There were raised eyebrows last week when Edmonton's electric and water utility agreed to pay $470-million (U.S.) for two water systems in the depressed U.S. Southwest. But Epcor Utilities Inc. is not your grandpa's municipal utility and chief executive officer Don Lowry is not your typical utility manager. Over 13 years, the former telecom executive has run city-owned Epcor as a nimble and aggressive player in North American infrastructure. Having spun off its power generation assets, his mantra is "water and wires" an acquisitive water unit whose mandate stretches from the American desert to the oil sands, and the mainstay electrical distribution business.
Why did you agree to take this job 13 years ago?
The only condition was I was not going to work for a city or work for a government. I'll work for a business, I said, if you allow me to grow it and you put in governance that allows it to run as a business. But I have no time to do the other stuff.
So how do you define Epcor's strategy?
At a very high level, it's a growth company. It's a transformational utility that is not your traditional sleepy utility. It's evolved to become a major infrastructure player with two lines of business - water and power distribution.
It is a smaller company, having spun off Capital Power Corp. in 2009. What were you thinking?
Our power generation business grew very rapidly over the last eight or nine years. But we increasingly saw the risk profile of that business, and its appetite for capital, far exceeding our balance sheet. Meanwhile, we were starting to grow our water business.
It was like we had two hungry kids - one an 800-pound gorilla and the other a teenager beginning to eat a lot. We couldn't feed both, so we had to think our way through it. What transaction could we contemplate to crystallize the value created on power generation and redeploy that into the second growth engine, water?
So you used the $500-million IPO of Capital Power as access to equity markets?
Exactly. [Finance Minister Jim]Flaherty tripped us up after we bought the first limited partnership [from TransCanada Corp. in 2005] That was our vehicle to get a surrogate access to equity. But when they taxed [income trusts] and with power generation growing, we had to figure out how to preserve an access to funding growth. The spinoff was the second rabbit out of the hat.
How can you talk about lower risk when you are investing in the ravaged Southwest?
We studied these things for many years. It isn't like we just got the idea yesterday or because that area is suffering now. Four or five years ago we realized we would have to migrate out of the generation business and grow the water. [Senior vice-president]Joe Gysel led an effort to scrub for opportunities, and we boiled them down to Arizona, Southern California, New Mexico and Texas.
There is a regulatory structure that does allow private or third party capital to acquire these assets. And the region will go through cycles, and, in that way, it's like us in Alberta. We go through cycles when oil is $100 a barrel, and it's a wonderful place to be. But when oil falls to $35, it's dreadful. And the Southwest's long-term prospects for growth are good. You're not going to remove the climate or its location.
It is currently in a cycle in which some assets are for sale that otherwise would never come to market. These are regulated assets which don't mean a guaranteed return. But the system does set a fixed rate of return on capital, which makes it a far more predictable investment.
So does the City of Edmonton just give you the green light for aggressive expansion?
First, our governance structure gives us the ability to run it as a business. Also, there is the strategy that we've been able to execute to deliver growth - and it's about results.
Through a unanimous shareholder's agreement that I believe is unique in Canada, our governance separates the political from the operational. All the assets and all our businesses are overseen by an arms-length board. There is not one political appointee or one elected official, or even previously elected official. It is a blue chip board of business people and leaders from across Canada.
But don't you have to deliver?
Back in 1997, the dividend we were paying was $67-million Canadian - and we paid $135-million last year and will pay $138-million this year. So we more than doubled the dividend and kept the balance sheet as triple-B plus investment grade. We've added a couple of billion dollars in equity for them [the city] Those things maintain the confidence that they were right in giving us this governance structure. And we never surprise them; we never embarrass them.
Epcor runs really no different than a private company, but with one shareholder. What we generate for them is 20 per cent of the tax base.
So why don't more municipalities do this?
Any other government, at any level, could do the same with their infrastructure assets. But the attraction to play with the assets and use them for short-term political purposes overwhelms the long-term pragmatism.
How do you justify targeting California when it faces such water challenges?
You always have to be looking three to five years down . What California, Arizona and Nevada are experiencing is not a physical water shortage, but issues in the allocation and the value of the water, and regulations around it. And these states are developing technologies for more efficient use of water and we will bring many of those back to Canada.
Alberta is a water-challenged province; Ontario is severely water-challenged. One way to grow our water business is to import some of those processes, and we couldn't do that if we were not in the game.
Will we see a great crisis in water?
I think we will. I don't know when. It's little bit like the boiled frog, it happens gradually. What will eventually happen is a shortage of water or competition for water, and it will no longer be a free good. There will be a value attached to it. The galvanizing moment for me was the deaths in Walkerton or [the illnesses in]North Battleford. I thought that would be the defining moment where suddenly there would be standards for health enforced like an iron fist. But you still have many regions reporting boiled water and people are still dying. You shouldn't in a country like Canada - or anywhere. The hair hasn't caught fire on this issue yet.
In 10 years where will you be in water?
I would envision the regulated business growing to $2-billion to $3-billion in annual sales [compared with $600-million from water today] We need a business of that size to produce the cash flow to sustain the capital we need. The industry is consolidating and for us to be a player, we will need to be of that size.
We should see at least another $1-billion in commercial and oil sands water work. And our power distribution business should follow that trajectory as well.
Won't you have to go public?
I've never been challenged at raising money. The challenge is making money with the money you've raised. But we're patient. You may see us go years without a spurt of growth, and then we come up out of the water, and then go back down again.
Will you still use that 60-per-cent ownership of Capital Power to fund growth?
We've cashed out over $600-million since 2009. We see it as one of our sources of financing, not our only source. Yes, we will sell it down to contribute to funding Epcor. As for speed and timing, that is a business decision. We may not have to draw down those shares for three to five years because we are generating enough cash. But if something came along that's a $1.5-billion investment and the market for Capital Power accepted a larger sell-down, we would do it.