金德摩根 (KMI) 2003 Q2 法說會逐字稿

Good afternoon and thank you for joining the quarterly earnings conference call. I'd like to remind all parties that this call is being recorded if you have any objections you may disconnect at this time. Also only all participants will be able to listen only until the question and answer session of the call. I'd like to turn to over to Mr. Richard Kinder, Chairman and CEO of Kinder. Sir you may begin.

This is rich Kinder and welcome to the Kinder Morgan quarterly earnings call. As usual today we'll be talking about two companies, Kinder Morgan, Inc. , which is one of the largest midstream energy companies in America and among its midstream assets it also owns the general partner in Kinder Morgan Energy Partners which I'll refer to as KMP, which is the largest pipeline asset limited partnership in America in terms of market value. We as usual also will be making statements within the meaning of the Securities Act of 1933 and the Securities Exchange Act of 1934. I'm going to give an overview of our second quarter performance on both companies, both KMI and KMP, then I'm going to turn to Mike Morgan who's going to give some color regarding re-contracting efforts on our natural gas pipeline system which were very significant this quarter and also with regard to volumes on both our natural gas and products systems and then as usual our CFO, Park Shaper will review the financial results in detail including balance sheet information for both companies.

Let me start out with KMI. The main news here is that KMI reported a 29% increase in second quarter earnings per share, reporting 76 cents, that's up from 59 cents for the comparable period in 2002. Net income for the second quarter of KMI was $94.2 million, up from about $72.5 million in the second quarter last year. Cash flow, which of course is a big emphasis for us and we'll be talking about that a lot, cash flow was about $130 million for the second quarter and $288 million for the first six months of the year. This is consistent with the revised full-year forecast which we shared with you back in June, when we raised our estimate of cash flow from $470 million, that was what was in our budget, for the year, to $530 million for the year.

And if you work out the math, our free cash flow to date of $288 million is about 54% of that $530 million cash flow budget. Now, let me qualify that with two things. First of all, as you know, and as we state in our press release, we define cash flow as pretax income before DD&A less current income taxes and sustaining cap-ex, that means sustaining capital expenditures are already out before you get to that net number. And when I talk and later Park talks about our published budget as you'll recall, it's the budget we published back in January of 2003 contemporaneous with our annual analyst meeting here in Houston and that has been posted on our website from that date so when we talk about comparisons with our published budget that's what we're talking about. Now, looking at the KMI, very good results for the second quarter.

All of our business segments reported increased earnings over the same period a year ago. Obviously, very importantly today we did what we told you what we would do in June, we increased our quarterly dividend to 40 cents per share per quarter. That's $1.60 per share annually. This dividend is payable on August 14th, 2003 to shareholders of record as of January -- as of July 31st. And we increased the dividend in response, number one, to the tremendous amount of free cash flow we continued to generate at KMI and secondly to really take advantage of the newly enacted Federal Tax Legislation which really maximizes the benefits of dividends to our KMI shareholders.

To the best of our knowledge we were the first men of the S&P 500 to raise our dividend when we announced that back in June. Let me just say that on that -- from that standpoint, we intend to continue to look at our dividend policy with a view toward continuously raising dividends over succeeding years as our cash flow continues to grow. And we're doing all of this increasing the dividends while still maintaining a very strong balance sheet. Year-to-date we have now reduced our debt at KMI by more than $280 million, including about $122 million in the second quarter. And as Park will go through with you in detail, that lowers our debt to a total capital ratio at KMI to about 44% from 48% at the end of last year.

Now, let me talk a little bit about each business segment at KMI. As usual, the driving force in the earnings growth at KMI was the ownership by KMI of the general partner of KMP. In this quarter the KMP interest contributed almost $98 million of pretax earnings to KMI. That was a 20% increase over the $81.5 million for the second quarter of 2002. KMI will receive a total of about $104 million in distributions from its investment at KMP and that's up from $86 million a year ago. These results are consistent, actually just a little bit ahead of KMI's published budget target of 16% annual growth from its interest in KMP. And to remind you, again, going back to our budget, we expect KMP to generate about 45% of KMI's budgeted segment income.

Obviously, the cash flow coming up from KMP as a result of KMP's growth, which was largely almost totally due to internal growth on its pipeline and terminal assets, obviously, as most of you know, as KMP's cash flow grows, KMI's general partner share of that cash flow grows as well and that's why we keep having these very nice increases in both cash flow and pretax earnings at KMI as a result of the good performance of KMP. Turning to our second largest contributor to KMI's income, that's Natural Gas Pipeline of America, NGPL.

They reported second quarter segment earnings of a little over $84 million up slightly from the same quarter a year ago. This is a game of singles and doubles. I think the important thing here is the really important reconstructing efforts that were accomplished in the second quarter and year-to-date and Mike Morgan is going to talk about that in some more detail in just a few minutes but suffice it to say that NGPL's having a very good year and they're on track to meet their budgeted income goals for the year of growth in the neighborhood of 5%.

Our third business segment in is TransColorado. There we had a very nice growth in earnings $5.3 million of earnings for the second quarter, compared to 2.1 million a year ago, obviously a year ago we only owned 50% but still had very nice growth and we still continue to exceed the expectations we had at the beginning of this year. And when we took our interest to 100% in October of 2002. As a matter of fact, as posted on our website, our original published annual budget target for TransColorado was $16 million. We've already achieved almost 80% of that goal.

And we expect to surpass it through the course of this year. Throughput increased by about 7% in the second quarter and about 23% year-to-date through June 30. And with the long-haul capacity there on TransColorado, really does provide a strategic link between some pretty rapidly growing Rocky mountain natural gas supply and the Southwestern United States and this pipeline, this long-haul portion is fully subscribed well into 2004.

