埃特莫斯能源 (ATO) 2006 Q4 法說會逐字稿

Welcome to the Atmos Energy Corporation year-end conference call. [OPERATOR INSTRUCTIONS] This conference is being recorded today, Wednesday, November 8th, 2006. I would now like to turn the conference over to Susan Giles, Vice President of Investor Relations. Please go ahead.

Good morning everyone, and thank you for joining us. I am Susan Giles, VP of Investor Relations, and this call is open to the general public and media but designed for financial analysts. It is being webcast live over the Internet. We have placed slides on our website to summarize our financial results. We will not review those in detail but will be happy to take any questions about them at the end of our remarks. If you would like to access the webcast and slides, visit our website at atmosenergy.com and click on the conference call link.

With me are Bob Best, Chairman, President, and CEO, and Pat Reddy, Senior Vice President and CFO. There are other members of our leadership team to assist with questions as needed. Let me remind you that as we review these financial results and discuss future expectations, please keep in mind some of our statements may contain forward-looking statements within the meaning of the Securities Act and Securities Exchange Act. Any forward-looking statements are intended to fall within the Safe Harbor Rules of the Private Securities Litigation Reform Act of 1995.

With that, I will turn the call over to Bob Best to discuss the highlights of our fiscal year.

Thank you, Susan. And as always we appreciate you all joining us, and we appreciate your interest in Atmos Energy. Pat Reddy, Chief Financial Officer, is going to review the financial results in a few moments but before does he I want to make a few comments about the year. Our Board of Directors declared our 92nd annual cash dividend. This was raised $0.02, bringing our indicated annual dividend rate for fiscal 2007 to $1.28 a share.

As many of you know, fiscal 2006 was challenging yet rewarding. We delivered on earnings guidance despite the warm weather that the utility had to deal with and the impact on our operations of Hurricane Katrina. As you've seen from our earnings release our non-utility business delivered unprecedented results this year. One year ago the hurricane drove price volatility to new heights in the natural gas market, and our nonutility operations locked in particularly high margins and we are seeing the recognition of the value created early in the fiscal year.

At the utility, the performance went as well as could it be expected with the warm weather and the hurricane that we had to deal with and that we experienced in our service areas. Weather was 13% warmer than normal and 2% warmer than last year. The utility also experienced an impairment in the irrigation properties in the west Texas utility division as the volumes delivered for the irrigation business continued to decline annually. The assets in west Texas would not generate sufficient cash flows from operations to recover the net investment, so the book -- the net book value was written off.

We will continue to operate these assets until we determine a final plan as we are obligated to provide natural gas service to the customers who are being served from these assets. Let me assure you, though, that going forward the outlook for our utility operations is much brighter because of a number of rate design changes. I'll talk in detail about our rate developments later, but I want to point out that we now have weather normalization our two largest divisions, based on number of customers served. That would be Louisiana and our mid-Texas, or the old TXU gas division. So when you combine weather normalization that we just achieved this past year in those two divisions with the weather normalization provisions that we have in our other divisions, going into this heating season, over 90% of our utility margins are no longer sensitive to weather. As most of you know we have been working a long time to get into this position and feel very good about being there.

Our utility operations we look to and will continue to look to to provide predictable and a stable floor of annual earnings for our investors. The utility, which is regulated, and the intrastate pipeline in Texas, which is regulated, really form the bedrock of the Company and will provide as we go forward the stability and consistency that those who invest in our Company look for.

The pipeline and storage segment continued to execute as we planned. All the projects that we announced last year, and there were four major projects, have now been placed in service on the intrastate pipeline in Texas and are now contributing to our revenue stream for 2007. Additionally, we announced our Straight Creek project in Kentucky which will be our major entry into the mainstream gathering business. We received a favorable FERC order on that project, and so we are proceeding with that project and hope that we will be able to complete that project during the 2007 time frame.

I'll now turn the program over to Pat Reddy to review our financial results. When Pat is finished I'll come back for closing comments and summary, then we'll take questions. Pat.

Thank you, Bob, and good morning to those of you on the call. I'm very pleased to report on the fiscal year earnings results, particularly with the many challenges that Bob discussed that we encountered on the year. My remarks primarily focus on the full year but I will speak to the more significant items in the quarter, some of the growth projects then discuss the guidance we've announced for fiscal 2007.

