

So, the first disk will likely be Q4 and then you'd see further increase in Q1 and Q2. So, we would likely be some time thereafter, the implementation of that third disk that we would file the rate case..

Okay, that helps. And then Chris, maybe if you could kind of give your updated thoughts on M&A both within the water space as we saw Eversource agree to acquire Aquarion as well as potential opportunities outside of water and waste water as you see it today..

Yeah, well I think that it was a little bit of a surprise to all of us when Eversource ended up with Aquarion. I did call Jim George at Eversource and congratulated and welcome to our space, and I think when he explained it, they had substantial cash from the sale of coal generation in New Hampshire and we are going to redeploy it on clean water.

I thought that was great, and hopefully there will be a player in our space. But, I don't know that Electrics necessarily are moving back into the water, as you know they were in, they got out, so we you'll have to talk to your Electric friends.

On a broader sense, the multiples are just so high Jonathan in the water space and that matters the regular utility space. That it's tough to look at, you really have to search for accretion and as you know we have been and continue to be very disciplined buyers.

And so we look at these opportunities, we're looking for increased shareholder value in the form of not only accretion, but enhance long term growth rate. So, all I can say is, as we look for opportunities in our space, we will continue to look for those opportunities and only move when we think it's going to meet our shareholder value requirements..

Okay, thanks for that and one question for Dan.

What types of non-regulatory businesses would you find attractive and consider moving into?.

Yeah Jonathan, we haven't, we have done some initial work down there, but I would say it's too early to really have the discussion. It really has been really a lower priority for us than the municipal transactions.

And our focus is then growing our business through the municipal transactions and making sure that, that acquisition activity is building our customer base for the future..

And Jonathan we talked about this theme of complimentary and supplementary, given the market based business. These will be close to the core, we in the utility business understand what we are good at, and people here in Aqua America understand where our strengths are.

And, if its complimentary business, it would give us access to opportunity growth regulated business and obviously supplementary in the sense that it would enhance earnings then that would be attractive, but I think as Dan said, we've been very active on the municipal front, we've been In opportunities no larger scheme of the M&A world and this market based business has sort of taken a third tier..

Jonathan we spent a lot more time, to exhausting the sub-scale market based businesses we've had, and then looking at additional ones, as Chris said that would be complimentary and supplementary..

Okay, that's a good answer. That's what we would like to hear about the focuses on the community rather than and not the non-rigs. So, I appreciate the update and thanks for the time..

Thank you. The next question comes from Tim Winter, Gabelli & Company. Please go ahead..

Good morning, guys and thanks for taking my question. I wanted to know, given the shorter significance of returning to the Pennsylvania rate environment, if you can talk a little bit about Pennsylvania rates are relative to peers or where they have been in the past.

And, you know how much of a percent increase you think you need in '18, once you revisit that. And maybe what that's done to your earnings over the past several years, while you were staying out of Pennsylvania..

Yeah, Tim, it's Dave we tried to hit a couple of things, better to remind me. But, in Pennsylvania it's interesting; our rates were comparable to our peers for many years. We might have got a little bit ahead in kind of 90's really 2000's as we ramped up our infrastructure, rehabilitation program.

But, in the last seven years have fixed that right, because our last rate case was filed in 2011, and since then our peers have continued to spend capital, implement surcharges and raise rates and we have not. And so, today as we see our rates are certainly comparable with our peers in the utility space. So, that's how I would judge our rates.

In terms of our process, we mentioned before that we would like to file then case subsequent to reaching the maximum on our surcharge.

We felt that jumping to 7.5 although, certainly, technically possible having put that billion plus dollars of plan in last number of years, wouldn't be relating for our customers, so we've decide to spread that out over multiple quarters. And once we do reach 7.5 then, the timing would be appropriate to file that next rate case.

So, I expect to be sometime in the middle of the year, we haven't nailed down, which quarter or which month yet, but I would expect it will kind of be sometime near the middle of 2018..

Let's get back and jump in and supplement things, because your question is really good question. Firstly, think about and swipe it back, we haven't had top line growth really since as Dave said 2011.

Our Pennsylvania units go as operating at about $0.29 cents on an overall revenue, which is pretty impressive from the operating team here at the company. And that's important to keep in mind, really been expense conscious.

The second thing is we are keenly aware that our - the fact that we've been on rates for nearly seven years now, helps us in our minuscule acquisition program, because they've evolved in year over now. This is the real differential between what minuscule charge, what we charge.

And so to the extent we can be efficient for our customers, keeping the overall rate down, it makes our deal making on the minuscule front, much easier.

We are also very aware though that we would like to continue the single pair of pricing and so we think that the gap is smaller from where we buy and their rates and where they get to, to get the single pair of price. You know that's an advantage for us..

Anything else on that, we can help with this Tim..

I'm sorry, thank you guys. No I appreciate that..

Thank you [Operator Instructions]. It appears that there are no further questions at this time Mr. Chris Franklin. I would like to turn the conference back to you for any additional or closing remarks..

I've no additional remarks. I just want to thank everyone for joining and obviously, Brian and the team Dave are all available for follow-ups if you have them. Thanks very much..

Ladies and gentlemen, this does conclude the conference call for today. You may now disconnect your line and have a great day..