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Essential Utilities Inc (NYSE:WTRG)
Q4 2019 Earnings Call
Feb 27, 2020, 6:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Brian Dingerdissen -- Vice President and Chief of Staff, Investor Relations and Communications

Following this panel, Dan Schuller will provide a financial overview of the company. Finally, Chris will provide a summary of the day, reiterate the guidance and then open the floor for questions.

Following the Q&A period, we invite you to stay for lunch, during which time the management team will circulate between the tables.

Richard Scott Fox -- Executive Vice President and Chief Operating Officer

And now I'd like to invite Dan Schuller to the podium to talk about our financial update.

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

Thank you, Rick. Thanks, analysts. Good morning, everyone.

Many of you are likely focused on 2020 and beyond, let me start by recapping 2019. First, we ended the year with almost $890 million in revenue, up 6.2% as we benefited from the impact of the Pennsylvania rate case and continued customer growth. O&M was up 8% from $308.5 million to $333.1 million. However, those results were skewed by the Peoples transaction-related costs as well as growth, which we'll discuss further when we show the O&M waterfall. Net income was up 17% year-over-year from $192 million to $224.5 million, but that was impacted by transaction-related expenses as well. GAAP EPS was down 3.7% given that the 2019 share count was higher than 2018 due to the April 2019 common stock and tangible equity unit offering. To provide a clear picture of year-over-year income, let's look at the adjusted income and adjusted income per share lines. Adjusted income was up 5.1% and adjusted income per share was up 4.3% from $1.41 to $1.47. The $1.47 excludes the impact of Peoples-related expenses and the additional shares issued to fund the Peoples transaction. Now we will use that $1.47 to baseline our future earnings growth.

Next, let's walk through the details in the following waterfall slides starting with revenue. For 2019, we reported strong revenue growth of 6.2%, which was primarily driven by rate increases in customer growth. I would note that this included the first rate case impact at Aqua Pennsylvania since 2012. During that time, we invested over $2 billion in infrastructure improvements in Pennsylvania. Good customer growth. About 70% of that revenue gain came from newly acquired assets with the remainder from organic growth. I do want to note the volume category shown here reflects both water consumption and wastewater volumes. We made this change in our categories in our third quarter earnings presentation due to the increasing importance of wastewater in our business.

Next let's take a quick look at at rate case activity before moving on to O&M expenses. In 2019, we completed rate cases or surcharges in New Jersey, North Carolina, Ohio and of course Pennsylvania, totaling annualized revenue of $58.2 million. Thus far, in 2020, we've completed rate cases and surcharges in Illinois, Ohio and North Carolina for annualized revenue increase of $4.8 million, and we expect another $8.3 million from our pending activity in Indiana, New Jersey, North Carolina and Virginia. While not on this slide, I should mention that Peoples had a successful rate case in 2019 for the Peoples' natural gas business unit, resulting in approximately $59 million in additional annualized revenue.

Now back to O&M. At the waterfall, you will see that there are some onetime events in both 2018 and '19 that led to an uncharacteristic increase in O&M with Peoples-related costs in both years and some other nonrecurring beneficial items in 2018. Thus, the overall increase is not reflective of the true results of the business on a same-system basis, which were more in line with our historical expectations.

Next let's spend some time in the earnings per share waterfall. Admittedly, this is a complex slide and we filled the whole screen with it, as you can see. But let's walk through it carefully because it bridges between GAAP and adjusted figures for both 2018 and 2019. So GAAP EPS in 2018 was $1.08. But adjusting out the mark-to-market impact of the interest rate swaps and Peoples-related expenses to this for $1.41 on an adjusted basis for 2018. For 2019, rates and surcharges were the biggest contributors of growth, contributing an additional $0.16. Growth from acquisitions and organic customer additions added another $0.03, and that it was offset by by higher expenses, other and volume, bringing us to $1.47 for the adjusted income per share for 2019, up 4.3% from 2018. Continuing to the right then, the $1.47 is then impacted negatively by $0.22 of Peoples-related costs, about $0.11 from the dilutive effect of the equity offering and approximately $0.10 for the settlement of the interest rate swaps, resulting in GAAP EPS of $1.04 for 2019. Now I'd really focus on the middle of the slide between the two medium blue bars to understand the baseline year-over-year results for the business.

Next let's take a look at the multiyear trend in income per share. On the growth in income per share slide, you'll see the steady increase in our income per share since 2014. Those of you that have followed us for some time will recognize that this growth rate in the recent years was less than our rate base growth given the Aqua Pennsylvania repair implementation, which led to more rapid earnings growth in the early years and slower growth thereafter. The green boxes adjust the GAAP results for various items like the 2015 impairment of our JV pipeline in the Marcellus and the 2018 and 2019 impacts of the Peoples transaction-related expenses and financing.

