埃特莫斯能源 (ATO) 2008 Q3 法說會逐字稿

Welcome to the fiscal 2008 third quarter earnings conference call on the 6th of August 2008. Throughout today's call and presentation all conference participants will be in a listen-only mode. After the presentation there will be an opportunity to ask questions. (OPERATOR INSTRUCTIONS).

I will now hand the call over to Susan Giles, Vice President of Investor Relations, please go ahead.

Good morning everyone. 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 to summarize the financial results. We will not review them in detail, but we will be happy to take any questions at the end of our remarks. If you would like to access the webcast or the slides, please visit our website at atmosenergy.com, and click on 'Conference Call' link. Also we plan to file the Company's Form 10-Q later today, which will also be available on our website.

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 with us, 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 the Securities Exchange Act. Any forward-looking statements are intended to fall under the Safe Harbor rules of the Private Securities Litigation Reform Act of 1995 .

With that, I will turn the call over to Mr. Bob Best.

Thank you, Susan. Good morning, everyone. As always, we appreciate you joining us today, and thank you for your interest in Atmos Energy. As Susan said, Pat Reddy will review the financial results in greater detail in just a moment.

But before he does that, I want to talk about several of our recent business developments. Yesterday after the market closed, we reported improved financial results for both our third quarter and nine months of fiscal 2008. For our third quarter we reported a net loss of about $7 million, a 51% improvement, compared with a net loss of 13 million in the same quarter a year ago. On an EPS basis, that equates to a net loss of about $0.07 per diluted share, compared to a net loss of $0.15 per diluted share in last year third quarter.

For the nine months, net income was up slightly year-over-year to almost $179 million. As you know, due to the seasonality of our business, primarily the regulated distribution business, fiscal third and fourth quarters are typically very [effected] by costs that exceed revenues. The regulated businesses comprised of our gas distribution operations and our Texas Intrastate Pipeline, experienced solid net income growth over last year, of 78% for the quarter and 22% for the nine months ended June 30. Net income from the non-regulated businesses declined 17% quarter-over-quarter, and for the nine months net income dropped 43% from the same period a year ago. Also yesterday our Board declared our 99th consecutive cash dividend, our [inaudible] annual dividend rate for fiscal 2008 is $1.30 per share.

I want to spend some time talking this morning about the Mid-Tex rate case we filed last September for about $50 million. As you may recall, the case had been settled with all cities in the Mid-Tex division, with the exception of the city of Dallas, and the unincorporated areas representing about 20% of Mid-Tex customers. On June 24th, the Railroad Commission of Texas issued it's final order on the litigated case with the city of Dallas and the unincorporated areas. Key components of the final order include a $19.6 million system-wide annual rate increase, the ability to recover the gas costs portion of bad debt expense, an authorized return on equity of 10%, an improved capital structure of 52% adding 49% equity, and a conservation program with costs shared between customers and the company.

The final order did not include a Rate Review Mechanism unlike the settlement cities. We will continue to make annual GRIP filings to recover capital expenditures, and file traditional rate cases as necessary, to seek recovery of increased expenses. In fact, in May the Mid-Tex division made a 2007 GRIP filing on a system-wide basis for $10.3 million.

In November we anticipate implementing about 2 million annually for the customers of the city of Dallas and the unincorporated areas, since they do not have the Rate Review Mechanism. Settlement cities representing 80% of Mid-Tex customers, a Rate Review Mechanism filing is pending. The first Rate Review Mechanism filing was made in April, requested an adjustment to rates of about $33.5 million. The cities are currently reviewing the filing, and after some negotiation an ultimate agreement, implementation is scheduled for October 1, 2008.

On our non-regulated side, our non-regulated Park City gathering project in Kentucky is now completed and fully operational. This is a 23-mile low pressure gas generating system and treating facility. Total project cost is almost 12 million, with about 9 million of capital spent in fiscal 2008. In the first year of operation, net income is expected to be about 1 million, but the longer-term value of this project, is that is should give us a foothold and a much reasonable strategy.

Last month we completed a non-binding open season for the Fort Necessity salt dome gas storage facility, located in Franklin Parish, Louisiana, with optimistic and favorable results. Our open season participants requested storage capacity that in total was more than three times greater than the 5 billion cubic feet of capacity proposed in Phase I of the project. The first cavern is projected to be operational in 2011, and other two caverns in 2012 and 2014. Drilling for the test well began June 30th, and is expected to be complete by mid-October. We anticipate full valuation of the salt core by mid-December. This well will be configured and serve as a cavern well upon FERC 7C certification.

