埃特莫斯能源 (ATO) 2007 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and thank you for standing by and welcome to the Atmos Energy Corp. third quarter conference call. During today's presentation all parties will be in a listen only mode. Following the presentation the conference will be open for questions. (OPERATOR INSTRUCTIONS). This conference is being recorded Wednesday, August 8, 2007. Before I begin today's presentation I would like to turn the conference over to Susan Giles, Vice President of Investor Relations. Please go ahead, ma'am.

Good morning, everyone, and thank you for joining us. 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 that summarize our financial results. We will not review those in detail, but we 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 please visit our website at AtmosEnergy.com and click on the conference call link. Also, we plan to file the Company's form 10-Q later this afternoon.

With me today 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. As we review these financial results and discuss future expectations, please keep in mind that some of our discussion might 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.

Thank you, Susan. Good morning, everyone. We thank you for joining us today. We certainly appreciate your continuing interest in Atmos Energy. Yesterday after the market closed we reported improved financial results for both our third quarter and nine months of fiscal 2007. For the third quarter we reported a loss of $0.15 per share, which is significantly better than the $0.22 per diluted share for the third quarter of last year.

As you know, due to the seasonality of our business is primarily the utility distribution business, the fiscal third and fourth quarters are typically loss quarters for us. For the nine months we saw our diluted earnings per share increase 14%. We earn $2.00 per diluted share for the first nine months of this year compared with $1.75 per diluted share for the nine months last year, despite a 7% increase in shares outstanding largely as a result of our December 2006 equity offering.

The utility results improved in both the quarter and nine months thanks to colder weather and rate design changes which stabilized and improved our utility margins in both Mid-Tex and Louisiana. As you may recall, it was just one year ago that we were focused on implementing WNA in the Mid-Tex and Louisiana divisions where over 60% of our total customer base is located.

The non-utility businesses continue to deliver solid performances, as well. Atmos Energy marketing has delivered strong results this year despite gas spreads that have been trending downward. We are continuing to see less volatility in the market, which provided fewer arbitrage opportunities to generate economic value. Our pipeline and storage operations continue to benefit from increased throughput and demand from storage due to colder weather compared to last year. More specifically on the Texas intrastate pipeline we experienced incremental revenues as a result of increased throughput from our North Side Loop project and other compression projects which we completed last year.

The Texas intrastate pipeline is a regulated asset and is overseen by the Texas Railroad Commission. We probably don't talk enough about what an exceptionally valuable asset the Atmos Pipeline Texas has proven to be. This is the 6100 mile intrastate pipeline that we acquired in 2004 as part of the TXU Gas acquisition. It is strategically positioned within the State of Texas and connects to the three major hubs, Waha, Carthage and Katy. The backbone pipeline runs across the prolific Barnett Shale in the Dallas-Fort Worth complex where there is a significant producer activity. We continue to see robust demand for system capacity from producers who need to move their gas out of the basin.

Last year when we added compression and placed in service the 45-mile, 30-inch pipeline that we refer to as the North Side Loop expansion project, we were able to immediately subscribe 100% of the capacity, which indicated the strong need for the project. It is located in the high-growth area just north of Dallas-Fort Worth where we had had challenges in previous years meeting peak demand. But with this expansion we were able not only to meet, but to exceed our customer peak demands this past heating season.

The capital spent was DRIP eligible, so we have already started recovering the investment. And I'll remind you that implementing GRIP adjustments for the Texas pipeline is expedited since the filings are made directly with the Texas Railroad Commission. There is renewed emphasis at the national level on all infrastructure improvements in light of some of the recent unfortunate events that we have seen nationally. We truly appreciate the progressive Commission to understand the need for reliable gas infrastructure and allow timely recovery of the investment like the GRIP mechanism allows in Texas.