Next let's discuss the dividend trend over the same period. In 2019, we increased the dividend 7%. We've increased the dividend 29 times in 28 years. And as of March 1, we'll have a 75-year history of paying quarterly cash dividends. This slide and those shown previously in the finance section have been focused on the financial results of the water and wastewater business. At this point, though, we're going to shift our sights to the future to provide you with more information on the combined water and natural gas utility business, talking about credit ratings, what you can expect to see in terms of segment reporting, key drivers of the business and combined earnings guidance.

So first, let's spend a few minutes on credit ratings, which now include the impact of the Peoples transaction. As we said, when we first announced the Peoples transaction, we are committed to maintaining a strong balance sheet, and our credit metrics reflect this. Historically, we had an S&P rating at Aqua Pennsylvania, and Peoples had ratings from both S&P and Moody's. Given the need to issue public debt at the Essential level, we went through the ratings processes at both agencies prior to our public debt issuance last year. Following our Pennsylvania regulatory approval in January, S&P released their ratings, giving Essential an issuer rating of A, meaning that unsecured holdco debt would be rated A-. You might recall, last April, S&P had the holding company at A+, but they indicated that they would downgrade the holding company by up to two notches with the transaction. But given updated financial projections this year, S&P only downgraded Essential at a notch. Essential down by 1 notch from A+ to A. So we're quite pleased with that outcome. Moody's came out with a BAA2 rating when we issued last April, and we understand that, that rating will remain constant at closing. Due to different ratings methodologies, it's not uncommon for utilities to have lower ratings from Moody's than from S&P. And as you can see on the bottom of the slide, these ratings are in line with those of our peers, which include water and gas players, of about $2.5 billion to $25 billion in market cap. And we'll work to support strong investment-grade ratings by maintaining our primary credit metrics in the ranges that are shown on the right-hand side of the slide, those in blue over there.

In terms of debt issuances, you should generally expect to see going forward a mix of first mortgage bonds at the opco level in those states where we have active indentures in place, so it's Pennsylvania, Ohio and Illinois, and public debt at the Essential level for our other water states and for funding Peoples' capital needs in Pennsylvania, Kentucky and West Virginia. Given the expansion from water and wastewater to natural gas, we thought it was important to give you a better sense of what investors will see in the future with respect to financial reporting. So per accounting standards, segments and the level of detail by segment are really defined by the chief operating decision-maker in the level of information which he or she regularly considers. Given this, we're envisioning two reportable segments: water, including wastewater and gas, which, together with non-regulated impairment some to the consolidated. The level of detail we expect to provide is outlined on this slide. But basically, it's a complete income statement down to net income for the two reportable segments as well as information on capital expenditures, total assets and rate base. We plan to provide most of this every quarter, but rate base, for example, we may just provide annually as we do in our 10-K today. Balance sheet and cash flow statement will only be at the consolidated company level. Now in putting this together, we believe that this will provide you with the level of information that you would expect from a true commodity utility.

Next let's shift gears and talk about the drivers of the combined Essential business with both water and gas. Let's take these blocks one by one. Regulatory environment. As you know, not all states are equal in terms of the constructiveness of the regulatory environment. Some are forward-looking. Others are historical. Some brand -- are higher ROEs or have better infrastructure recovery mechanisms. Certain infrastructure surcharges are focused on pipe while others are really sourced to meter, and some states have revenue adjustment mechanisms. Once we're in a state, we work to optimize our returns in light of that regulatory environment, but we also seek to improve below-average regulatory environment by working closely with regulators and supporting legislation, which would facilitate more progressive regulation. And as you'll recall, we have exited certain states that we deemed to have consistently subpar regulatory environments.

Capital investment and recovery. This is really the core of our economic model. We invest capital, which builds rate base, and then we seek to earn a return of and on the equity that supports that rate base. Regulatory discipline. This is about understanding the specific regulatory rules in a state and doing everything we can to ensure optimal regulatory outcomes and limited regulatory lag. For example, we carefully plan our capital expenditure and rate case timing to minimize that regulatory lag. Operating efficiency. And panelists talked about this. Others have spoken about it. But this is really about maintaining a key focus or a keen focus, I should say, on our O&M expenses so that when we file or rate it for a rate increase, the vast majority of that increase is predicated on the capital that we have invested to improve service to our customers. We won't spend much time on the O&M ratio today because it can be misleading. For example, for seven years, we didn't have a rate increase at Aqua Pennsylvania, so naturally, the O&M ratio would increase. We would expect a similar impact if our repair election of Peoples allows us to stay out of rates for an extended period of time. That said, we continue our focus on the expense lines via our variance reporting, monthly review processes, state visits and internal Board meetings. And we're seeking efficiencies as we bring Aqua and Peoples together, especially through technology.

