Good morning, and welcome to the Talen Energy Second Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Ellen Liu, Senior Director of Investor Relations. Please go ahead.

Thank you, Kate, and welcome, everyone, to Talen Energy's Second Quarter 2023 Conference Call. Participating on today's call are Mac McFarland, Chief Executive Officer; and Terry Nutt, Chief Financial Officer. They are joined by other Talen senior executives to address questions during the second part of today's call as necessary. I'd like to highlight that we have provided slides on the Investor Relations section of our website, www.talenenergy.com. These slides provide additional information about our operations and second quarter results. We have also provided information reconciling our non-GAAP financial measures to the most directly comparable GAAP financial measures in our earnings materials. Today, we are making some forward-looking statements based on current expectations. Actual results could differ due to risk factors described in our financial disclosures and other periodic public filings. As a reminder, we have allotted additional time for a question-and-answer session at the end of our prepared remarks. We ask participants to please limit their questions to one primary and one follow-up. With that, I will now turn the call over to Mac.

Great. Thank you, Ellen. Good morning, everyone, and thank you for joining us today. At Talen, we are focused on delivering consistent and predictable free cash flow. Today, Talen reported strong operational and financial performance in the first half of 2023, generating from a diverse fleet anchored by carbon-free nuclear power. With today's release, we are establishing 2023 adjusted EBITDA and adjusted free cash flow guidance. And given our strong first half of the year, the midpoint of our guidance ranges are higher than the last forecasted figures presented on January 27. On May 17, Talen emerged from its financial restructuring after successfully raising roughly $2 billion of funded emergence debt a $700 million undrawn revolver and $1.4 billion of new equity capital. This, together with the conversion of over $1.4 billion of unsecured debt to common equity allowed us to emerge with modest leverage and long-dated maturity profile with ample liquidity to run the business. We are and will remain focused on disciplined capital allocation and prioritizing shareholder returns, and we will do so looking to maintain a net leverage ratio of less than 3.5x net debt to EBITDA. In connection with the emergence, we announced management and Board changes to support Talen. I was delighted to join Talen at emergence, and we have since rounded out the management team, including the addition of Terry Nutt as Chief Financial Officer. Terry has more than 20 years of experience in the energy industry, including leadership roles and post-reorganization situations, and you'll hear from him later in this call. We also put in place an independent Board of Directors, each with deep industry expertise and drawing on this experience and the new management team will allow us to drive value creation for shareholders. Prior to emergence, Talen was a private company…

Thank you, Mac, and good morning to everyone on the call. Moving to financial results. During the second quarter of 2023, Talen continued to build on its strong first quarter financial results to deliver $774 million in year-to-date adjusted EBITDA. We achieved one of our best first half of the year performances since 2018, driven primarily by higher energy margins realized through our disciplined hedging strategy. Our commercial team took advantage of elevated forward pricing in 2022, to lock in 2023 power prices across our fleet, which resulted in strong revenues through realized hedge gains during periods of less favorable pricing in the first half of 2023. For the second quarter of 2023, Talen reported adjusted EBITDA of $114 million and adjusted free cash flow of negative $30 million. Once again, earnings for the quarter benefited from realized hedging gains that offset lower real-time power prices. Below average temperatures in the PJM market during the quarter resulted in lower demand for cooling needs, which contributed to reduced power load when compared to the second quarter of 2022. That said, Talen did benefit from a slight offset from our ERCOT generation fleet, due to higher ERCOT spark spreads during the period. Those plants have performed well and continue to perform well during the current heat wave in Texas. Turning to adjusted free cash flow, for the second quarter, we did operate under our legacy capital structure for over half of the quarter, until emerging from restructuring on May 17. This included incurring interest expense on our prior capital structure for 47 days. At emergence, we used approximately $1.1 billion of cash on the balance sheet to pay off debt and claims, exiting with $170 million of unrestricted cash and a fully undrawn $700 million revolver. Since completing our restructuring on May…