Our year-to-date operating cash flow more than doubled from the prior year, mainly from improved net income and lower gas costs. This provided us the flexibility to use $53 million of excess cash coupled with our June debt offering proceeds of about $247 million to redeem the Company's $300 million of notes on July 15, 2007. Strong operating cash flow this year facilitated the repayment of all of our outstanding short-term debt. Our debt to capitalization ratio was 55% at June 30th compared to about 61% at September 30th. If we had been allowed to repay that $300 million of notes as of June 30th, our debt capitalization ratio would have been 51.7%. We have now reached our goal of reducing our debt capitalization into the lower range between 50 and 55%, which was our original intent and the intent we announced when we consummated the TXU Gas transaction. And I can assure you that we are committed to maintaining a strong balance sheet and keeping this ratio where we have it today. Or nearly where we have it.

And also yesterday we announced our 95th consecutive cash dividend. Our indicated annual dividend rate for fiscal 2007 is $1.28 per share, which calculates to a yield of about 4.6%. I am now going to ask Pat Reddy, our Chief Financial Officer, to review our financial results in a bit more detail, and then I will return for closing comments, and then we will be glad to take any questions that you might have.

Thank you Bob. And good morning, everyone. I think Bob's overview coupled with our earnings release and the slides that we posted give you an adequate discussion of what is driving our regulated businesses, so I would like to focus my attention this morning on the non-utility segment, our consolidated O&M and then the earnings outlook for the remainder of this year.

Looking first at our non-regulated natural gas marketing segment, our gross profit for the quarter was basically flat with last year. Declined about $16 million for the fiscal nine months. For the current quarter you can see that breakdown on slide nine in our deck, and natural gas marketing gross profit reflects a $44 million increase in unrealized margins, offset by a $44 million decrease in realized margins. Operationally we experienced a decrease in our realized storage margins of $41 million quarter-over-quarter.

This was the result of capturing less favorable arbitrage spreads related to our storage optimization efforts in the current year quarter due to four primary factors. First lower market volatility; second, increased storage demand fees; third, increased park and loan fees; and fourth the recognition of financial hedge settlement losses associated with the deferral of storage withdrawals.

We also experienced a decrease in our realized marketing margins of almost $3 million quarter-over-quarter. This was largely due to realizing lower margins in a less volatile market compared to the prior year quarter partially offset by increased sales volume of 19 Bcf in the current quarter attributable to colder weather and a successful marketing strategy. The current quarter included almost $23 million of unrealized gains compared with about $21 million of unrealized losses in last year's quarter due to the narrowing of the fiscal financial spreads during the current quarter compared to same quarter last year.

For the current nine months look at slide 23 in our presentation. Natural gas marketing gross profit rose $16 million as compared to the prior year period. Gross profit reflects about a $41 million increase in unrealized storage and marketing margins, partially offset by a $25 million decrease in realized storage and marketing margin period over period. Operationally we experienced a decrease in our realized marketing margins of about $19 million in the current nine months compared to the same period year ago. This was largely due to realizing lower margins and a less volatile market compared to prior year period partially offset by higher sales volumes of about 57 Bcf in the current period largely due to colder weather.

We also experienced a decrease in our realized storage margins of $6 million in the current nine month period as compared to the prior year period. Again, this was the result of capturing less favorable arbitrage spreads related to our storage optimization efforts in the current period, due to lower market volatility, increased storage demand fees and increased park and loan fees. The current nine months included almost $3 million of unrealized gains compared with about $39 million of unrealized losses last year due to the narrowing of the fiscal financial spreads during the current year period compared to the same time last year.

The embedded value of our storage book is shown in the appendix of the slide presentation on slide numbers 66 to 68. This shows the difference between the economic value, which is what we used to manage the business and the GAAP recorded value at the end of the reporting period. At the end of June the economic value of our gas and storage is about $41 million, which we expect to realize primarily in the fiscal 2008 second quarter. Of note, we've experienced record volatility in the past 18 months with market spreads reaching greater than $5.00 last September 30th. But since then we've seen spreads compress.

Looking ahead, we would expect volatility to continue to flatten, barring a major weather event. I want to spend a few minutes updating you on our Eastern Kentucky gas gathering project. As we discussed on last quarter's call we are changing the scale, scope and timing of the midstream gathering project in Kentucky. We were unable to reach economically feasible terms with our original partner to jointly construct the Straight Creek system. Therefore, the project has been reconfigured and renamed to the Phoenix Gas Gathering Project.