As we said in our earnings release, our consolidated net income for the fiscal year reached almost $148 million or an increase of 9% over last year. Earnings per diluted share in fiscal 2006 reached $1.82 compared to $1.72 a year ago, an increase of 6%. Excluding the write-down of our west Texas irrigation properties, net income increased 20% to 162 million with earnings per share of $2 for fiscal 2006. The largest drivers of our earnings results for the year were record performance from our nonutility operations, particularly with unrealized mark to market gain at the marketing business, offset by the charge associated with the impairment of our irrigation properties and the 13% warmer than normal weather experienced in the absence of weather normalization protection that Bob described.

Our utility gross profit for the year rose almost $18 million and 7 million in the quarter as compared to prior period results. The single biggest impact on utility gross profit was warmer than normal weather. Year-over-year, weather was 13% warmer than normal which negatively affect gross profit by $49 million. The greatest impact was experienced in mid-Tex and Louisiana division, insert of which had WNA protection last year. Combined, these two jurisdictions have about 1.8 million customers, or 56% of our total customer base. Warmer than normal weather in these two divisions alone accounted for almost 34 million of the reduction in utility gross profit so we were pleased that the state regulatory commissions granted WNA in these two divisions, effective in this current heating season.

On a positive note we experienced about 14 million in increased gross profit in fiscal 2006 from rate adjustments associated with our GRIP filings in Texas. Also in fiscal 2006, we realized about 6 million of utility gross profit that had previously been deferred in Louisiana in a prior rate stabilization case. Our natural gas marketing gross profit rose $69 million to $131 million in the current fiscal year, an increase of 111%. The biggest single explanation for the $69 million increase is the positive mark to market impact on our margin.

Let me talk about that in a little more detail. For the current year the storage and marketing margin includes a positive unrealized mark to market gain of $17 million compared with an unrealized loss of $26 million in the prior year, a positive swing of $43 million year-over-year. As you know, these unrealized gains and losses are primarily caused by differences in futures prices used to hedge inventory and spot prices used to value the hedged inventory. We believe over time that the bulk of the unrealized gains and losses will reverse prior to delivery and sale of the inventory. However, operationally we experienced an increase in our realized marketing margins of $27 million year-over-year. This was largely due to almost a 46bcf increase in our marketing sales volume coupled with an increase in margins in certain market areas that experienced increased volatility in the aftermath of Hurricanes Katrina and Rita.

Additionally we experienced a decrease in our realized storage margins of almost $2 million as a result of unfavorable arbitrage spread related to our storage optimization efforts coupled with increased storage fees on the incremental storage capacity added in the third quarter of fiscal 2005. As we said before with this incremental storage acquired we are exposed to increased volatility in our margins. We had about 7.5 bcf of incremental physical storage at the end of fiscal 2006 compared with September 30, 2005, which further contributed to the mark to market impact year-over-year.

I want to remind you that a that Atmos Energy marketing remains a flat trading book, and avoids mismatches between the volume of gas and storage, and the number of associated financial hedges. We do not engage in speculative trading and the marketing company uses financial hedges to lock in an economic gross profit margin at the time it enters a storage transaction, therefore this mark is just market value is just at a particular point in time, and when this gas is cycled from storage and the financial hedges are settled as planned, these marks are eliminated. However at the end of any period for financial reporting purposes our storage book can add significant unrealized gains or losses to our storage margin but the economic gross profit we have captured in the original transactions will remain essentially unchanged.

You may have noticed that we recently placed a presentation on our Investor Relations section of our website that provides an explanation of the accounting for storage operations if you'd like to look at that in a little more detail. Embedded value of our storage book is quantified in the appendix to the slide presentation on our website. It shows the difference between the economic value, which is what we use to manage the business, tapped GAAP reported value at the end of a reported period. At the end of September, the economic value which we define as our weighted average storage price less our weighted average cost of gas, volumes held in storage is about $60 million.

The GAAP value reported in unrealized trading margin was an unrealized loss of almost $16 million yielding an increase in future expected gross profits of $76 million. Based on current setup of our storage book and assumptions at the end of the current period, the recognition of the $60 million of economic value in realized trading margin would straddle our fiscal years 2007 and 2008 with the bulk of that value expected to be realized by March of 2007. The timing and actuality of tun winding of the 16 million of unrealized losses currently recorded on our backs is dependent on the embedded spread and market spread.