Our third segment at KMI is retail. There, the earnings for the second quarter were $6.3 million, up slightly from $6.1 million in the second quarter of 2002. We've had about $38 million through the first six months of the year. Again, as we said earlier, it's a bit funny and loaded this year but we do expect retail to achieve slightly more than its 2003 published annual budget of $65.3 million.

Our final segment that KMI is power and there, that's expected to account for only about 2% of KMI's total segment income for 2003. Second quarter earnings were about $10.8 million compared to $5.9 million for the second quarter of 2002. Breaking that out for you, and Park will put more detail into this but about 2 million of the increase reflects increased contributions from our tolled power plants in Colorado and Michigan.

And about $2.8 million of it is attributable to an increase in net plant development fees. I'll remind you that this is the final quarter where we expect this power segment to recognize power development fees as we have gotten out of that business now. As a result, power remains on track to meet its 2003 published annual budget of $19.4 million for the year. So if you look at KMI, summing up where we expect to come out for the, on a business segment basis, we expect NGPL to be right on budget for the year, we expect TransColorado to be above budget, we expect power to be on bucket, we expect retail to be slightly above budget, and we expect KMP to be above budget. So that all leads me to our outlook for the year. We previously waived our original budget guidance which was $3.18 earnings per share to the range of $3.23 to $3.28 and we're still comfortable with that today for all the reasons I've outlined.

Now, before I go to KMP, let me talk a little bit about executive compensation, because in the interest of transparency, we devoted a good bit of our press release to that subject. As you know, we've had a very -- made a statement that we're very proud of that we're a company that's run by shareholders for shareholders. And we believe we have always reflected that fact in our executive compensation policy. And we think the changes that we're announcing today drive us even further in that direction. We're announcing today a change in how we compensate our senior management group to align their compensation even more closely with the long-term interest of the shareholders. Now, let me start with me. As you know I get a dollar a year and that's it, no options, no bonuses, no restricted stock. I own a significant stake in the company.

And my interest, as I've said before, are entirely -- with you as the shareholder. If the share price appreciates I win, if dividends go up I win, if the share price goes down and cut dividends I lose. For the next 10 senior officers including the heads of all our business units, we obviously capped them, as you know, at $200,000 per year in salary which, in many cases, is a good bit under the market. We will not change that. As you know, we also have no special benefit plans for any of our senior officers, including these 10. That means we have no surp, we have no special rabbi trust, nothing special, they have only the benefit package that all employees have.

Those people as well as the rest of our 5500 employees are eligible for bonuses every year, but only if we make the specific targets that we publish at the beginning of the year. Now, up until this point, till today's board meeting these senior officers had been eligible for stock options and received multi-year grants, most of them, about four years ago. Those options vest later this year. And looking ahead, we have decided to not allow these executives to have additional options. And a move there long-term incentive compensation to restricted stock instead. So our board today approved the issuance of one time restricted stock grants to our 10 most senior executives totaling about 575,000 shares. Let me say about those restrictive stock grants two or three things.

First of all, they clip vesting, they will vest nothing until the end of three years where they will vest at 25% at that point. The remaining 75% will not vest until after five years. This will result in charges all of which are based into our budget, annual charges of about $3. 5 million at each KMI and KMP on a going-forward basis. Only obviously only half of that in each case for the balance of this year. And that's it for equity compensation to these 10 individuals for the next five years.

This is a one-time grant. Now, with regard to the rest of employees who also had a multi-year program that expires later this year, or vests fully at the end of this year, we will keep them on options. And all of our employees, we've prided ourselves that every employee at KMI and KMP has a stake in this company, they will continue to have that stake, and all of our employees will continue to be eligible for annual option grants.

These will also clip vest but after three years we anticipate granting fewer than 700,000 options this year and in succeeding years. And these options have expiration terms of seven years, not 10 years. Now, our general philosophy, all of this, and let me be very clear, and again, I think this is absolutely consistent with the idea that we're being managed by shareholders, for shareholders. We have a very modest overhang in this company.

By overhang, I mean the ratio of outstanding options to the total shares outstanding. Right now, with today's grants of restrictive stock and this one-year option grants, that overhang will still only be somewhat above 6%, about 6. 5%, we expect that to trend down to the 4 or 5% range over the next several years. For example, if you want to just work the math, these are seven- -year options. If you granted 700,000 rounding up 700,000 a year for seven years and never exercised a single one until the end, the maximum overhang would be 4. 9 million shares over 123 million outstanding or about 4%.

Now, we -- we are carrying some old options that will work their way out, that's what I mean by going down from 6 to 6.5% right now to the lower 4% range, I think safe siding it I would say consistently between 4 and 5% in the out years of this plan. Now, I want to say we will view this annually. We will continually look at what's appropriate for our shareholders and for our employees. And let me say that we're also very proud of the fact, the fact that as long as I'm around or this management team's around, we will never be pricing any options, we will never reload any options, and we will never grant any out of the money options.

So I wanted to spend a little bit of time on that because I think it's extremely important and if there's a management team around that is looking more carefully at compensation than we are, I'd like to see that management team. Now, tied into all of this, I want to make you aware, and we've released this in the press release also, that we have effectuated a trade-out with our CFO, Park Shaper. As all of you know and we fully disclosed it back in January of 2002 we guaranteed a loan on park's behalf in the amount of $5 million to perform purchase KMI, KMI shares and KMP units with loan forgiveness after five years. Obviously, on a going-forward basis, those loans are not -- not now allowed under Sarbanes Oxley. Park's loan was granted, we would not have to do anything with it.