Great. Thanks, Terry. To reiterate our value position, first, Talen offers diverse and stable cash flows with limited nonmaintenance CapEx going forward. Our capital investments in the data center campus are largely complete, the Montour conversion is nearly complete and the Wagner conversion will be completed by end of year. Additionally, Talen owns the industry-leading carbon-free Susquehanna nuclear plant, backed by the nuclear production tax credit. Our gas and peaking fleet is well positioned to capture upside from market dynamics in ERCOT and PJM. Our zero-carbon digital infrastructure campus is optimally positioned for monetization and value creation and we have a strong balance sheet, as Terry mentioned, underpinned by modest leverage and ample liquidity. We look forward to engaging with our stakeholders at multiple upcoming industry events and we will be holding an Investor Day at the Susquehanna Nuclear site and Cumulus Digital Campus on October 24. Look for additional information on this event in the near future, but please save the date. Thank you for your interest in Talen for joining us on the call today. We will now open the line for questions, and I'll turn it back to the operator, Kate.

[Operator Instructions] The first question is from Julien Dumoulin Smith of Bank of America.

Congratulations again on everything. Appreciate it. Look, I just wanted to kick in here on the JV or strategic efforts you have going on the data center front. I mean, look, you said you're waiting for the best deal here. just setting expectations, what could that deal, or what's your latest expectation on what that would look like structure-wise? And any initial expectations on how you would think about the financial ramifications on that again, knowing that there's numerous caveats likely embedded?

Julien, it's Mac. I hope you're well. Look, you're asking a question about commercial negotiations that are ongoing. And so it's difficult for us to get into those. I think what we've said is that we're open to multiple different structures, whether it be a sale or a JV whichever we find to be the most economic. When it comes to the financial implications of those, as we've said right now, we -- and as I included in my remarks, we have limited growth CapEx going forward, and that includes Cumulus. We have to buy 1 additional transformer, which we're in the process of doing for around $5 million, as I mentioned. And once that's done, we have the ability for up to 200 -- we have the electrical ability for up to 240 megawatts, and we have a building that is a 50-megawatt to 65-megawatt shell building. So in either structure, what we're looking to do is find the right JV partner by which to deploy capital with or an outright sale that uses that electrical infrastructure and hopefully has line of sight to the additional electrical infrastructure that would get us to 1 gigawatt.

Yes, indeed. Fair enough. All right. I know it's still coming here. And then if I can, just following up on the uranium commentary and the procurement cycle. How do you think about that '25 through '29 procurement decision here and obviously nicely done on what you've layered in already. But I'm just curious, given what you know about the marketplace availability of fuel, et cetera, how do you think about just setting expectations financially? And also just how do you think about that procurement itself on filling it through the decade?

So one thing I think Terry highlighted and I'll have him jump in as well. But what we did is we've locked up conversion because there's a potential bottleneck by the end of the -- into the 2020s here going into '29 and '30. And as we said, we've got our position hedged for the next several fuel loads and hedged 100% through conversion and fabrication through the end of the decade. We felt that, that was a prudent measure to do. I will tell you that the last forecast we provided of CapEx is out there. It's the 1/27 refresh. There's a -- it's highlighted in one of the charts in the back about the amount of CapEx that's being spent. And what we've been able to do is to hedge within or below those numbers. And so we are tracking, as we've said before, we have a $22 -- the 2022 all-in costs of Susquehanna was $22. And if you looked at that profile, we show that we're adding about $1 a megawatt hour because of fuel costs over time each year, and we're still on that trajectory.

The next question is from Angie Storozynski of Seaport Research Partners.

So maybe just finishing up on the nuclear fuel. So you mentioned conversion and fabrication, but it seems like the enrichment is the real bottleneck. Have you locked in the enrichment capacity?

So, we've locked in all of our conversion and all of our enrichment. The main piece that we have still outstanding is we have a modest piece of physical commodity left in the near term. We don't think that that's an area of the market that is a huge concern right now. It's really the enrichment and conversion that's very tight.

Yes. And we have the commodity locked in through the 2026 fuel load by the way. The other thing -- the other step that I should have mentioned earlier that we've done is we have eliminated all exposure to Russia as well. through several of the transactions that we've completed.