The current design of the Phoenix project is about 40 miles of 12 and 20 inch pipe with an additional throughput capacity of 50 million cubic feet per day. But it could be expanded if market conditions warrant. Due to the competitive market environment in which we operate, this specific location and routing cannot be disclosed at this time. We expect the capital requirements for the Phoenix project to be about $50 million. Inception of the project and in-service days are contingent on finalizing gathering agreements which will cover sufficient minimum volumes to support the project. Local producers are currently analyzing their reserves and may require additional drilling of test wells to determine the full extent of their production.

Additionally, we currently have verbal interest from other, smaller producers in the area. We will make a more formal announcement on the Phoenix project once these agreements are executed, but this may take up to six months. We expect the contribution in the future to be in the range of $0.03 to $0.05 per share for the first full fiscal year of operations, but we do not expect the project to make any financial contribution to our fiscal 2008 earnings.

Now I would like to take a look at the expense side of our income statement. Our consolidated operation and maintenance expenses rose about $14 million in the third quarter and $20 million in the current nine month period, mainly due to higher employee and benefit costs which increased our O&M by about $6 million for the quarter and almost $18 million for the nine-month period as compared to year ago. Increases are due to salary changes across all operations, headcount increases primarily at the non-utility operations and higher bonus accruals at the non-utility which are directly related to improved performance period over period.

Our insurance costs rose about $3 million for the quarter and $5 million for the nine-month period as a result of higher premiums and litigation accruals. We expensed about $3 million in both periods to write off obsolete software. Finally, our provision for doubtful accounts was unchanged in the current quarter versus a year ago, and decreased by $5 million in the current nine-month period mainly due to declining collection risk attributable to lower gas prices period over period.

At our current run rate we still expect O&M expenses to fall within the range of $458 to $465 million for the full fiscal year, and we will certainly continue to focus on keeping controllable costs in check. We continue to closely monitor our customer receivables, and as a result our bad debt expense equates to less than 1/2 of 1% of residential and commercial revenues.

Looking at cash flow for the first nine months, we generated operating cash of about $553 million, up substantially from $223 million in the same period a year ago. Period over period this reflects the favorable impact of higher net income, higher sales volume due to colder weather and lower natural gas prices. As Bob said, these strong cash flows allowed us to accumulate excess cash and to use $53 million of that cash to help pay off our $300 million floating-rate debt last month.

Capital expenditures for the nine months were about $263 million, down about $60 million from the same period year a ago basically reflecting the absence of capital expenditures related to the North Side Loop project and pipeline compression projects that were completed on our Atmos Pipeline Texas in the third quarter of fiscal 2006. I encourage you to refer to our conference call slides for more detail on our CapEx and in our 10-Q for more discussion of our cash flows.

Moving now to our earnings guidance and our outlook for the remainder of fiscal 2007. As you know with the seasonal nature of our utility operations we typically report a net loss in our fiscal third and fourth quarters. Our heating season is over, and our customers natural gas usage is lowest in the summer months. Despite the expectation for losses for the remainder of the year, we believe that the company can still achieve a level of earnings this fiscal year at the lower end of our previously announced range of $1.90 to $2.00 per diluted share. As we discussed in our last earnings conference call, we received a much lower outcome in our Mid-Tex division rate case than we had anticipated. At that time we felt that the marketing business would offset that shortfall. As we neared the end of our fiscal year, we continue to see declining natural gas price volatility which clearly limits the marketing group's ability to maximize storage arbitrage spreads.

With that market dynamic, coupled with the Mid-Tex rate case decision we are projecting our year-end results at the lower end of the EPS range. Also remember that the impact from mark to market accounting on that business can cause unforeseen swings in the trading margins of that business. So our updated guidance assumes no material mark to market impact at the end of our fiscal year. We project between 365 and $385 million in capital expenditures in fiscal 2007, down from our original range of 425 to $440 million as we will not spend capital on the gathering project in Kentucky in the current fiscal year as was originally budgeted.