However, we think it's better to end that process and to put him on the same terms as the other nine senior executives and that's what he's agreed to do. So park will be selling out what he bought with that $5 million. It's about 37,000 KMI shares, 82,000 KMP units and taking back an equal amount of KMI shares under this new restricted stock plan. It puts park in exactly the same position as Mike and the rest of the senior management team. And he will then be fully responsible for the loan and Kinder Morgan will not.

So I know that's a lot to talk about and probably more than the subject warrants but the two points I want to leave you with is are, number one, that we think, again, putting the -- not only do you now have a CEO who is totally aligned with the shareholders you now have the 10 next most senior executives who now have not only an up escalator in the sense of options but also a down escalator because they'll be negatively impacted to the extent their restricted stock does not perform well. So I think you have a management team even more closely align with the interests of the shareholders.

That's it for KMI. Let me turn to KMP. The big news there is that for the 16th time in 6 1/2 years, KMP has increased its cash distribution. We've taken it up to 65%, 65 cents per quarter or $2. 60 annualized from its prior rate of 64 cents or 2.56 annualized. That's about a 7% increase over the cash distribution in the second quarter a year ago. On a net income standpoint KMP's net income increased by 17% to $169 million from -- up from 144 1/2 in the second quarter a year ago. On eye per-unit basis the net income stayed the same. Obviously, we have quite a few more units outstanding this year after our recent equity offering and obviously we have a good bit higher cash distribution this year which also negatively affects the net income.

But overall, again, a very good quarter for KMP, with all four business segments reporting higher he was earnings before DD&A to the second quarter a year ago. Virtually all of this growth was driven from internal sources and we continue to focus on increasing utilization of our existing assets and we continue to focus on investing in capital expansion projects that wean are critical to the infrastructure, the energy infrastructure of America. Let me again on KMP as I did on KMI go through the business segment, segment by segment. On the products pipeline you were up only slightly our earnings before DD&A versus comparable period a year ago. Mike's going to talk in more detail about the volumes on our product system but to sum it up we had increases on Pakistan, cal net, central Florida and north system pipelines and transmix operations.

Disappointment on our coaching pipeline and plantation pipelines in terms of volumes. So looking at the overall revenue that Mike will take you through, we did benefit from an increase in fees blending at our California terminals as we said we would. And despite these relatively leak volumes year-to-date segment volumes before DD&NA and products pipeline segment are up 4. 4% over the same period a year ago. We think our target for the year is 5% and I would say right now we'll probably come in just slightly below that 5% number for the products pipeline secretary.

Natural gas pipeline segment at second quarter earnings before DD&A about $89 million, that was up 20% from the reveille $74 million in the same period last year. And our natural gas pipelines, we believe, are on target to make their 2003 published annual budget of 12% growth for the full year. So we had about $15 million increase in segment earnings. About 12 million of that is attributable to our Texas intrastate system. Mike will talk about that in more detail.

The CO 2 pipelines delivered a 57% increase in second quarter segment increase before DD&A, they earned a little over $47 million up from $30 million in the second quarter of 2002. Oil production at the Sackrock unit in West Texas averaged 19,600 barrels per day in the second quarter. That was a 63% increase in production over the same period a year ago and we continued to raise that production for the month of July we are approaching 21,000 barrels before per day in production so we continue to grow up, that's consistent with our budget.

The centerline pipeline project which came in ahead of schedule and under budget also began operations in May. That has helped the segment income. And the CO2 delivery -- Kinder Morgan's CO2 deliveries to our customers -- that's third parties and ourselves at Sackrock increased 28% in the second quarter compared to the same period a year ago, so very good results there. I think the only negative in the CO2 is other owners at McCelmo reduced deliveries to their customers which resulted in a total decrease of throughput volume on our CO2 pipelines of about 5%. But again, a very good quarter. We have significant additional expansion continuing at Sackrock.

The CO2 segment continues to outperform our expectations and as a head of its published annual budget for 32% earnings growth before DD&A. We're going to beat that, I think, for the full year 2003. Now, I will remind you and Park will give you more detail on this, that our CO2 segment is one of the only areas where KMP or KMI for that matter is exposed to commodity price risk. We mitigate that risk by a long-term hedging strategy. And by that strategy we intend to generate more stable realized prices . For your information, the realized weighted average oil price, including the hedges, was this 24.21 dollars per barrel for this segment in the second quarter.

And that compares to $22.38 for the second quarter of 2002. Our final business segment at KMP is our terminals group. They are the second quarter segment earnings before DD&A. We're $58. 5 million. That's up 15% from the 50.7 million in the same period last year and we believe, there again, we're on target to hit our published annual budget growth of 13% on a full-year basis. Results here were driven by an increase in refined petroleum imports to the United States which benefited our New York harbor operations. And expansion projects that increased on a reasonable capacity. Let me just give you a couple of anecdotal piece of evidence as to how well this business is doing.

Our Houston complex which is the largest refined products terminal in the world we believe set a new all time record for throughput in the month of May and our New York harbor complex, driven largely by these imports that we talked about set an all time record for throughput in the month of April. I would also mention to you that in this segment, we are beginning to see some advantages from pursuing a pretty aggressive strategy on ethanol.