Okay. So moving on to the capital allocation. So you mentioned that you have very limited non-maintenance CapEx going forward. And I understand that '23 is for now a peak earnings year. So there's a degradation in earnings going forward. But what is the plan, how you would allocate any excess cash above that 3.5x net debt to EBITDA?

Yes. Well, I think what we've stated is that -- and you're right, Angie, which is that the maintenance part of our capital program is behind us after 2023. So in other words, all of our growth CapEx will have been spent and that was in the conversion projects, Wagner, Montour, et cetera. as well as all of the infrastructure that was needed at digital at this point for Cumulus. And so what we've said is, is that going forward, provided that we can maintain the liquidity position that we have the net debt to EBITDA of less than 3.5x, we are going to prioritize shareholder returns.

Okay. Because I was just wondering, I mean, how -- when you look at your existing portfolio, do you think you have sufficient scale as a public company? I mean, power generation, as you know, is a business of economies of scale. And I'm just wondering how you see the current size of your portfolio.

Yes. Well, we're roughly 12.5 gigawatts and I think that we generate approximately 40 terawatt hours a year. So I think it is of scale. I think that there's an opportunity in the space to be a public company that can attract investors. I think we've seen it both from our non-deal roadshows, where we've got interest from -- obviously, we meet with our existing shareholders, but we've met with a lot of new shareholders I think we continue to see public appetite for the credit as well as Terry mentioned, our Lower Mount Bethel refinancing into the corporate term loan and the upsizing of the corporate term loan was received very positively. So we do think that there's an opportunity in this space as a public company.

Okay. And lastly, post restructuring, you don't have any electric retail. And I'm just wondering how you see that business as a -- basically as a way to hedge our generation output maybe?

Yes. I think that -- good question there. The retail business, look, there's fairly robust margins for residential in ERCOT. C&I is often described as an efficient way to hedge megawatts at a low credit, if you will, or with limited credit support. And that's the benefit because the margins aren't necessarily that strong in the C&I business relative to Texas retail. But if you look at where we are and look at, as Terry mentioned, the hedge position and we can address that in 2024 being at 76%, and that's because we included the production tax credit. And if you look at the production tax credit, it provides us a way to hedge the downside very credit-efficiently with a backstop being the federal government through the production tax credits. So we like our position. We don't feel that there's a need necessarily to add retail at this point.

The next question is from Kevin Kwan of JPMorgan.

And I just wanted to kind of focus on the capacity market. I know it's a smaller and smaller part of the story now. But just wanted to see next milestones, what you're most focused on and I noticed that some of your assumptions in the January materials, so you have a little bit of an uptick in pricing there. So I just wanted to see what your assumptions are overall and expectations.

Yes. We haven't -- Kevin, it's Mac. We have not provided assumptions because we have -- like Terry said, we're going to provide guidance, which is very typical for the industry with third quarter earnings. That's at least our expectation at this point in time. Right now, with the auction being postponed, we're not necessarily providing guidance on what we think the capacity clears will be in the out years.

Okay. No, that's fair. Maybe then we just move on to some of your -- the coal assets in the portfolio. I know it's a smaller part of your portfolio, but given that Brandon Shores undergoing retirement, how should we think about maybe the longer-term viability of some of your minority owned fleet there? Any opportunities for the remainder of that portfolio?

Yes, we have a stated objective to -- outside of the non-wholly owned coal to be out of that towards the mid part of this decade. Obviously, Brandon Shores is retiring. Wagner has been converted. Brunner has been converted. Montour has been converted and all of which will be running off of gas or oil going forward. Brandon is a bit of a different situation as we've provided a notice of suspension of operations, but there is a -- it's electrically constrained in the BGE territory, the Baltimore territory. And so, PJM has suggested that the unit is still necessary for the next several years. We're working our way through that right now with PJM, we want to be constructive there, but also we were under a formalized consent decree with our -- I guess it's a formalized agreement with Sierra Club so not a consent decree, but an agreement with Sierra Club to shut down in 2025 and we're making good on that right now. But PJM is saying that it's necessary. So we are focused on being out of coal at those units. Those conversions are the ones that I've mentioned, and they'll be done here, and we'll be out sometime in the next several years, completely out.