So with that, I will turn the conference back to Bob.

Thanks, Pat, and I'll make a few closing comments and then we will be happy to take any questions that you may have. We have a very good foundation with our suite of distribution and pipeline and storage assets, and certainly we are very encouraged by our earnings report for the first nine months of fiscal 2007. Our primary segments are utility, our natural gas marketing and our pipeline and storage, each achieved double-digit net income growth for the current nine-month period. But we know there is still work to do. The natural gas marketing segment certainly remains very solid. This business has delivered strong results with their dual sources of income. Certainly has benefited from the record gas volatility, market volatility that we've experienced since the summer of 2005. And we are seeing at the moment marketing spreads compressing and would expect volatility to flatten barring some major weather event.

Our pipeline and storage asset has performed extremely well, primarily the Atmos Pipeline Texas system. As I said earlier, the strategic positioning of this asset in Texas provides numerous opportunities for both our utility distribution business and our non-utility business. Our utility continues to perform very well across our 12 states. Pat mentioned that we did receive less than we had hoped for in the Mid-Tex rate case, and I will discuss that in a minute. Our plan is to come back and file a new rate case in the very near future. But we were pleased that we did receive weather normalization in Mid-Tex based on a ten-year weather history for our 1.5 million customers, which helped stabilize our utility margin and certainly contributed greatly to our cash flow situation that you heard Pat report on.

We've achieved WNA in both Mid-Tex and Louisiana, and we remain committed and dedicated to our rate and regulatory strategy in all of our states that will stabilize margin recovery and decouple recovery of our margin from our throughput and recover the gas portion of our bad debt expense. We remain very resolute that we are going to make filings and continue to work to get our rate design and the rate structures where we think they need to be, particularly in the Mid-Tex division.

We also believe that these rate modifications should help our customers and encourage conservation in the marketplace. These types of rate modifications, as many of you know, are certainly gaining momentum across the country and have been approved in a number of states. We will continue to educate our commissions on the positive outcomes that these rate design methodologies provide, and we will continue to pursue partnerships with our regulators on funding educational and conservation programs, which will be good for our customers and good for our country.

The long-term goal of our Company is to earn a reasonable return on a consistent basis in each of the jurisdictions that we do business. And as I said earlier, we've made tremendous progress in this regard. And that is certainly why we will continue to have a full court press in the regulatory arena. At Mid-Tex we can demonstrate that our allowed earnings do remain somewhat deficient, and we do expect to file another rate case later this year. We are only earning about half of our authorized return in the Mid-Tex division, and we will continue to communicate our position and needs with our decision-makers and regulators, and we believe in the long-term, as we have done in other states where we have made acquisitions, that we will get a fair and reasonable result in our next rate case.

In Texas we are certainly pleased that we have the GRIP mechanism to implement rate increases for our capital expenditures, and in May we filed for the 2000 GRIP recovery for both the Mid-Tex and the Atmos Pipeline Texas divisions. Combined this increases about $25 million based on $151 million of invested capital. In May we file a rate increase for $11 million in Tennessee where we were deficient, and we anticipate rate filings to be made later in the year in Georgia, Kansas and West Texas.

We did receive our final order in our Kentucky rate case and have implemented a $5.5 million increase in new rates. And in Louisiana the 2006 rate stabilization filing for the LGS servicer area was finalized and we have implemented those new rates. So you can see that we continue to make great progress in all of our jurisdictions, and as I said, we will continue to concentrate on rate design, which is really the fundamental driver of our financial performance in our utility.

At the consolidated level our financial goals remain very consistent, and we've been for a number of years had great consistency and communicated those goals with regularity. They are maintaining our solid investment-grade ratings with our credit agencies, keeping our debt to capitalization in the range of 50 to 55% so that we are poised to take advantage of future opportunities that may rise. And as I mentioned earlier, our debt level now is 51.7%.