We now own about 25% of the ethanol storage capacity in the United States and we've entered a number of contracts to utilize that capacity. So if you look at our role in conjunction with ethanol, we are benefiting in three ways. We are servicing the new plant construction in the Midwest by delivering natural gas which is the feed stock and for these ethanol plants through both our Kinder Morgan interstate system and our retail system in the state of Nebraska, number one. Number two, as we said all along, we're benefiting on the west coast on our Pacific system by blending ethanol back into the stream at our terminals, as you recall, it cannot throw a flow through the pipelines.

And then finally, we're benefiting in our liquids terminal by entering in the storage agreements for ethanol around the United States, both in Houston and in the northeast. So if you look at 2003 as a whole for KMP, business segment performance, I would sum it up this way, CO2, we believe, is likely to outperform its plan, products will probably slightly under perform, TransColorado -- excuse me, terminals and natural gas will be on their pretty aggressive budget targets for the year. Based on that segment performance we remain consistent with our projection that KMP will declare cash distributions totaling at least $2. 63 for 2003. And in addition, we expect to increase the quarterly cash distribution to at least 68 cents per unit or 272 annualized by the fourth quarter of this year.

Now, let me remind you of a couple of other events that occurred at KMP in the second quarter which I think have significant consequences to us. We did acquire an additional 12.75% interest in the sack rock unit in the premium basin from the partnership with marathon and we will increase our ownership in the make coast pipeline to 70% in the fourth quarter this year.

Additionally, as we previously announced KMP and their marathon will consider the sale of marathon's 42 1/2% interest in the unit to KMP. The second one as I mentioned obviously during this quarter we did successfully complete a public offering of KMP of 4.6 million KMP units that raised more than $170 million that was used to fund our capital expansion projects and pay down debt and that's why our debt to cap ratio at KMP remains in the 51% range despite over $290 million year-to-date in expansion cap ex reparations, payments, and acquisitions. So very good quarters at both KMP, KMI. And with that I'll turn it over to Mike who will talk in detail about the natural gas segment and products pipelines.

Thanks, rich. And I'll start at KMI with NGPL. You may remember from the analysts conference back in January, this was a very big year for NGPL, it has a third of its contracts that come up for renewal in 2003 we had 61% of the firm long haul capacity expiring. Today NGPL was essentially sold out through October of this year. And 95% sold out through the spring of '04. That's very good progress obviously for NGPL.

On the other side of it, the storage side, which is also a significant firm charge that we -- we have with our customers, we started the second quarter with 25 BUFF of field storage available for sale. That is now also all been sold out through the spring of '04. As usual our market storage, the storage that's up in Chicago and the closest to the LOC customers in Chicago which is very valuable continues to be completely sold out. As we -- as you look at who has signed those contracts I think the important fact is that we've moved to a higher credit quality mix and have been successful in moving the firm contracts away from the lower credits. As we detailed in our release last week, the 450 a day of contracts with Aquilia which you may remember back in '99, 2000 was one of the big contracts we signed when we first merged with -- energy, that has now been with people like BP,, People's Gas and Nicor, all very solid long-term customers for us. That's what we've done so far.

If you look ahead to '04 the good news is '04 is now a very light year. Right now we're only looking at about 17% of the firm contracts coming up for renewal in '04. We certainly expect that the vast majority of those will be rolled with the existing customers. Again, very similar to this year, we'll have about 29.4 BCF or roughly 20% of our field storage capacity coming up in the first half of '04. Very similar, again, to this year. And of course that market area storage we continue to believe we won't have any problem reselling at all. That is the storage that's just critical for deliverability to the Chicago LDCs. Also KMI, of course, TransColorado is fully subscribed well into '04, still making progress on the expansion there. And if and when we have completed that we will tender certainly announce the expansion and the associated contracts with that. Now, moving on to the NLP on the natural gas side I'll start with the Texas intrastates.

They have done and you can tell from the numbers with roughly 12 million of growth out of the Texas intrastates contributing contribute contributing to the is a 15 million for the segment intrastates have done a great job of recontracting their base business and a lot of that has come from the fact that we have increased the connections between the old KMTP system and the system from 300 today when we acquired to well over BCS a day that's improving our ability to extend contracts with customers. Roll them over, number of them obviously in April we had the full ramp up of the big BP contract from about 600 today to a BCF a day. That's a very long-term contract.

It's three years but rolls automatically and we would expect that to be a very long-term relationship. We've got the pen ex contract 375 a day for 13 years. Florida power and light which is 30 years. The Prax-air which is detailed in the retails release 10-year contract. I would remind you a third of our margin on the system really comes out of the big Houston utilities and we don't have any significant expirations with Intex and 0607 and Texas Jenco I really out till 2017. The Texas intrastates are singles and doubles we think the team has made terrific patriotic on shoring up the contracts on the intrastate system. Trailblazer and KMIGT out of the Rockies due to the scarcity of supply in the Rockies they're very little trouble rolling things over. KMIGT has very little coming up in the next six years. The majority of that is expected to be easily rolled. That's the situation from a natural gas perspective.

Let me talk briefly about products because we had a lot of interesting dynamics on volumes in the products even though the segment obviously did -- did grow albeit slightly by 300,000 year over year in the quarter. Let me start on the natural gas liquid side. Normally we don't spend a lot of time on NGLs because it's a smart part of the products pipeline segment however in this quarter we had a very severe effect often our coaching pipeline. The shortfall, coaching had about a $2 million shortfall in earnings quarter over quarter and that's because the volumes were down about 42% in the quarter due to a huge scarcity of propane in western Canada. So the liquid situation was very dynamic in the second quarter. We expect things to get better on coaching as we go into the balance of the year. But that was a larger than normal effect on -- on the products pipeline segment. The Nora system which is the over other big NGL asset was fine it was up 200,000 for the quarter.