Now let me turn to our pipeline and storage operations. Gross profit in that line of business for the year was $160 million, up $13 million from last year and up $7 million for the quarter. The improvement in the current periods was due to higher transportation and related service margins on the Atmos Pipeline Texas system and favorable arbitrage spreads in the Atmos Pipeline Storage asset management contract.

We continue to realize the value and consider the vast potential of the Atmos Pipeline Texas asset we acquired from TXU 2 years ago. This 1800-mile backbone pipeline system is one of the largest intrastate systems in Texas. It spans the natural gas producing areas in the state, where a substantial portion of the nation's remaining on shore natural gas reserves are located. We have expanded this pipeline's capabilities in the last 18 months with all four announced projects completed and now in service. In total we have invested about 85 million in these assets which are all eligible for GRIP recovery in Texas.

These expenditures become eligible for GRIP consideration in the calendar year in which the capital is placed in service. Recoveries due to GRIP mechanism will be at the pipeline's current allowed rate of return on total rate base of a little over 8.25%. The Atmos Pipeline Texas asset continued to create value for the enterprise.

In addition, in May we announced the Straight Creek Gathering Progress, a twenty-inch, 60-mile natural gas gathering system in eastern Kentucky. Although this is our entry into the midstream business, it really isn't much of a step-out for us and comes at turning of several producers in the area. It should initially be capable of moving up to 100,000 mmbtu a day of gas from local producers. It's expected to relieve severe pipeline constraints and act com dates the rapidly expanding production in the Big Sandy region.

October 2nd, 2006 a major hurdle was cleared with the federal energy regulatory commission issuing a declaratory order that held that our Straight Creek Gathering System will be FERC jurisdiction. There are, however, some pending required regulatory approvals at the state level. We are executing final binding agreements from the independent producers for base load purchase volume. We anticipate construction to begin in the first half of our fiscal 2007 with operations to begun in fiscal 2008. The project is expected to cost between 75 million and $80 million and to provide attractive after-tax returns.

I would like to turn back to our financial results. Our consolidated operation and maintenance expense for the year increased $17 million and decreased by about $2 million in the current quarter. The rise in O&M for the year is primarily due to increases in employee costs as a result of additional headcount and increased benefit costs resulting primarily from changes in the pension assumptions used to determine the fiscal 2006 costs. Our provision for doubtful account for the year increased 1.5 million due to collection risks with higher gas prices. Our current run rate on bad debt expense equates to a little under 0.6 of 1%, a percentage of commercial revenues.

Operating expenses for the fiscal year and current quarter include the $22.9 million noncash charge to recognize the impairment of the irrigation properties at our west Texas division. That's prescribed accounting treatment under FAS 144, accounting for the impairment or disposal of long-lived assets. The irrigation system consists of almost 1800 miles of pipe and 434 company-owned group lines and also serves numerous customer-owned group lines. In the past these assets represented an integral part of our west Texas operation to provide operating income and cash flow during our non-peak summer months.

Over time, the reduction in the aquifer underlying the Texas panhandle has caused our irrigation customers to switch from gas pumps to electric pumps because under the circumstances electric pumps are now more effective. This shift coupled with the higher natural gas costs and declining agricultural customer base has resulted in steadily declining sales volume. We do have a chart on the website that we presented that shows the decline of our west Texas irrigation volumes from the level of about 16 bcf in 1998, down to 3 bcf last year, and about 5 bcf this year.

In the last few years we have discussed how the irrigation contribution was diminishing. When we entered into our budgeting cycle our five-year projections confirm negative cash flow from the irrigation properties. Our volumes for irrigation went from as high as 16 bcf, as I mentioned, about ten years ago, to 3 to 4 bcf in the last few years, and that's what we're projecting for the next five. So prudently we took the charge at this time, but for now we're still obligated to serve the customers in this somewhat remote territory.

Turning to cash flow, fiscal 2006 operating cash flow reflects adverse impact of higher gas costs on our working capital management efforts. For the year, we generated operating cash of $311 million compared to $387 million a year ago a decline of $76 million. We're seeing the impact of those high gas costs subsiding, lower costs associated with filling our already higher levels of storage inventory, improved operation cash flow by 102 million as compared to the prior year and lower accounts receivable from lower gas prices and strong collection efforts, improved cash flow by 245 million.