Seasonality and weather. For utilities, seasonality is the regular pattern of higher or lower usage depending on the season, the normal pattern of ebbs and flows through the year, you might say. Weather, however, could be described as that inherent volatility within each season. And these effects find their way into utilities financial performance. And we'll show in a few minutes, the effects are much more pronounced for gas than they are for water. And those of us in the room are going to have to get comfortable with the fact that colder-than-normal or warmer-than-normal weather will factor into our earnings predictability.

And finally, tax efficiency. As regulated utilities, it's incumbent on us to make optimal tax elections to benefit customers and investors. Think tax repair. [Indecipherable] Pennsylvania, this allowed us to stay out of rates for seven years while we invested that $2 billion of capital. And other than the DSIC, customer rates were flat through that period. And now customers continue to benefit due to the low effective tax rate, which is incorporated into the revenue requirement. So while the weather is out of our control, the message of this slide is that we're never satisfied with the status quo. We're determined to effect these other drivers as much as we can to drive business performance and improve returns.

Next let's spend a couple of minutes on capital recovery. As you know, starting with the Pennsylvania DSIC back in 1996, we spent a great deal of time supporting enabling legislation for infrastructure trackers or surcharges. These mechanisms directly benefit customers by facilitating accelerated replacement of aging infrastructure while providing more timely recovery for the utility. This slide captures the current state of water and gas surcharges across our combined footprint and highlights the percentage of capital expenditures that's eligible for recovery by a particular surcharge. As Rick showed earlier, over 60% of our capital investment across the two operating units is eligible for infrastructure surcharges. While some states have better trackers than others, these mechanisms are always critical to us and that they allow us to earn actual returns on equity, which are closer to the authorized, and that's helped us to stay out of rates longer. That benefits customers as well because rate case expenses ultimately are pass through to customers. So we currently have infrastructure surcharges in six of our eight water states and two of our gas states plus we have enabling legislation in Texas and expect the DSIC to be implemented there later in 2020. And we also have a pilot mechanism in Virginia. We should note that some surcharge-eligible capital won't be recovered via the surcharge. For example, capital invested after the cap has been reached but before a rate case or if the shareholders are benefiting from repair and the level of earnings precludes implementing the infrastructure surcharge, some eligible capital would have to wait until the next rate case.

Next let's talk about the weather's impact on the business. So this is remedial for those in the room that cover other gas companies, but it's worth a few minutes for those who aren't historically focused on water or a little newer to the gas story. So heating degree day is a measurement designed to quantify the demand for energy needed to heat a building. It's the number of degrees that a day's average temperature is below 65 degrees Fahrenheit. So a day with a mean temperature of 30 degrees Fahrenheit represents 35 heating degree days. So using data from the Energy Information Administration from 1990 to recent times, we plotted monthly gas consumption in the Pittsburgh area versus monthly heating degree days for the same region. In the left pane, you see that strong correlation. The colder it is, the more gas that's used. Quite intuitive, right? On the right pane, we plotted the heating degree days by month, by year from 2014 to 2019. As we had expect, we see a certain seasonality with more heating degree days in January, February and March, falling off to effectively zero in the summer, start again by rising heating degree days as we transition into the fall and into the winter. More surprisingly, perhaps, is the variability in weather that can exist in the same month between two different years. For example, in February of 2015, there were about 1,300 heating degree days, but in February of 2017, there were less than 700. And we would expect that gas usage followed these weather patterns. So not only is seasonality of gas usage something for us to bear in mind, but the variability in weather is, too.

Let's look at Peoples gas throughput by quarter. In the left pane, we plotted the quarterly percentage of Peoples' annual gas throughput for 2019. And as expected, the colder months, Q1 and Q4, were the strongest for gas sales. Now shifting to the financial impacts on the right. In the right pane here, we've used our 2019 monthly water revenue as the base in navy blue and then added Peoples' monthly gas revenues on top in the lighter blue. If you just focus on the navy, you'll notice some uplift in revenue in the warmer summer months when people are doing more outdoor watering, but enough of the revenue is in our base facility charges to limit that revenue seasonality. Looking at the light blue, however, the seasonality of natural gas is more dramatically reflected in the monthly revenues.

Let's think of what this means for net income seasonality. You will recall that for the water business, Q3 was historically our strongest quarter in terms of net income, followed by Q2. That changes with the addition of Peoples. The net income variable of that quarter is much more pronounced in gas utilities than it is in water utilities. On a combined basis, we're forecasting the strongest two quarters going forward to be Q1 and Q4. The strong summer quarters in water are offset by a falloff in gas consumption and the resulting lack of profitability, especially in Q3. So we wanted to give you a sense of the percentage of net income by quarter represented by the ranges on this slide, but I should caveat this by saying, we don't yet own the business and so we haven't been through a year of reporting earnings every quarter, quarter-after-quarter for the combined company. As time moves forward, we'll obviously be developing that data set and you will be better able to quarterize our annual earnings based on that track record.