Let me talk about the refined products which are the real mainstay of this segment. Again refined products are gasoline, diesel and jet fuel. We're out 63% gasoline, 22 diesel and 15 jet fuel. Overall on the sheet you can see the reported volumes are down about 2.9% for the quarter. And 2.7% for the year. The one thing I point thing I point out on that is we report 100% of the plantation volumes even though we only own 51%. So poor performance at plantation has a much bigger impact on our reported volumes than on our earnings and a lot of the problem really is associated with plantation. If you look just at gasoline, so the first of the three products are the quarter over quarter we were down 5. 7 million barrels or 4.7%. Two causes of that. 4.7 million of the 5.7 are plantation.

Due to weather problems. It was a very rainy time in the southeast that reduced automobile demand a bit. We also had a series of refinery problems. And so the refineries in the southeast were having trouble-making product to ship up the pipeline. The other portion, a little over 900,000 is the ethanol conversion on the Pacific line we've talked about this in detail before. But if you were to take those two factors out gasoline was effectively flat for the quarter . And remember that on that than we're making that up, rich talked about this in some ways we're making up the revenues in the margin and then some on the terminal side of the business, it just affects the pipeline volumes. Year-to-date on gasoline volumes we're down 9.8 million barrels, again, 7.9 is plantation, 1.7 is the ethanol conversion. And that is something that on the ethanol conversion we would expect to continue.

Diesel was really a good news area, up 5.4% for the quarter, 3.5% for the year. I think the encouraging thing on the diesel is it is a better indicator of economic activity. It was particularly strong in June and so that gives us some good optimism for the balance of the year. And finally, jet was disappointing, if you look -- we really had following 9/11 a number of very strong quarters on the jet fuel side. However, jet is down 6.7% in the quarter, 4.6% year-to-date. The principal effects were really on the west coast. You had a big impact on the San Francisco and Las Vegas airports as they showed very weak due in part to SARS and the war effect late in the first quarter and early in the second quarter.

Also combined with that, the military deliveries of net jet were down 12% due to the troop performance. At some point the troops will return. Obviously it's not clear when. But that has been the driving force on jet. So pretty noisy volumes pictures. I think the encouraging things when you look at revenues, you know, we target 4% revenue growth on our product pipeline segment. If you look at plantation, Pacific was up 2.4% for the quarter, 2.7% in revenues year-to-date. Las Vegas was up 3.8% in revenues for the quarter, 8.7 year-to-date, central Florida, 4.5 to date.

The big deputy was plantation which on a ref revenue base was down 3 1/2% on the quarter and down 3% year-to-date. All in all this is a fabulous segment for us, it's driven by demographics in the west and the southeast. We are confident that things will get back on track with what's really been a 10-year history of 4% revenue growth. You may have seen in the new census numbers that came out late last week we share nine of the 10 fastest growing stills of over 100,000 people, nine of the 10 are in southern California, Nevada and Arizona and that's why we have so much confidence in the segment for the future. I will turn it over to Park who has details on the financials.

Great, thanks Mike. And I'll start as usual at KMP and hopefully you have the press release in front of you and if you just flip back behind the text and look at the financial pages I'll start at the bottom of the first financial page again for KMP. Second line from the bottom, the door today approved distribution of 65 cents for the second quarter. That's up from 61 cents a year ago. And almost a 7% increase in the distribution. For the six months we will distribute is. -- $1.29 that's up from $1.20 a year ago and almost 8% increase from a year ago.

It also meanings means as rich mentioned we're on track to achieve our budget total distribution for the year of $2.63. In the line immediately above that you'll see the coverage of 66 cents in the quarter and for the six months at $1. 36 which is 1. 06 coverage ratio. Skipping to the top of that section, net income per unit of 48 cents is exactly equal to last year's 48 cents and for the six months 98 cents up from 95 cents for the six months a year ago. A few things to point out on net income per unit. First of all, that is exactly our budget number, 48 cents for the quarter. And we expect that our earnings per unit for the year will be $1.98. Second, it was a negatively impacted by a few items.

First was the equity offering that we had during the quarter in which we issued 4.6 million additional units. That was not a part of our budget. Second was the increase in the distribution which does have an impact on the earnings per unit. And third is the increased depreciation rate this year which we went over in detail in the analyst conference in January. And it's largely a function of very conservative depreciation rate at our CO2 operations which are a function of production out of Sackrock. Again, in that conservative approach depreciation has a negative impact on net income per unit. But again we overcame all three of those items and hit our budget of 48 cents. Now, all that being said, we say that essentially -- this essentially every quarter net income per unit is less relevant than the distribution and again, the distribution was increased from 64 cents in the first quarter to 65 cents in the second.

Now, flip to the second page and rich and Mike has gone over much of the impact in the second quarter and the second quarter performance. What I'm going to focus on is year-to-date versus plan. And again, this is versus our published budget which is available on our website. Looking at the segment products pipelines for the six months of $219 million of earnings before DD&A. That is about 49% of our annual budget. Now, as rich mentioned we expect the products pipelines will come in just slightly below its full year budget. Natural gas pipelines at $180 million of earnings before DD&A is right at 50% of its budget and right at where we expect it to be in the middle of the year on track to hit its budget for the year. CO2 pipelines at $89 million of earnings before DD&A it's actually over 51% of its budget and in truth CO2's budget is more heavily weighted to the second half of the year so CO 2 is absolutely exceeding our expectations and we expect will come in above budget.