Also, favorable movements in the market indices used to value our assets and liabilities have reduced that segment's cash margin deposit requirements which favorably affected operating cash flow by $126 million year-over-year. These improvements in cash flow are offset by 492 million caused primarily by unfavorable timing of payables and other accrued liabilities. Capital expenditures for fiscal 2006 were $425 million compared to $333 million a year ago or an increase of $92 million. The increase primarily reflects investments associated with our north side loop pipeline project of about 55 million and the other pipeline expansion projection I mentioned involving about $30 million of investment which were completed last fiscal year as well as about $287 million of maintenance capital, a little bit higher than planned due to various system integrity CapEx requirements throughout our utility division and the timing of some of our larger system projects. About $138 million was spent on growth projects largely due to a shift to greater than planned system integrity spending and deferral of a few projects.

Now I would like to just spend a minute on our outlook for fiscal 2007. As Bob said, we feel extremely good about our position as we move into the new fiscal year. We're initiating our earnings guidance range for fiscal 2007 of $1.90 to $2 per fully diluted share. We significantly reduced the impact of the weather wildcard from our utility margins going forward since over 90% of our margins are now insulated from the impact of warm weather. Our complimentary non utility business should provide additional earnings generated by the fee-based services, plus variable earnings from our marketing and storage businesses.

The budget assumptions include a $10 million in mark to market gains at the marketing business. Natural gas spreads will still have volatility. While that's good for our marketing operations, it also means that the impact from mark to market accounting can cause unforeseen swings in the trading margins of that operation. We're also assuming 30-year normal weather as prescribed by the regulators in the states in which we operated without WNA or margin decoupling, and no material acquisitions. Capital expenditures for fiscal 2007 are estimated in the range of 425 to $440 million, and you can see the breakdown of that range in our slides between maintenance and growth capex.

Now once again here's Bob for some closing remarks.

Thanks, pat. I would like to make some summary remarks, then we'll open the call up for any questions that you may have. As Pat has just described, we delivered solid results despite another warm heating season. The impact that that had on our utility, our earnings have grown on average in this 4 to 6% range for the last six years as we have promised, and that has been our goal. We feel good about that feat considering the challenges we faced in the marketplace with gas prices and weather and regulatory lag. We can't control weather, and we can't control gas prices, but we can control how our company responds and how we react to adverse developments in the marketplace.

We certainly stabilized our financial future with recent rate changes at the utility, and receiving partial margin decoupling in Louisiana and weather normalization in our mid-Tex division, gives us a safety net under our earnings. When you couple that with the weather normalization that's already effective it provides for over 90% of our utility margin protection from unseasonably warm weather Terrence. We know that the utility continues to be the foundation and bedrock of our business and we have to make sure that we are performing well in our utility business.

We will continue to work with our commissions. We want to have excellent relationships with our commissions and do what's right not only by our company but by our customers as well. In Louisiana, the commission has certainly acted as timely as one could imagine to take into account the effects of hurricane Katrina on our business and allowed a modified weather normalization beginning in December 2006.

We made our rate stabilization cost filing with the commission in August of 2006, and a rate increase, $10.8 million, for our 2005 Louisiana gas services rate division was implemented on September 1, 2006, subject to refund and pending staff review of the filing. The filing reflected our customer losses in the Katrina-affected parishes, and increases in rate base and other operating expenses. Our group -- our division, the boys in the Louisiana division did a great job restoring our system in St. Bernard parish. That was completed in June of 2006. We continue to work with that community and are hopeful over the long term that more houses will be built there and our system is ready to serve those customers as they come on-line.

In the mid-Tex division in Texas we have a rate case in progress. Interim weather normalization was granted October 1, and certainly helps stabilize our earnings for the winter and also helps our customers. We remain diligent in achieving a positive outcome in the rate case that we filed in May in our mid-Tex division. Hearings began on October 31, 2006 and are continuing, and hopefully will conclude within the next week or two. The commission must render a final decision, in this case by April 2, 2007, based on a revised procedural schedule and any final order in that case will include a weather normalization provision for mid-Tex in accordance with the earlier agreement of the parties.