Now that we've covered the seasonality of earnings, let's touch on repair tax and what we can expect at Peoples. As you know, Aqua Pennsylvania implemented repair back in 2012. Repair was not unique to Aqua nor was the implementation using flow-through accounting. Repair can be divided into two parts. First, the current portion; and then second, the catch-up deduction, which looks back at past capital investments as if repair had been elected then. The current portion can immediately be recorded in the income statement, but the catch-up is typically discussed and addressed in a rate case or other PUC proceeding. The guidance we're providing today only includes assumptions we're making about repair at Peoples for the current portion. To be more specific in terms of the election, we're only electing repair for Peoples' natural gas, which includes the legacy dominion and equitable systems that Joe spoke about rather than for all of Peoples or even with all Peoples in Pennsylvania. We've defined the inner property as a pressure zone between regulator stations and have tentatively set the threshold at 10%. Meaning that if a given project is replacing less than 10% of a pressure zone with no betterment, it would qualify for a repair. While we will be asking the Pennsylvania PUC for guidance on how to treat the catch-up deduction, we've not included the catch-up in our forecast. Our assumptions were made based on our analysis of Peoples' capital and how much of the capital may be eligible for repair. But since we don't yet own the company, these assumptions will likely evolve as we learn more, and we'll share those new findings on future earnings calls.

Let's spend a few minutes on the earnings per share guidance. On a GAAP basis, we're providing a guidance range for earnings per share of $1.05 to $1.10 for 2020. For 2020, on an adjusted pro forma basis, so including 12 months of estimated natural gas earnings, we're providing a guidance range of $1.53 to $1.58. So this is based off $1.47 adjusted income per share for 2019. Then we expect to continue earnings-per-share growth at a 5% to 7% CAGR through 2022. As you think about earnings growth at 5% to 7% versus our rate base growth of 6% to 7% for water and 8% to 10% for gas, there are a few things to consider. First, as we have success with the municipal acquisitions, that will be contributing lag. These acquisitions rarely, if ever, on a full return immediately post closing. For example, we have approximately $200 million of Pennsylvania acquisitions not currently included in rate, and that's excluding or before we consider DELCORA. As a 134-year-old company, we believe that acquisitions at 1 times rate base are beneficial for long-term shareholder value even if they're not accretive to earnings growth on day 1. Second, if we go from a period of higher earnings to a period of earning a more normal return, that would result in slower earnings growth versus rate base growth. And then third, we will of course have discontinuities when we issue equity, especially for Peoples. However, absent these things over the long run, there's nothing structurally that should keep our long-term rate base growth and our long-term earnings growth from being more closely aligned.

In terms of accretion from Peoples, you've heard us say that Peoples will be accretive in the first full year, excluding tax repair for natural gas. Let's talk through that in light of the guidance. As you know, 2020 will be the first full year with the benefits of tax repair at Aqua Pennsylvania incorporated into rates, and that's effectively fully inuring to the customer. Even in 2019, we had a portion of the year where those tax repair benefits inured to the shareholders, and that's the 2019 earnings reflect those incremental earnings. Without any significant measures then, 2020 would have been down a bit in terms of earnings per share, but we had some levers that would have offset this. A full year of Peoples in 2020 would have been accretive to that level of earnings by a few pennies, and then the repair benefit would be on top of that. Given the timing of the Aqua Pennsylvania rate case and the transaction closing, both offset from the calendar year, we won't see that in the annual reported numbers, but that's what's going on behind the scenes.

We often get the question, how much EPS benefit will come from repair? As I've said, we don't get on the company to control the capital program. Therefore, even after significant analysis, we're still making some simplifying assumptions in terms of how much capital will be repair-eligible. Also, we don't want to overpromise. If there's more value to repair once we're integrated, we'll let you know. But for now, I'd use $0.08 to $0.12 a share for 2020 for simple math. All that said, I believe we've outlined an achievable path to 5% to 7% earnings growth over the next three years with relatively consistent growth year-over-year as is generally favored by utility investors. This does include the incorporation of the current portion of repair at Peoples, but no earnings tied to the catch-up deduction. Furthermore, it includes a fairly conservative assumptions with respect to acquisitions, incorporating only known transactions plus $60 million annually in additional fair value acquisitions.

Finally, on several earnings calls, we've been asked about our share count. And I've insisted that we would be very transparent about the share count used in the denominator of any income per share calculations. Prior to anything related to Peoples, we had 178.8 million shares. So when we showed the 2019 adjusted income per share of $1.47 at the beginning of my section, it's that share count that was used. For the transaction, we issued 37.4 million shares of common stock. On an as-converted basis, the 13.8 million TEUs would result in an additional 16.3 million shares of common stock. We're using the minimum conversion ratio of approximately 1.179 shares per unit as our stock is trading well above that conversion price of $42.41 per share. So then we add to this the 21.7 million shares will be issued to CPPIB when we closed the pipe. And finally, there's another roughly 300,000 shares. They come from our dividend reinvestment program, our employee stock purchasing plan and stock-based compensation. So that brings us to 254.4 million shares of WTRG, and that's the number we expect to have post closing of the Peoples transaction.