We are also committed to growing our dividend annually, and we are presently in the range of about a 65% payout ratio, which has been our goal for a number of years. And we will continue as we increase and grow our earnings to take a look at increasing our dividend. And our overriding goal is to grow our earnings per share at a rate of 4 to 6% a year on average. I think over the last four years we've been able to grow our earnings at a rate of a little over 6%. So and over a seven-year period we have been in that 4 to 6% range every single year, assuming we hit our $1.90 this year.

We feel very good about our performance in the marketplace, about the improving margins of our utility and about the continuing exceptional and outstanding performance of our marketing and our non-utility business. So this concludes our prepared remarks, and now we will be glad to take any questions.

(OPERATOR INSTRUCTIONS) Faisel Khan, Citigroup.

This is actually Barry calling. I work with Faisel. The Mid-Tex rate case you are talking about going in possibly later on this year. The results just came back in March. Is there any sort of stay out period before you are allowed to refile?

No, there is not. We will be refiling soon. We said this year; it will probably be in the fall. We can't designate the exact date, but it will be very soon. There is no stayout date. And as I said, we've experienced this phenomenon in other jurisdictions where we've made acquisitions where we have taken a couple rate cases to get everything where we want it. So we will -- we believe that is the case here, and regulators in Texas are very fair, and we have a good relationship with them. So we've got a number of -- we did have some issues that we needed to deal with in the last case, particularly weather normalization, which is really helped us. And then we will just deal with other issues in this case.

You said weather normalization actually I saw on the slides, earnings were down $4.1 million on weather normalization. But should we consider the number this quarter sort of as a weather normalized number for the most part?

That's right, Barry. There is really little or no weather in our fourth quarter.

Angela Ho, Wachovia Securities.

Good morning. Just a couple questions. One you see that the obviously you said the debt to cap is now 51, 52%. So you are poised to look for other opportunities. What is your acquisition strategy going forward?

Angela, as you know we've made 10 acquisitions in the last 20 years, so we have certainly been proactive in the acquisition arena. I mean our criteria has been to acquire or to look to acquire companies that are within our geographical region, which I would describe as more of a Southwest, Southern strategy. The other thing that we've mentioned on several calls that we've had is that the multiples being paid in the marketplace particularly by private equity firms have been very high, as much as 11 times, and our acquisitions have typically been made in the 7 or 8 times range. So until this situation settles down, we have remained very disciplined through the years. If you look at our history one time we had six years between acquisitions.

So we are not going to make an acquisition that is dilutive to our earnings, and so we are very -- we want to remain disciplined. We have traditionally made acquisitions, fixed our balance sheet, remain open to opportunities. But right now we are not -- we are basically concentrating on our projects that we've got going, and the two most important issues to us are continuing to fix our rates and rate design in Mid-Tex and getting some of our projects that we've discussed previously off the drawing board.

Okay, great. The other question I have is in the O&M costs. If I strip out all the non-recurring stuff it looks like O&M was up about $12 million. Is that mostly in -- which jurisdiction in Mid-Tex where you could get some of that recovery through your rate case, or is that pretty much something that you have to just eat? I guess that is the question.

Angela, those costs are pretty well distributed throughout the Company, and they reflect the employee costs and benefits that go up pretty much each year, and that is why we are on a timetable to file frequent rate cases in our jurisdictions.

Great. And another quick question on marketing, page 40. You see that the storage is really much higher at 25 Bcf versus 20 Bcf. I guess a lot of that, is that just because a combination of weather and the pricing, or are you just settling and going on the market and selling versus taking out of storage? Is that that is going on, or -- if you go to page 40 --

Mark Johnson is here who is head of our non-utility business, so why don't we --

Angela, part of it is due to the market conditions that we are seeing right now and when the most opportune time is to unwind our storage. But the other part is we have contracted for additional storage this year over last year. We've actually increased some of the storage requirements that we have for some of our customer base that has been fortunate enough to increase, as well over the last couple of quarters. So we are meeting the needs, the peaking needs of customers, new customers for the upcoming need.

Can you remind me what the increase in storage was?

Off the top of my head I know there is 5 Bcf; round numbers additional 5 Bcf that we are -- that is incremental to where we were last year.

Great. Thank you.

(OPERATOR INSTRUCTIONS) [Ted Derbin], Goldman Sachs.