I will now ask Pat Reddy to review financial results, and then will return with a few closing comments, and we will be happy at that time to take your questions. Pat?

Thanks Bob. Good morning everyone. Thanks for joining our call. For the third quarter of fiscal 2008 we experienced a sizable improvement over the same quarter a year ago, as Bob mentioned. Our recorded net loss was $6.6 million, or $0.07 per diluted share, as compared to a net loss of 13.4 million, or $0.14 per share a year ago. For the 9-month period, net income rose 2% to about 179 million, or $1.99 per diluted share, compared with 174 million, or $2.00 per share for the same period a year ago.

For both current periods, the regulated natural gas distribution business continued to benefit from the cumulative effect of changes in rate design in several of our service areas. We still experienced a net loss of 12 million in the distribution business this quarter, but that is a 21% improvement from the same period a year ago. In the current nine-month period, distribution net income climbed to over 113 million, a 23% improvement over last year.

The regulated transmission and storage segment experienced terrific growth. Net income grew 67% to 10.2 million in the quarter, and 21% to 35 million in the current nine-month period. This segment continues to benefit from increased transportation and higher per unit margins from the Barnett shale gas producing regions in Texas, as well as GRIP recovery in annual capital expenses in Texas. The gathered and regulated businesses experienced year-over-year growth net income of 22%, contributing 149 million in the current nine-month period.

Non-regulated operations experienced a net loss of about 4.5 million in the current quarter, a decrease of about 17%. For the current nine months the non-regulated operations posted almost 30 million of net income, however this was down about 43% from the same period a year ago. Earnings continue to be reduced in the quarter and year-to-date, mainly due to reduced unrealized margins on asset optimization activities, due primarily to decrease in natural gas price volatility.

If you will now turn to slides 6 and 13, you can follow along, as we take a closer look at the non-regulated natural gas marketing segments. Natural gas marketing's gross profits decreased about 2 million for the quarter, and 26 million for the 9 months, as compared to the same periods one year ago. Realized asset optimization margins increased 4 million quarter-over-quarter. During the current quarter AEM realized about 37 million of losses, compared to about 33 million of realized losses in last year's quarter. For the current quarter AEM elected to defer storage withdrawals, and reset the corresponding financial instruments to enhance potential gross profit in future periods.

As a result, AEM realized financial hedge settlement losses without the corresponding storage withdrawal gain, which contributed to loss of about 37 million of realized asset optimization margins. In the prior year third quarter, AEM realized financial hedge settlement losses without the corresponding storage withdrawal gains, because the storage had already been withdrawn in the fiscal 2007 second quarter, i.e., ahead of the original plan schedule, that contributing to the realized losses of about 33 million in last year's third quarter.

Let's turn now to our fiscal 2008 nine-month period, where our natural gas marketing gross profit was about $26 million lower than the same nine months last year. The biggest driver again was in the realized asset optimization margins, which increased 49 million period over period. For the current nine months AEM realized about 10 million of losses, compared to about 39 million of realized gains last year.

Due to the less volatile natural gas market we experienced this entire year, AEM again regularly deferring storage withdrawals, and resetting the associated financial instruments. In other words, rolling them forward. As a result, AEM recognized settlement losses without corresponding storage withdrawal gains throughout the current fiscal year, as we just discussed for the third quarter. Additionally AEM experienced increased storage fees charged by third parties. This is in sharp contrast to last year where AEM was able to recognize arbitrage gains and exchanges as originally scheduled storage projection, and withdrawal plans had a significantly smaller impact.

Partially offsetting these losses are the increases we have experienced in our delivery gas margins of about $1 million in the current quarter, and about 11 million in the current nine months, largely attributable to higher [inaudible] margins in prior periods, as a result of the favorable [inaudible] gains, and a 14% increase in gross sales losses for the year-over-year nine months. Unrealized margins also increased about $1 million quarter-over-quarter, and about 12 million year-over-year, mainly as a result of the narrowing of the spreads between current gas prices and forward natural gas prices.

Information concerning AEM storage booked is shown in the Appendix to our slide presentation on slide 38. You can see that the difference between the economic value, which is the measure we use to manage the business, and our GAAP reported value at the end of the reporting period.

At the end of June the potential gross profit, which is future economic value not yet realized in GAAP reported results, of our gas in storage was about $14 million, which we expect to realize primarily in the first quarter of fiscal 2009 if our optimization efforts are executed as planned. [FRED] climbed to about $2.75 per Mcf as of June 30th, compared to $0.52 per Mcf in March 2008, as a reminder Atmos Energy Marketing attempts to always maintains a flat trading book and does engage in speculative training. For a more detailed discussion of economic gross profit and potential gross profit in the MD&A section in our 10-Q, which is due to be filed later today.