So that should provide clarity with respect to our share count. I should also mention that we will issue some stock this year to fund the DELCORA acquisition and other transactions. But the amount issued will be relatively small with respect to our market cap, think 2% to 3%, and we'll seek to do this in a way that limits earnings dilution.

Thank you. And with that, I'll turn the podium back to Chris Franklin for his conclusion of our prepared remarks.

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

All right. Thank you, Dan. And I hope this update was helpful. A lot of detail. Hopefully, you recognize there's a lot of transparency and, by the way, on a business that we don't yet own for at least the next couple of weeks. And I also hope that you find this was consistent with what we've been talking about over the last several months, almost a year or nearly 1.5 years now.

In summary, our priorities for 2020 remain focused on operational excellence, integration of Peoples, the continued pursuit and finishing of the transaction process with DELCORA. We remain committed to the acquisition program in the municipal sector, as Matt mentioned, and we'll implement our accelerated Peoples capex plan full year for 2020. And I thought I'd take a minute to summarize all the guidance we provided today. We provided a lot more transparency and longer-term guidance, which I think is what many of you have been asking for a few years now. And hopefully, you believe, as I do, that we delivered that.

On the EPS front, we'll grow at a 5% to 7% CAGR. Dan demonstrated that in a lot of detail. But I think it demonstrates a strong platform we've built, that's a strong growth pattern. And as Dan said, this does not include municipal M&A, which, in short term, as you all know, we've articulated a few times here today, can hurt earnings in the short run before it actually goes through the rate process. We expect to continue to provide an earnings range and hopefully in a longer period of time, but we're always going to be respectful of our regulators and ongoing rate activity.

Now on the capex side, the operations team led by Rick will have a full job ahead of them as they try to spend nearly $1 billion annually of capex across the Essential platform. This is primarily pipe replacement in both water and gas. And I think you saw from the charts today that we've got plenty of opportunity to spend capex on pipe replacement. This core organic growth provides a strong baseline for future performance.

Now our rate base growth of 6% to 7% for water and 8% to 10% for gas moves us with a total rate base growth in the range of 8%. This does not include future municipal acquisitions. We continue to say that. So you keep in mind, that's a very good differentiation from Charles, and others do it. And over the long run, we would expect to see rate base and earnings growth to be more closely aligned. As Dan reminded everyone, from year-to-year, there are sometimes a bit of a disconnect between that rate base growth and earnings growth due to acquisition timing, equity issuances, periods of over or under earning and sometimes onetime items. But long term, there is nothing structural to keep things from looking like they did in the period before we're dealing with repair, both in water and now in gas.

Lastly, we expect annual customer growth to be between 2% and 3% on average for water. And you'll notice, we did not mention O&M targets. We did this purposely because we'll use 2020 to baseline the combined company, and we thought it was premature to really discuss O&M targets. As we've said many times, though, over the last 1.5 years, we did not acquire Peoples as a synergy play. And so that remains true today.

In closing, I'll remind you that we remain committed to satisfying the needs of all of our stakeholders. The new larger Essential is strongly positioned to have a meaningful impact on the communities that we serve today and the communities that we hope to serve in the future. We offer a unique opportunity, we believe, for investors because we're a company positioned with strong organic rate base growth, a lot of miles of both gas and water main to replace, with the majority of our operations in really strong regulatory environments and the ability to participate strongly in the municipal consolidation process. And I think we've proven our success already over the last several years. Now while we're excited about opportunities that lie ahead. I'll reiterate that we're going to be disciplined in how we approach opportunities and that we put the interest of all of our stakeholders into effect when we think about our growth.

So with that, I'm going to invite Rick Fox, Daniel Schuller and Matt Rhodes up to the chairs with me, so that we can answer some of your questions. And we'll take questions for a little bit, and then we're going to separate into -- we do have a box lunch after that, and then we'll move around the room and sit and have lunch with those who can stay for a little bit. We'll answer any of your questions but more on an individual basis after that.

Questions and Answers:

Operator

All right. There is a microphone here. So if you have a question, maybe you raise your hand. I see Ryan's first. Shoot.