I had a question also on marketing. I was wondering if you can quantify the impact of the different factors that you mentioned, the higher storage demand fees, higher park and loan and then lower volatility? Which was the biggest driver of the pullback in marketing arbitrage risk?

Vic, do you want to talk about that at least qualitatively if we can't quantify each one?

Absolutely; we had probably about $1 million in additional storage fees, and that is consistent with what Mark talked about, our 5 Bcf increase in storage. Some of those just came online here in the third quarter. So that contributed probably $1 million. There was about $9 million or so associated with a park and loan agreement, which because of the requirements that we have to use mark to market accounting, we had kind of an out of period costs in the third quarter with our revenue associated with that park and loan agreement going up in earlier periods. And the remainder of it was associated with volatility.

Okay, great. So if we think about ongoing it sounds like the park and loan was closer to a onetime like you said out of period and we shouldn't expect it to be at that level.

We should not expect it to be at that level in terms of out of period. Unfortunately again what happened is we hit our out of period because revenues hit an earlier period based on mark to market accounting and costs hit primarily in the third quarter. Now we are continuing to do park and loan trades. They are very profitable for us. But this was kind of a onetime deal in that we had out of period, and we weren't able to match up the revenues against the costs.

Okay, thanks; and then just coming back to I guess for Pat, the cash flows. If you don't do, say an acquisition or what not, would you consider share buybacks or how are you thinking about the cap structure?

And we are in the process of updating our five-year plan, but as we look at a preliminary version of it we are not really anticipating accumulating significant cash with our ongoing CapEx requirements and the dividend. We are pretty much, we will have with our rate designs and the improvements that we've had and with the normalized rates, we expect to have less short-term debt and less interest expense than we might have otherwise had. But not really anticipating stock buybacks or that kind of thing. Really what we'd like to do is keep a strong investment-grade rating, kind of BB, BB+. We think that is kind of a sweet spot for our weighted average cost to capital.

Great. Thank you.

Brooke Glenn Mullin, JPMorgan.

Good morning. Can you just give us a sense if the gas volatility remains where it is today and your opportunities in the marketing business are less, what kind of flexibility you have in cutting the overhead associated with that business?

I will let Mark answer that question.

Overhead in our business is driven by opportunities in our marketing division, as well, and the marketing group has had a strong performance over the last six months. We've been adding customers. Of course volatility does affect us, but more importantly the growth that we've had in our marketing we will be seeing that show up here in the coming year, and most of the people involved with that are most of our overhead. Our O&M is primarily people. And that type of resource is something that we are going to maintain to keep adding customers and building our marketing business and make ourselves prepare for the opportunities that arise when volatility does return.

I would just add to that we've been looking at our O&M in both our utility and certainly will in our non-utility. So we want to make sure that we are running efficient companies, and we've had a pretty deep look at our cost structure in our utility this year as we go into next year. We will continue to do that in the non-utility, as well. But we certainly -- the non-utility performance has been tremendous and outstanding. And as Mark said, some of that is adding people who do development or who actually work with customers or work to add customers. So the part that we haven't cut back on is making sure we got people out in the field who can help us add customers.

Thank you.

[Adar Zango], Zimmer Lucas Partners.

Good morning. Just had two quick questions. First would you be able to say what ROE cap structure and rate base were approved in your Kentucky decision?

Adar, we really can't; we got just a margin increase, and it wasn't tied to specifics in the order around cap structure or ROE.

And when you go in and file again at Mid-Tex will you be filing on an '07 test year since the year will nearly be completed by the time you file or will it be on a historic '06 test year?

We are not able to look forward. We would be probably a period ending for example June 30th would be a likely ending period.

June 30th of '07?

Of 2007, yes.

Okay, great. Thank you so much.

At this time, management, we have no additional questions in the queue and we would like to turn the conference over to you for any closing remarks.

Thank you all. Just as a reminder, the call is being recorded, and there is a replay out on our website through November the seventh. If you do have any additional questions, please call me, and we appreciate your interest in Atmos Energy. Thanks so much, bye bye.