Additionally, in Texas, the Gas Reliability Infrastructure Program known as GRIP continues to work well. GRIP allows us to refresh our rates and make very prudent investments, and it also allows to earn our return on those incremental investments and cuts down on the lag time between the spending and the time that those investments go into rates and has served a very worthy purpose for both customers and the Company in Texas.

The Tennessee regulatory authority voted on October 27th to reduce our rates in Tennessee. There has been an ongoing proceeding there. By 6.1 million this order brings to conclusion the Tennessee rate investigation, and we are certainly looking at the timing of a new rate case there as we believe our current rates are deficient. In Missouri, a tentative settlement has been reached regarding overall deficiency and miscellaneous tariff issues for the $3.4 rate case filed last April. Staff has recommended decoupling by a straight fixed variable rate design and we have filed testimony supporting staff's position. If we do achieve decoupling in Missouri, that would be the third jurisdiction in which we have de-coupling. A hearing is scheduled for November with a final result anticipated by March of 2007.

At Atmos, as we've stated before, our ultimate goal in rate strategy is to earn our allowed return in every jurisdiction in every year. With our operations in twelve states, we remain resolute in making sure that we pursue effective rate designs that will help both our customers and our company. We are going to continue to see great design that de-couples the recovery of our margins from our customer usage patterns due to weather declining use and conservation and we will continue to seek the recovery of the gas cost portion of bad debt expense in our rates.

We want to continue to make investments finally and prudently and certainly make sure we run a safe system that provides good value to our customers. Rate work will continue to be the pillar of our utility's financial results and we move forward, we just need to, in those jurisdictions where we are deficient that we earn a reasonable and prudent return. Our nonutility business, as you heard, executed very well on the strategy. They achieved record financial performance in 2006, but we don't envision a repeat year at the marketing business. They are continuing, though, to add new customers, deliver solid results, and continued progress on various marketing and business development initiatives.

That is our goal and have had this goal for quite sometime that we can grow our fee-based marketing business at about the rate of 8 to 10% a year and then take advantage of opportunities in the marketplace as they arise. Our pipeline business continues to provide superior returns on its pipeline projects, and a key strategy for Atmos pipeline Texas is to identify and implement pipeline capacity, optimization and expansion projects.

As Pat said earlier the intrastate pipeline in Texas has been a valuable asset, particularly well the amount of drilling that we continue to see in Texas, coupled with the producers' desire to move their gas to market. From a financial standpoint, we continue to be very encouraged about growing our consolidated earnings at the stated goal of 4 to 6% a year on average, and as I mentioned earlier, this is our sixth consecutive year of meeting that goal, and our continued work in the rate arena will be ongoing to provide even more predictable and stable earnings to our investors as we go forward. We now have four ways to make our company successful with our utility, our intrastate pipeline, our marketing operation, and now our gathering project in Kentucky that we think is going to be an excellent project, to help producers in that state and allow us to move gas to market.

With this earnings growth, coupled with our current dividend yield of 4%, we will continue to provide a very attractive return to our investors, and we want to continue to -- the momentum that we achieved this year as we move into 2007 and beyond. So with that I will conclude our remarks, and we'll now open the floor for questions.

Thank you. Ladies and gentlemen at this time we will begun the question-and-answer session. [OPERATOR INSTRUCTIONS]. Our first question comes from [Matthew Lemme from Degette].

Good morning. Couple questions. If I did my numbers right looks like debt to cap at the end of the year was 61%, and last year it was 59%. I understand there was a lot of CapEx this year for pipeline projects and what have you. But just trying to understand how you guys plan to get that down in the two to four-year time frame.

Matt this is Pat. That's a good observation. Your ratios are correct. The one thing that Bob alluded to was the fact that the last two winters have been very warm here in Texas and Louisiana. It was 28% warmer in our mid-Tex division, 22% warmer in Louisiana, and we didn't have the kinds of rate deigns that we had going into this winter so that hurt cash flows. From a working capital perspectives we have about 328 million of short-term debt, if I recall the number correctly. That was impact by higher gas prices so that's something that will clean itself out as we cycle our storage and, as we go into the winter heating season.