Ryan Michael Connors -- Boenning and Scattergood, Inc. -- Analyst

Thanks. Yeah. This is Ryan Connors with Boenning and Scattergood. I wanted to drill down a little bit on the fair market value situation. It's obviously creating great opportunities, but it's not without detractors. And that's not just the entrenched interest in terms of the obvious municipal interest there. But some of your own peers, for example, in Delaware, have kind of come out with a unified front and said, we don't want it in Delaware. They talk about affordability and other things. And then you get a situation like Jacksonville where certainly that lends credence to the notion that money is the root of some evil sometimes. So what are the things you hear as you -- in terms of push-back on fair market value? How do you address those arguments? And I guess as a follow-on, because I'll pass it right on, but they talk about someone like Sanders coming in openly talking about we're going to go out not only against privatization, but we're going to try to take stuff back to the municipal side. So just if you can just kind of address all of that. I know it's a lot, but just your views there.

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Yeah. That's a lot to unpack there. So let's start with the calibration that occurred starting in Pennsylvania, and Kim alluded to this in her comments earlier, but there was a calibration that began to take place. Remember, in the early days of fair market value in Pennsylvania, municipals saw the sky is the limit. And so there is this big disconnect between what they wanted to take as proceeds, what we wanted to pay, what regulators wanted to see and then, in some cases, what customers wanted to see. I think that in large part has come nicely together. As you can see, what the commission and even the OCA has come out with in Pennsylvania are very close to what to now we're having, what we have as purchase price. So there's not as big a gap there, Ryan. And I think that calibration is happening. And I think these, what they call the UVE, the appraisers, are coming at more reasonable levels. So it took some time for that process to work. But I think it's working out well now and I think the most recent cases, acquisition cases are going to bear that out.

With regard to some positions in the industry, others that others are taking, other peer companies are taking, I'll say this. Listen, there's a lot of good companies out there and really has their own perspective. But fair market value does give larger companies a little bit of the advantage. Let's call it the way it is. We've got a larger base. We've got more resources. And that does give us a little bit of an advantage, us, American water, maybe some others. And I know there are some smaller companies that struggle with that as a competitive factor. So I'd like to think that everybody's view is altruistic. And I won't say it's not, but I do think there are other factors that come to bear there, too.

Now I will say too when we think about in the broader view of the country and presidential politics, I will put an investor-owned water utility, a regulated water utility up against nearly any municipal utility in the country. Some are well capitalized, well-run and doing all the right things. I will always can see that. However, in that middle market and in the smaller end of the market, there is a vast number of municipals that cannot and will not keep up with the standard that we expect in the United States. And the two presidential candidates, they have positions on this. I would say that they just haven't studied the issue. I think they're susceptible to lobby that has provided them with misinformation. And frankly, and I think you would agree with this, Ryan, very, very difficult for a president to take office and then get legislation through take back companies. And so I don't think that's a realistic outcome. Having said that, if the country decides that they're going to move to a more socialism-type approach, I think a lot of things, water utilities are only one of them, are going to be in for vast change.

I don't know, Matt, if you have anything else to add to that, the fair market value discussion today?

Matthew R. Rhodes -- Executive Vice President of Strategy and Corporate Development

No. I think you said it. I think we worked through some things over the last few years. And I think we've gotten it to the right spot now in Pennsylvania where, as Chris said, what we're paying is basically aligned with what we're getting into rate base. And in other states, we've seen it work very well, too. We've done several deals in Illinois. We just did a deal in Ohio where we're basically getting the full purchase price into rate base as well. So I think it is working now. There was a learning period, in particularly in Pennsylvania. But as Chris said, I think it's going to be an effective program, and we're going to do it the right way in the future.

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Question upfront?

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

Chris, thank you for the taking the question. Durgesh Chopra with Evercore ISI. Appreciate all the detail today and commend you on kind of maintaining the level of transparency and perhaps even increasing it. So thank you for that. I have two or three questions maybe on repairs. Dan, just the $0.08 to $0.12 2020 impact for repairs?

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Correct.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

Should we expect that to trend higher or lower as you're looking out in '21, '22, where does that sit?

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

It's a bit early to say just kind of given where we are in the process, but I think I wouldn't want to guide you to increase it. But if you kept it relatively steady in that band, you're fine.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

And that's how you've guided when you put together your guidance, that's how --

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Yeah.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

Okay. And then just on the catch-up piece, obviously, right, that was a big time tailwind when -- so we did this on the water side. So could you just help us with what are the next steps that you have to take? Is it with the commission? And then what's the timeline on that? And how should we just think about modeling that part of it?

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Sure. Yeah. I mean for now, I would keep it out of your models if you're trying to tie to obviously what we've shown today. The situation for the water business was a bit different because we had repair as part of our order for our rate case that we filed in 2011 that came out in 2012, and then included this 10-year amortization of the catch-up deduction. And the understanding was that, that amortization would inure to the shareholders until the next rate case, right? In this case, we're not doing this as part of a rate case. We will have to file something with the commission and have a conversation there with respect to how to treat that catch-up deduction. And there are various things that could happen to it, but we'll have to work through that with the commission. And obviously, if there's a benefit to the investors that comes from that, which we'll obviously advocate for, we'll be sharing more information with you on that as it becomes available.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

And then just one last one. On DFUS, did I hear the $26 million capex? Was that capex or have you quantified the --

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

About $25 million.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

$25 million. Is that capex, OpEx?