The terminal segment coming in at about $116.5 million of earnings before DD&A. That is exactly 50% of its budget and it is on track to achieve that budget for the full year. When you look at the total segment earnings before DD&A of $605 million that is right at 50% of our annual budget as well and again, we expect that to be on track for the full year. With that, I'll actually drop down to the segment earnings contribution section and below the segment and talk about some of the expense items. GNA is at $34 million for the quarter it's up from 30 a year ago. Will about $69 million for the six months, up from about 60 a year ago. It's actually a little bit ahead of budget, that's 53% of our total annual budget. As we discussed in the first quarter we've had some legal expenses which have come in heavier in the first half of the year.

Then we budgeted in some benefits costs that have been a little bit ahead of our expectations. And we expect that we'll end the year with GNA just a little bit ahead of its budget. The net debt costs are about $45 million for the quarter compared to about 44 a year ago. And about $90 million for the six months, compared to about $83 million for a year ago. You have an average balance that is just slightly up from where it was a year ago. Now, in a rate that is just slightly lower, especially for the quarter. In essence what you have is the balance a year ago at the beginning of the year was considerably lower than it was at the middle of the year last year and that's because the acquisition was in the first quarter of 2002.

And so that's why you have a balance that changed significantly over the year last year and is driving these changes, especially the bigger difference or the bigger growth in the six months and the interest cost. I'll take talk a little more about the debt balance when we get to the balance sheet. Minority interest is generally the general partner minority interest and a couple of smaller terminals largely unchanged. The net income has gone to $169 million from $144.5.

That's growth of 17% in the quarter. And $339 for the six months from about $286 million, that's 19% growth for the six months. And it is exactly 50% of our annual budget. One thing I will touch on the volume section although Mike has already covered a lot of this but on CO2 pipelines you'll see we had the realized weighted average oil price per barrel and rich covered the numbers for the quarter, but in -- consistent with that I wanted to give you just a little bit of an update on our hedge position. For the remainder of 2003 we are about 90% hedged in our oil production. For calendar year 2004 year north of 80% hedged. For calendar year 2005 we're between 50-60% hedged.

And for calendar years '06 and '07, going all the way to the end of '07, we're about 50% hedged. And so, again, significant hedges out all the way through the end of '07. We also have hedges into 2008. Those hedges are at a price of a little over $23 on average. With that I'll go back to the first page. And just going back to the top, revenues, we don't believe is overly relevant. They are impacted by the price of natural gas as the Texas intrastates, as such they are up significantly from last year, for the quarter they're up about 53%. For the six months they're up about 82%. Now, of course operating expenses are correspondingly up. But if you take a look at operating income you'll see that $200 million is 16% greater than the second quarter last year than the $395 million is 17% greater than the six months last year. So again, significant growth driven primarily by -- from internal sources. The earnings from equity investment you'll see is down a little bit from the quarter.

That's actually where some of the -- where the weakness on plantation comes through and so that's why you see that little bit of a decline. And actually most of the other items we have already discussed, including the net income number of 169 million which is up 17% for the quarter. So I'll move to the balance sheet which is behind the two earnings pages. I'm looking at the balance sheet for KMP. You'll see cash is essentially flat.

Other current assets are up as a function of gas prices, receivables that are driven by gas prices. P: . P and E is up which is a function of cap ex with the sustaining cap expenditures I did mention but were $23 million for the quarter and about $40 million for the six months.

And real quick there even though that $40 million is about 42% of our annual budget of 95% $95 million, we still believe that for the year we will probably spend somewhere near that $95 million. Just to give you a sense that the $30 million, which are where we were through the first half of last year was less than 40% of the $77 million that we ended up spending last year. So again, on sustaining capital, that comes in inconsistently throughout the year but we expect that the full year total will still be the $95 million that was our original number. The PP and E line is also and the line below is it is also disaffected by the partnership. Essentially what happened there is we began to proportionately consolidate our own 7 1/2% in the gates field and so that increased TP and E and it decreased investment causing that decrease that you see on that line. Deferred charges and other assets largely unaffected.

Total assets, almost 8. 9 billion, up from almost 8. 4 billion at the end of the year. Other current liabilities are up as a function of gas prices. Long-term debt I'll touch in on in a second. The long-term interest rate swaps it's just a function of the forward curve for interest rates. Other minority interests are largely unchanged. Partner's capital up by over $170 million. As a result of the equity offering in the second quarter. Net debt is about $3. 74 billion. That's up from the end of the year, the beginning of this year, when we were about $3.62 billion. That's $123 million increase. Now, for the quarter, the debt total is actually down $23 million. And I'll go through a reconciliation of that $123 million and the 23 now. We have spent cash on expansion capital that for the six months totals $227 million.

We've also had $21 million of acquisitions, the largest portion of that is the 12 and 3/4% of sack rock that we bought in June. We had a cash outflow related to rate case reparations from an order back in 1999 of $44 million that happened in April. We weren't fully reserved for that but that cash did throw out. That was in the first quarter. We had a the use of working capital of about $65 million.

Now, those totals, that expansion acquisition rate case payment and working capital use are offset by the equity offering that brought in $173 million in cash and the KMR distributions for the six months which represent, again, equity capital that was raised of 61 million dollars. And again, those numbers reconcile to the $123 million. Which is an increase in debt for the six months. Now, the $23 million of decrease for the second quarter, in the second quarter the expansion capital was $104 million.

The acquisitions were $20 million. The rate case payment went out and the use on the working capital was just 13. And of course those negatives, those cash outflows are offset by the equity offering of $173 million and the KMR distributions for the quarter which was just $31 million. As opposed to the 61 for the six months. And again, some of those, the $23 million decrease in debt in the second quarter. And that takes our cap debt to cap to 51% which is where it was at the end of last year but at the beginning of the second quarter or the end of the first we'd actually crept up to about 52%, the equity offering had the effect of reducing that debt to cap.