Turning now to the expense side of our income statement. Our consolidated operation and maintenance expense increased almost 3 million in the current quarter, and about 17 million in the nine-month period. The primary drivers of the increase include higher labor and benefits costs associated with annual wage increases, and higher contract labor increases of about $1 million in the quarter, and 4 million in the current 9 months.

Other administrative costs rose about 1 million in the quarter, and about 3 million in the current nine month period, and pipeline authorization and vehicle fuel costs increased O&M by almost 4 million in the current 9 months. Our current 9-month period is impacted by the absence of about 4 million last year from the deferral of 2005 and 2006 Katrina-related expenses, which we were allowed to recover by our Louisiana Regulatory Commission, and which were reflected in the first nine month period of last year. We also experienced a rise in outside legal fees of about $5 million for the current nine month period.

Our bad debt expense decreased about 4 million in the current nine months, mainly due to continued focus on collections. Year-to-date our bad debt expense remains ab about 0.3 of 1% of revenues, and we anticipate that no more than 15 million of bad debt expense will have be recognized in fiscal 2008.

Looking at our capital expenditures for the nine months, they rose about $50 million to 313 million. This primarily reflects costs associated with the automated metering initiative in our gas distribution segment, main replacement activity in our Mid-Tex division, and capital in the non-regulated Park City's gathering project that Bob discussed.

Turning now to our earnings guidance for fiscal 2008, we are maintaining our previously announced estimate for fiscal 2008 in the range of 1.95 to $2.05 per diluted share of common stock. However we fine tuning expected contributions by business segment. We are quite pleased with the performance of the distribution and pipeline operations, and are gratified that our continued focus on rate design is improving our financial results. In addition, Atlas Pipeline Texas continues to perform very well. Year-to-date APT has transported 30 Bcf more than originally planned, while also capturing higher percent margin on incremental transactions.

Let me draw your attention to slide 31, where we have projected an increased contribution for the regulated segment, and a reduced contribution from the non-regulated businesses. We are increasing expected regulated net income by 11 to 12 million, with equal and offsetting decreases in non-regulated net income. The potential 11 million of the decrease comes from the natural gas marketing segment, where we continue do expect relatively low price volatility for the remainder of the year.

Our guidance range assumes no material mark to market impact in September 30, 1008, however, as you know there is no way to predict today what the market will be until the end of our fiscal year. We are projecting between 455 and 465 million in CapEx in fiscal 2008. Of that 350 million to 355 million will be maintenance capital, and about 105 to 110 million will be growth capital.

With that, I will turn it back to Bob.

Thanks Pat. I will make a few closing comments and then we will be glad to take your questions. As you heard today, we have a good foundation and a diverse foundation of assets. We continue to realize substantial progress in our regulated distribution in Texas pipeline operations, and we are really encouraged and uplifted by the reports you just heard from Pat, about the performance of our regulated entities for the first nine months of fiscal 2008.

I think it just shows the progress we have made, and effectiveness that we have had in our rate-making process in every jurisdiction that we served. On our non-regulated operations side, it really does compliment the gas distribution business, and although as you heard the income from the marketing storage has dipped because of the lack of gas price volatility, the natural gas marketing segment continues to provide solid earnings growth through it's more predictable delivery of gas services revenues.

Looking forward we are finishing up our fiscal 2009 budget cycle, and we will be communicating those details to you in the coming months. Many of you may be asking what is next for Atmos Energy, but with Mid--Tex essentially fixed, how can we grow our distribution business? I will say much of the work that we have been doing over the past few years with rate design and rate filings, has now paid off for us, and we will continue to make incremental improvements in our regulatory assets as we move them forward.

With the Texas pipeline, we have several projects that are under review, as we explore opportunities with all of the drilling going on in the state, and particularly in the Barnett Shale. We hope that we will be able announce one of those projects in the near term. It is certainly an exciting time to be operating a pipeline in Texas. The prospects for our Fort Necessity storage project are also promising as we reported today, although it's still in the early stages, we are going to continue to update you as the progress progresses. Again, we anticipate the first phase to be operational in 2011. We appreciate you taking the time to be with us this morning.

And now we will be glad to open it up for any questions that you may have.

Thank you. (OPERATOR INSTRUCTIONS) There will be a short pause while participants register for a question. Thank you. The first question comes from Ted Durbin from Goldman Sachs. Please go ahead.

Hey, guys, on the Mid-Tex rate request, what are the key issues that are sort of going on now, looks like there are some negotiations, and what is the process? Can you talk us through that?