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

That's the capex number.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

Okay. That's the capex number. And what's the plan for recovery of that? Is that, I mean you basically go through the state?

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

We would go through processes in each of the states. So that's not in one particular state. That's across our platform. And I think those investments are in about four other states.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

And that gets you to your target of 18 parts per trillion --

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

Yeah. 13. Correct.

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

Okay. Thank you.

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Thanks. Durgesh, when you think about that in the four states, one is New Jersey, right, which is standard or there already. And there's not a huge amount of work to do in Pennsylvania. So Pennsylvania should be straightforward and only one system in Texas, and then the rest are in North Carolina. So that's really a conversation we'll have with regulators and environmental agencies in North Carolina.

Ryan Greenwald -- Bank of America Merrill Lynch -- Analyst

Ryan Greenwald, Bank of America. So just piggybacking on the repair tax question there. Under a constructive outcome, where do you kind of see that 5% to 7% shaking out if you're able to kind of utilize the catch-up component?

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

It's too early to comment on that, I think.

Ryan Greenwald -- Bank of America Merrill Lynch -- Analyst

Got it. And then in terms of equity needs post-2020, how should we think about a run rate given your base plan and just modest acquisitions?

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

I guess the way I'd think about this is, going forward, we will fund more of our municipal acquisitions with a combination of both debt and equity. So when you see us do a more significant municipal acquisition, so not necessarily the one-off $7.5 million or $10 million acquisition, but when you're seeing us do a $50 million or $75 million acquisition, I assume that at some point, we'll be funding that 50% with equity.

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

So the short story is, it's just for acquisition. Our capex program is funded with an existing --

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

Correct, Chris.

Travis Miller -- Morningstar Inc. -- Analyst

Travis Miller with Morningstar here. A couple of I guess housekeeping questions. But higher level, that 2% to 3% customer growth, obviously, we've seen in the gas and electric business, 2% to 3% has gone to 0% over the last 10 years, at least. Can you talk a little bit about how you get to that 2% to 3% number? And if it goes to 0% to 1%, what's the earnings impact? And then I got a couple of other.

Matthew R. Rhodes -- Executive Vice President of Strategy and Corporate Development

Yeah. I'll start. So we've seen our organic customer growth in the water business be a little less than 1%, call it, 0.6% 0.7% over time. And then the rest of that 2% to 3% comes from municipal acquisitions. So we're assuming based on what we've done in the last few years, and we've added, call it, roughly $100 million of rate base, let us exclude DELCORA for a second, for municipal acquisitions, we feel like with our organic customer growth and a run rate level of municipal acquisitions, that gets us to that 2% to 3%. Now when we do a larger acquisition like DELCORA, yes. When that closes, that will lead to customer growth that's even higher than that. But if you think about a run rate, run rate municipal acquisition level every year plus organic growth, that gets you to the 2% to 3%.

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

I might just say that organic growth is where you'd expect it to be. So North Carolina, Texas, Southeast Pennsylvania, that's where we see more of that organic growth.

Travis Miller -- Morningstar Inc. -- Analyst

What's a general rule of thumb for, say, 100 basis point change in that organic up 1%-type number in terms of earnings impact?

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Yeah. It's a difficult question because, as we mentioned, these things don't typically come in at full earnings. In other words, municipals tend to have lower rates because they've deferred maintenance for long periods of time. And so we picked them up. We're picking them up at a lower rate. We'll come and make the capital investment and then move rates up accordingly and more toward the rates that we charge for our customers as we make the capital investments. So that takes some time. So I will say the first jump typically comes when we bring them into rates for the first time. And if you assume the company's infra rates every two to three years, there's a typical under-earning period for those. So I might point you to -- when you think about that 2% to 3% customer growth rate, think about rate base growth because that's really what generates the earnings. So even if you're growing at 2% or 3% in customer growth, it's really the rate base that comes along with that and when that rate base then is in rates and earning its full potential. In most cases, we're buying these at 1 times rate base. So as we've said, these are nice transactions over the long run. But day 1, they don't always earn their full capacity there.

Travis Miller -- Morningstar Inc. -- Analyst

Any thoughts on payout ratio target in the combined entity?

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

Yes. And we did show it on the slide. We have adjusted our payout ratio. Historically, we had it at 60% to 70%. We've adjusted that and shown on the slide a new target of 60% to 65%. So a little bit more conservative and a little bit more in line with the rating agency guidelines.