We still have the minority positions in Keystone, Conemaugh and we're the operator of Colstrip in Montana, but those are jointly owned facilities and there's no plans right now to convert them.

Got it. Okay. And then my last question, if I may. Just, and this kind of dovetails from Angie's question a little bit as well. But we do see a fair amount of free cash flow forecasted so far, and I know you guys are targeting 3.5x net leverage, just any consideration on debt reduction? I know you kind of get a little bit closer to that 3.5x marker maybe in '24, '25 time frame. Are you guys considering that reduction at all or just mainly focused on managing EBITDA at this point?

Kevin, it's Terry. So when we think about debt reduction, we obviously think about it in the same manner with our overall cost of capital. And when we look across the debt stack right now, and where the debt has actually been trading. I don't think there's any immediate reductions that we see in sight. Now that being said, there are some things that we'll continue to look at as we move forward. But when we go out and do a debt transaction, we're going to take a real hard look at our cost of equity and our cost of debt and be very disciplined about how we do it.

Great. Look forward to seeing you guys at the Investor Day.

The next question is from Steve Fleishman of Wolfe Research.

Yes. Thanks for the investor call. So just the potential options on the Cumulus plans. Any sense on time line for that? Is that something that maybe could be done by the Investor Day that you're hosting?

Steve, and I think -- thanks for the question. I'm kidding Steve. It's a question that's always at the top of mind for investors. And we just have not because it's commercial negotiations, we have not put a time frame on it nor have we said if we have a preferred structure, and we're just going to leave it at that. It's really M&A. And while we kind of lean in and talk about that we're open to a multiple different structures. That's about as far as we're willing to go at this point in time. I will tell you, we are focused on it, and it will get done once it gets done. But these are -- this is -- I think it's a great opportunity to create value for Talen Energy and unlocking that value that has been invested in, but it's going to take a bit of time to -- you would imagine that there's formal contracts, there's commercial negotiations ahead of that. There's a lot that needs to be done in order to finalize.

Okay. Understood. And then just on the debt to EBITDA target, just how should we think about that relative to kind of hedged EBITDA versus market EBITDA, i.e., as hedges roll off, particularly if they end up being above market. Just how are you thinking about managing that?

Steve, so I think a couple of things with respect to how we'll manage that moving forward. Obviously, we'll continue to deploy our hedging program. And as we've mentioned, the 12 months, we'll do 60% to 80% of hedging and then we'll be 40% to 60% in months 13 through 24. That will help us maintain our overall margin and overall EBITDA at the end of the day. And so you'll see that as we continue to move forward. Now, one benefit that we do have is obviously with the implementation of the production tax credits. That provides us an implicit hedge within the nuclear asset. And the benefit that we get from that is it acts as a floor. And so when we do see price opportunities that are above the sort of $44 range for the production tax credit, we'll utilize that opportunity to capture upside for the overall value. So that's how we look at our hedging strategy as we move forward and continue to maintain that leverage ratio.

And we're in that position, by the way, in 2024. So when we look at it and state the 76% hedged, Terry mentioned this, that's assuming the PTC, it's a put option. So -- but it's effectively at a delta of 1. It's underlying because of where prices are next year. So that's in that 76%. Obviously, there is upside if markets were to trend up from there because we have not necessarily sold away the upside.

Okay. So the 76% includes the PTC as kind of hedge?

Yes. Just think of it this way, Steve. It includes the PTC as if it's sold megawatts at those dollars.

Got it. But obviously, you still have upside capture.

So let's say that PJM went to $55, we would have exposure to that $10.

And of the 76%, how much would you say is captured by PTC part of it, in terms of the hedging? That's the most of it, I assume or a big piece of it.

I'd say probably 30% to 40%.

And thanks, everyone, for joining. We appreciate your interest and look forward to seeing everybody at the October 24 Investor Day.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.