This is Bob, I am going to let Kim Cocklin, who runs our regulated operations answer that question for you.

Good morning. As Bob said, we have had several conversations with a lot of them. It is an expedited abbreviated approach to reviewing the capital investment and the expense increases, we are now seeking $33.5 million. And as a matter of fact, we are having meetings today with one group of cities. We have already had two meetings with the other group of cities. The process is probably going to be two or three meetings, and we anticipate settling on a dollar increase, and that increase will be reflected in rates that will be made effective with our fiscal year beginning October 1.

So if I think about what are the big issues that are likely to be part of the negotiations?

Well, there aren't really any big issues, because we are [stipulated] to return cap structure, depreciation, there is the normal discussion, and to date around what expense levels are appropriate. There is no difference actually with us than the assembling parties on capital investment.

Most of it is associated with the O&M expenses. If you follow the rate cases in Texas, the Railroad Commission before, you know that we had a lot of issues around shared services, corporate costs that are allocated to the divisions, and how the level of costs that should be allocated. So principally the shared service was corporate costs that we are talking to them about right now.

If I could ask about the Fort Necessity project. Did you get a sense of pricing that you might see out of that based on the open season? You have got pretty sure demand. What sort of the demand curve looks like for the project?

I am going to let Mark Johnson, who runs our non-regulated operations answer that.

[Inaudible-microphone inaccessible] --pricing was consistent with all of our market research ahead of time. We had a good range and diversity of [inaudible] in the area, and [inaudible] capacity. It was encouraging to see that there was still a robust need for additional storage capacity. So, yes, the open season served it's purpose, and we are going to move forward with the project, on a very conservative basis, and be sure that we follow the line for our expectations on it.

Okay. And can you just talk a little bit about construction costs? Have you sort of started to talk to vendors, who will be doing that, and also about potential returns on the project?

Well, the construction costs we were fortunate enough, have already begun our stratographic test well, the virtual well, which we were fortunate enough to lock in the drilling costs for that over nine months ago, and those costs are something to be concerned with. We have got a pretty good handle based on all of the information out there today. Our costs are current, and that is all factored in as we start to look at what the economic viability of the project is, that is not what I had perhaps going ahead with any kind of economic [inaudible] forecast. But we are discussing it with parties that are interested in that capacity.

As you can imagine we have run a whole bunch of different scenarios with various levels of construction costs, various expectations about needs for storage injection and withdrawal cycles, and different levels of extrinsic and intrinsic value. Obviously we wouldn't be going forward with it, if it wasn't meeting our internal hurdle rates, which as we have discussed on earlier calls, to be about 15% after tax for non-regulated projects.

Is that 15% unlevered?

Unlevered.

Great. Thanks a lot.

Thank you. The next question comes Faisel Khan, Citigroup, please go ahead.

It is actually [Barry Pine]. Couple of questions on the marketing division. The estimates for the year, I think are 27 to 30 million in net income. You had said that you thought that the it was going to be low price volatility for the rest of the year. Has this number ever been updated from previous quarters, and does this assume sort of normal type of volatility, or is this assuming lower volatility for the rest of the year?

This is Rick Alford, who is head of the financial part of our non-regulated operations.

This number has been updated, our original projections and our revised projections had no material storage contribution in the fourth quarter, so we really didn't have to update that part. This is standard operations on our marketing book target area that is generating these numbers.

Okay. And I don't know if you said this during the call, do you know what type of impact deferring those withdrawals versus the prior year should have, or is that, I don't know if you released that or not?

Well, what we do every month and every quarter, we evaluate our economic value, which is our future income that we expect from our storage operation, and then we also have a cap number that we have in our slide, the 13-plus million dollars of future economic value. So that is the way we track the impact of our resetting the financial positions.

Okay. Got you. Thanks a lot.

Thank you.

(OPERATOR INSTRUCTIONS) Thank you. The next question comes from the line of Elvira Scotto, Banc of America. Please go ahead.

Hi, good morning.

Good morning.

Question on your distribution businesses. What is the driver behind raising your guidance for distribution, and what gives you the confidence that you could hit these higher numbers?

And then just as a follow-on, I know that on bad debt expense you haven't seen much of an increase in the quarter, despite the big jump in natural gas prices. But what is your view as we head into winter, particularly given sort of the current macro backdrop, and maybe you can run through your different operations, and talk about if you have any riders in place for bad debt expense, that would be helpful? Thanks.