Travis Miller -- Morningstar Inc. -- Analyst

And then just one final and not the others. But given where the stock is trading, what's the thought in terms of accelerating the M&A? I mean, obviously, you put out a big capex number. You said a lot of M&A is coming on the muni side. But if you're buying at 1 rate base and trading it 2 plus, what's the thought there in terms of --

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Yeah. Listen, I think we all agree, nice strong currency at this point. But we're also disciplined buyers. As we mentioned, we've got two big entities to put together. We've got some integration work to do now. And then we've got DELCORA, which is right behind Peoples, we'll take some integration work as well. And so we'll be, number one, very cautious of digestion; and number two, we will be a disciplined buyer as well. The good position currency gives us opportunity. But I think we want to be very thoughtful about our approach in what we buy. And so I don't want to move too quickly.

And, Matt, I don't know if you have a follow-up to that.

Matthew R. Rhodes -- Executive Vice President of Strategy and Corporate Development

Yeah. As you know, M&A and acquisitions can be somewhat episodic, right? We can't always control the timing when someone wants to sell either municipality or an investor-owned utility. So we do monitor the landscape constantly. We're looking at different opportunities. But like Chris said, we're going to be disciplined, and we'll take the opportunities as they come.

Travis Miller -- Morningstar Inc. -- Analyst

Might as well. One more. Just super big picture, but just you talked about the strong currency. I think one of the reasons why the sector has done so well is that the returns on equity awarded have really held up pretty remarkably well over the last 10 years when you think about tapped interest rates. I know initially, you talked as well, commissions are at the lower rates based on a short-term blip down. I think it was pretty clearly you passed a short-term blip down. What's the view? What are you hearing in terms of commissions? I mean is there a view that at some point we just get a ratchet down in terms of awarded ROE? Or what are you hearing out there on that?

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

You have to, at some degree, use history as your guide. And I think most commissions have stayed in a relatively defined band. But I would hesitate to front run what any commission would do or how they think about it. But I would say, with the appropriate recognition of risks associated with running a utility, I would think that the ROEs in the band that they are today and have been over a long, long period of time now are probably the right place for them to be. And again, as you think about this as a multi-state utility, utility commissions also have to remember that, to some extent, if they're going to be a far outlier, utilities are going to migrate to their capital investment, to states where they're rewarded for that investment. And so I think commissions that are really on top of these things are also looking at what's the going ROE? And if I deviate too much from that, might I starve my state of its capital?

Travis Miller -- Morningstar Inc. -- Analyst

And on the regulatory side, what are the next states and jurisdictions where perhaps you're either under earning or you see opportunities for rate increases? What's the next step over the next year or two?

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

We're in North Carolina today. And I would say, North Carolina, great state for growth, a lot of good things happening in North Carolina. North Carolina's commission is under new leadership. Chairman Mitchell is our -- yeah, is that the chair is Ed Latray [Phonetic], is the Deputy Chair. Ed Finley who's Chair for many, many years navigated through the Duke mergers. [Indecipherable] did a nice job. It will be interesting to see what happens in North Carolina. I think there's opportunity there for some new regulatory tools. I'll point to specifically the future test year, opportunities to move away from the historical test year that really is very difficult for utilities that spend a lot of capital, which we're doing in North Carolina. So I would say that's a state, I would say, you keep an eye on. Most of all other states are I think are in pretty good places with regulatory and they continue to make advances. Texas is a little bit new in the sense that water has only been under the Public Utility Commission in Texas for the last I guess three or four years. And so the regulatory outlook there is still evolving. There's three new commissioners there as well. So that might be another one just to keep an eye on.

Kim, I don't know if there's others you would point out?

Kimberly Joyce -- Vice President of Regulatory, Legislative & External Affairs

No. I think you covered it all.

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Okay. Any other questions? All right. Well, we're going to make ourselves available. The entire management team will make ourselves available. There's box lunches out front here. And we'll move around the tables and feel free, we'll answer all the follow-up questions you might have. We really appreciate you joining us. I know this is a chunk of time out of the day and really appreciate you joining us today. I know the market is a little crazy, so people probably have to keep an eye on around the things, but thanks for being with us.

Matthew R. Rhodes -- Executive Vice President of Strategy and Corporate Development

Thank you.

Duration: 190 minutes

Call participants:

Brian Dingerdissen -- Vice President and Chief of Staff, Investor Relations and Communications

Richard Scott Fox -- Executive Vice President and Chief Operating Officer

Daniel J. Schuller -- Executive Vice President and Chief Financial Officer

Christopher H. Franklin -- Chairman, President and Chief Executive Officer

Matthew R. Rhodes -- Executive Vice President of Strategy and Corporate Development

Kimberly Joyce -- Vice President of Regulatory, Legislative & External Affairs

Ryan Michael Connors -- Boenning and Scattergood, Inc. -- Analyst

Durgesh Chopra -- Evercore ISI Institutional Equities -- Analyst

Ryan Greenwald -- Bank of America Merrill Lynch -- Analyst

Travis Miller -- Morningstar Inc. -- Analyst

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