So as we look at our five-year plans we still are confident with the increasing performance from the market company and pipeline storage that we will be able to work down our leverage the old-fashioned way by adding to retained earnings and you know, not so much reducing debt on the balance sheet, per se. But that's basically -- I say that we were set back in the last two years by warm weather and high gas prices but gas prices are down, and we fixed our margin issues with consumption.

So do you suspect you will be on the -- closer to the four-year end of that time frame?

I think that's right, yeah. Probably, at the higher end of the 50 to 55%, but still improving credit metrics in support of a solid sort of BBB investment grade.

Sure. And the second question I had was on capex. The 425 to 440. 75, 80 million of that is the gathering line. Could you give me an idea what maintenance capex is running at right now?

Sure, Matt. We have actually got a slide in the deck. On my copy it's page 42. It shows of that range of 425 to 440, about 250 to 262 is maintenance, and there's a breakdown between utility and nonutility. 174 to 178 is growth with the non utility being 78 to 79 million. Most of that would be, of course, Straight Creek.

Great. One real quick last question. On straight creek I don't know if it's a little premature for this, but if there's any kind of EBITDA indication you can give us on it, and you had mentioned a capacity figure earlier. Just wanted to know, is the gathering line fully subscribed yet?

It probably is a little bit premature, Matt. We just got the declaratory order from the FERC, but we're very encouraged by the producer response. We're in the process of going from, memorandums of understanding to actual contracts, and the -- you know, the indications of interest are very strong. So it is a little bit fluid. I might ask Mark Johnson, who oversees our nonutility business, I think maybe what we could do at our December conference is give you some more concrete projections by that point in time. Mark?

We're not fully subscribed, but we have very strong producer support, a firm commitment by gathering.

Great. Thank you very much.

Thanks, Matt.

Thank you. Our next question comes from Angela Ho with Wachovia Capital Markets.

Just a quick question on your marketing for '07. Looking at page 41, I guess, I'm looking at 75 to $85 million of total margins. So does that include the 10 million already, or is that on top of?

No, it includes 10 million of unrealized. Typically we don't budget that, Angela, but just given the setup that we have, we think that predictably we can get 10 million of unrealized, but it's that range.

Got you. The other quick question, for the '07 number again, you're assuming some kind of a settlement from Texas, right? I mean, the mid-Tex.

In the mid-Tex rate?

Yeah.

we're hoping that it may to the be a settlement, angel. what probably a decision. But, yes, we are assuming that that comes to conclusion, but as you heard, it will be after the winter heating season, so the impact will not be as large as it would have been had it been decided earlier.

Got you. Thank you.

You probably saw Angela we do after schedule of the timetable in that case.

I was just trying to figure out like how much of the '07, just to come up with some kind of assumption for mid-Tex, but from would I'm hearing, you probably include a small portion of the rate --

It's not for the full year.

Right.

We've tried to bracket different outcomes there. So we're not -- we don't want to -- we're not trying to be -- we're trying to just be fairly, reasonable in our assumptions, you know, since it's an ongoing case we really haven't stated in that in public.

Right. Of course. Thank you.

Thanks, Angela.

Thank you, Angela.

[OPERATOR INSTRUCTIONS].

One moment. Our next question comes from Lance Ettus from Calyon Securities.

Just want to know, the forward -- if you look at the 12-month forward right now it's pretty flat. Just want to know what you guys think about that as far as potential margins for storage do you think -- this happens routinely, then it gets volatile again and those spreads widen? Just want to know what your thoughts are.

We'll ask Mark to pull out his crystal ball and talk a little bit about that.

Can I borrow the crystal ball after, too?

It has flattened quite a bit, but we're still seeing quite a bit of intra-month and prompt month volatility, which are all areas that tend to lead to very profitable storage operation. As far as the crystal ball, will the summer/winter storage spreads widen? We believe that for the next two years you've probably got a significant amount of spreads to -- on our winter -- storage comes on line and other pipeline projects affect that long-term structure.

Of course, the hurricane season in the gulf is apples the wildcard. The weather service was predicting a pretty active season this year, and I don't want to jinx it, but I think where we are in November, it's probably safe to say that's not going to happen.

okay. Thanks.

Thanks.

And there are no further audio questions at this time.

Let me remind you all that a recording of this call is available for replay on our website through February 6th. We appreciate your interest in Atmos Energy and thank you again for joining us. Bye.