I'm going to let Kim Cocklin answer your question, but I want to say something about bad debt expense first. And that is that we started back really in winter of 2001 when gas prices spiked, and we put a special emphasis on our collections activities, and I think that has really helped us through the last seven or eight years, to keep our bad debt expense where it is, and so we have to really give some accolades to those who work in that area. It is a daily, every day you have to just stay right on top of the situation, so I think we have really performed at a high level when it comes to bad debt expense.

As far as the operations, and why we feel confident about our regulated operations for the rest of the year, I am going to let Kim Cocklin answer that question. Kim?

Thank you, Bob. Well, I mean, obviously we are relatively confident that we are going to make the number. Principally it is related to a lot of the rate regulatory activity that began about two to three years ago, and the [IA] annual filings that we make now and in Texas, Mississippi, Louisiana, Virginia, and some of the successes that we have had in the past in Kentucky and Tennessee, they are now starting to show up on an entirely annual basis.

I think if you look at the incremental revenue that has been added in the past 12 months, from rate regulatory activity amounts to about $67 million of appreciable margin of that coming in this year, that has not been coming in, in the past. And obviously, we have filings that are in process right now that have filed for amounts that will obviously negotiate down. Some of that is included.

And then we have other applications that are in the process stage. As Bob and Pat have continually emphasized, the road for success with the regulated businesses is obviously in the rate and regulatory world, is not only the process but the applications that are necessary to reflect the net capital investment, and the expense increases that we are incurring. But also it is very dependent upon the relationships that we have established. We talked about the RRM processes in Texas.

We are confident that is going to work, and work very well. Again because of the relationships, and the amount of the investment that is made on those relationships. Not only with the customers, but also with the city officials, as well as legislators, and then the regulators themselves.

So that is really where we are at, and that is why we are enjoying the success that we are reflecting in the results, and it is more of a collaborative partnership, and things that are being litigated, and I mean the other upside to all of this is that there is significant [ratings] associated with rate case expenses that are being incurred as far as the litigation that had been going on in the past.

I know that is a long way around it. The bottom line is that we are confident that numbers are very achievable.

And our pipeline has been doing really well, with all of the volumes that it has been transporting, which is part of the regulated operations.

Pat pointed out, the volumes going through the Barnett Shale right now have increased significantly. I think we are 70 Bcf over last year, and we are also significantly above the margins that we were realizing for that same transportation, because of the basis with our existing in the Barnett Shale and where that pipeline is situated.

On that point, are transportation volumes and margins are expected to be about 9 million higher than we planned, and we factored that into our guidance and in the mix of earnings contributions.

Okay. Thank you. That is very helpful. I just want to do go back to the bad debt expense. I am just thinking about going into this winter heating season, do you have riders in place, in case you do see some increased bad debt expense?

We do have them in several states. That is one of the things that we are working on in the rate process everywhere we file. Kim, why don't you--?

I hope, Elvira, that you are very accurate and correct that we will have a winter heating season, [inaudible] winter heating season this year, for a lot of reasons. But, yes, we have in most of the bigger divisions I think it is about at least 50% of the jurisdictions or the meters, are covered with the recovery of bad debt in a PGA-type mechanism, rather than rate level.

So it is an actual recovery of the gas cost fee for bad debt, rather than trying to establish a representative level, and then given that market trying to assign an assumption around gas prices. We have significantly reduced our exposure. In the Mid-Tex settlement in particular, that was a significant condition in the settlement, that we would put the recovery of gas costs portion of bad debt cost in our gas cost recovery filing that we make in Texas, we have in west Texas as well, and we have it in Tennessee and Virginia, [inaudible], and Louisiana.

Going back several years we have done some blocking and tackling around making sure that we can charge customers appropriate deposits and reconnection fees. We are very diligent about going through the disconnection process with customers that don't pay their bill, so that we can have them offline before they get too far into our pocket. So we are never happy about that process but we are very diligent to control bad debt expense.

I will say this, our collections efforts in our area for collections, I mean, we have a group that is responsible for collections internally, and they do a magnificent job. I mean, if you look at us compared to the rest of the industry, we are incurring bad debt at about 0.341% of overall revenues.

One third of 1%.

0.3

Less than 1% , which is magnificent, given obviously the economic conditions and climate. It is something that is focused on every day. We have got people that go to bed and wake up thinking about collections, so they do a wonderful job.

Okay. Great. Excellent, thank you very much.

Thank you.

Thank you. There appear to be no further questions. Are there any further points you wish to raise?

I just would like to say, this is Susan, that a recording of this call is available for replay on our website through November 10th. Again we appreciate you joining us today. Thank you. Have a great day.

Thank you, you may now disconnect.