Expansion projects, I talked about the it $227 million year-to-date. The largest portion of that is the CO 2 project and that's $122 million. And then you had the completion of the Monterey pipeline which was about $24 million. The continued expansion on the east coast liquids terminals which is both adding new tanks and the new connection to the buckeye pipeline which is about $35 million. And if a few smaller projects scattered across. And that's KMP. With that I'll move to KMI. In the back of the KMI press release if you go behind the text pages you'll get to the financial pages.

On the first financial page a few lines up from the bottom you'll see the diluted earnings per common share 76 cents up from 59 cents last year and that's a 29% growth. And for the six months it's $1.66 up from $1.30 a year ago and that's 28% growth. While I'm talking about this, the 76 cents, if you back out a couple of special items which are identified on the next page in footnote 2 which really are asset sales that occurred in the second quarter, one resulted in a loss and the other resulted in a gain, the loss was a little bit bigger than the gain. If you actually back those out so you don't have those asset sales affecting it it's really 77 cents.

What we've done in the footnote is just laid that out for you, everyone can take a look at it and make their own judgment as to what number they want to use. But additionally, while we're talking about earnings per share, the $1.66 is clearly more than half of our guidance of $3.23 to $3.28 for the year. And that is purposeful. We understand that.

There are a few things that I'm going to go through and I'll talk about them as I go through the segment especially on TransColorado, retail and power, which are going to cause the first half of the year to be greater than the second half of the year. And in fact, what will happen is the third quarter earnings per share will be a little bit lower than the second quarter and the fourth quarter earnings per share will be a little bit lower than the first quarter and I'll go through, I'll touch on those items again as we talk about the segments. So moving on to the second page there and the KMI financial statements, the top line is the equity and earnings of KMP.

Again, I'll focus on year-to-date versus plan. That $225 million is over 49% of our plan. We expect again that KMP will deliver more in the second half than it will in the first half, that is part of our budget. And so KMP is on track to actually slightly exceed our budget. But that actually isn't the best line to focus on when you think of what is KMP contributing to KMI. If you go to the second section, the title, it's called earnings attributable to investments of KMP you'll see for the quarter the pretax earnings obtained from KMP are $98 million to compared to $81.5 million in the quarter a year ago. About 20% growth. And the main thing we're doing here is backing out the minority interest that that's really related to KMR chairs shares that KMI doesn't own. It's $192.5 million compared to 160 million for the six months a yearly, 20.5% growth. Very significant growth coming from our interest in KMP. Actually let me give you a, a little bit better sense of how significant that is.

The total distribution that KMI will receive for its ownership interest in KMP for the second quarter will be $104 million. That number's in the text of the press release. Again, that's $104 million in total distributions of KMI -- that KMI will receive. Is the first quarter that we've been over $100 million, that quarter we were at $99 million. But again to put that in perspective for you. The first year in which the general partner was owned by a public entity was 2000. During that year, full year 2000, the total distributions from KMP to KMI were $150 million. And now, in the second quarter of 2003, two and a half years later, the total distributions in the quarter are $104 million.

That's the kind of growth that KMI gets from its ownership interest in KMP. Moving on to the other segments, NGPL, you'll see a number of $84 million for the quarter and $184 million for the six months. In truth, you should add $4.1 million to both the quarter and the six months. That $4.1 million shows up down below in interest expense met and the benefit down in interest expense but it is actually related to NGPL. We consider it as part of NGPL. If you add that $4 million back NGPL will be right on target for its annual budget. Even without it it's at 49% right now but again where we expect NGPL to end up is exactly in line with its budget including that $4 million.

If you don't add it back it will end up $4 million below and you'll get a $4 million benefit on the interest expense. Hoifer, you want to handle it. TransColorado is up significantly. Again, we didn't buy the other 50% until October of 2002. But it's also delivered 78% of its budget today. Now, we do expect TransColorado to be above budget. But that being said, we think the second half will not be as strong as the first half. And that's because basis differentials in western Colorado have declined since their high levels in the first quarter of this year. And so again, the secretary second half for TransColorado won't be as big as the first half. Similarly with retail, retail has delivered in its $37.8 million, 58% of its budget today. But again we expect retail to only be slightly above its bucket for the full year which means that the secretary second half of the year for retail won't be as large as the first half was.

For power the same thing holds. Power you'll see for the six months it's about $13.7 million. That is 71% of our annual budget of a little over $19 million. We expect power to be on budget which again means that for power the second half won't be as large as the first half. Now, if you sum up the segment earnings, $474 million is over 50% of our annual budget and we expect, again, that those segments will be right on budget for the year. GNA expenses as to KMI are a little bit ahead of last year for the quarter, they're a little bit below last year for the full year. We're actually getting a benefit in legal costs at KMI. At the same time, we have had an increase in benefits costs and that's slightly offsetting that and we expect that increase in benefit cost will persist throughout the year.

Interest expense at KMI, add $4 million to the 31.3 and it's actually 4.1 and you get 35.4 which is actually a better number for interest expense at KMI. Similar, the 71.3, if you add the 4.1 you get 75.3 -- or 75.4, I'm sorry, and that's the better number for interest at KMI. Still down from last year. Which is a function of an average balance that is mostly remained flat and a rate that is slightly below. The average balance is flat because we're actually going the opposite way this year than how we went last year.

Last year the balance grew from the beginning of the year to the middle of the year and this year the balance has declined from the beginning of the year, I said the end of the year, to the end of the six months, it's declined from the beginning of the year to the end of the six months and that's why the average balance is about the same. And again we'll talk about the debt balance a little bit more when we get to the balance sheet. The other line is primarily the commissioner KMR minor minority interest and the trucks payments and the special items again which is in footnote 2.

Income before income taxes is up 25% and 22% for the six months. Income taxes are up as a function of higher income. The effective rate essentially now for the year 2003 is 36. 68%. Now, that is not the number that you get if you just divide income taxes into the income before income taxes and the reason for that is because of the consolidation of KMR. This is an issue which we identified two years ago when KMR went public if you need additional explanation to it feel free to give us a call we'll be happy to walk you through it. Net income up 30% the $94 million up from the $72 million a year ago and the 205 million is up 27. 6% from a year ago.

With that, actually, let me go back to the first page. And again, revenues we don't consider to be overly relevant, they are somewhat a function of gas prices at retail and so again they are up this year as gas prices have resist risen. Similarly gas prices and other cost of sales are up. ONM up slightly, GNA up slightly, TOTI is flat. You get an operating income number which is up but remember the operating income number is before the impact of KNP and so that's not an especially relevant number hereto either you see the impact of KNP below that the equity earnings and investments you see decline that's because TransColorado was in that number in 2003 but it's consolidated now because we own all of it.

Interest expense we discussed minority interest, it's largely KMR and the change history from year to year is KMR but the trucks payments are included in there as well, net other net essentially unchanged takes you down to the net income level which we previously discussed and is up for the 30%. Now, with that I'll go to the KMI balance sheet. And a little bit of a preliminary patchwork statement which you see on the third page behind the KMI press release, should be the last page of the KMI press release.

Starting out on the balance sheet cash is basically unchanged, other current assets down slightly as a result of a reduction in receivables. Investments basically unchanged. PP and E unchanged. Other assets unchanged. You see total assets are down over $150 million. This is a pattern that I think you will continue to see. You will see assets come down, you'll see debt come down. KMI is a unique animal in that it can grow its cash flow while disinvesting.

We're showing that dramatically in the first two quarters of the year. We'll talk about it more. Our cash flow will grow while we pay down debt and while we repurchase shares. Noteable payable is basically commercial paper in the end of the second quarter of $222 million. At the end of the year it was a current maturity. That bond matured in March and was paid out completely with commercial paper and the commercial paper from that date has been reduced. The other current liabilities have been reduced, accounts payable is down and some accrued expenses are down. Other current liabilities unchanged debt I'll talk about in just a minute.

Interest rates swap a function of the for interest rates. The capital securities are the trusts unchanged. Minority interests largely unchanged. Shareholders equity up as a function of net income. Now, looking at the total debt, $3. 03 billion at the end of June compared to $3.32 billion at the end of December. It's a debt reduction of $283 million. In the quarter it's a debt reduction of $122 million. Again, incredible cash generation at KMI. And you can see that in the reduction and debt numbers. The debt to cap has come down from 48% at the end of the year to 44%, significant reduction in debt to capital.

Now, how are we doing that? You see it laid out in the next section for the six months our back of the envelope free cash flow number, which is after sustaining capital expenditures but before dividends and expansion capital is $288 million for the six months. It was $130 million for the quarter. Again, that's compared to our budget of $530 million, I say budget it's actually our revised forecast of $530 million, our original budget was $470 million for cash flow.

One thing I'll point out you'll see sustaining capital expenditures for KMI for the first six months of $33 million. Our budget is $87 million and we expect that we'll end up right around there. Now, so what have we done with the $288 million? Clearly we paid off $283 million of debt. But we also had to pay expansion capital and dividends. So let me run through those items for you. Dividends for the first six months total $37 million.

Expansion capital for the first six months totals $15 million. Now, you add that together with the $283 million reduction in debt and clearly there's some other positive cash flow coming from somewhere. It's a combination of working capital and other items. It totals to $47 million for the first six months. Working capital was actually a use of cash for the first six months. Now, that was primarily the first quarter. In the second quarter it was only an $8 million use of cash but for the six months it's a $64 million use of cash. It has been offset by an inter-company settlement which happened at the beginning of the year, was outstanding at the end of the year, it was quickly resolved at the beginning of the year and that was about $49 million.

A -- that was unwound to maintain our 50% fix, 50% floating ratio that gave us about $28 million and stock issuance which is related to options exercises and employee stock purchase plan of $26 million. And the asset sales, which we mentioned, which while they had only about a penny impact on the earnings per share in truth, again, if you back it out the DD&A would be one penny higher but they produce $9 million in cash, we're very happy to get that cash. You net those things with the $67 million use of cash from working capital, you get $48 million or $47 million which again reconciles between the cash flow of 288, the dividend paid of 37, the expansion capital of 15, the debt paid out of 283, and then that additional source of cash of 47. And that should all reconcile. And that is the balance sheet for KMI and the cash flow for KMI. And with that I'll hand it back to Rich.

Okay, thank you Park. know a lot of you got writer's cramp from writing all those that down. With that as usual, we'll turn to answer any and all questions you may have. Kate, you want to come back on?

Thank you. At this time we're ready to begin the question and answer question. If you'd like to ask a question press star one on the phone. You'll be announced prior to asking your question. To withdraw your question you may press star two. Once again to ask a question, please press star one. One moment. First question, Scott Soler of Morgan Stanley. You may ask your question.

Hi Scott, how are you doing?

Good, Rich, how are you doing?

Thank you, fine.

I just had a couple of question, first off I wanted to -- I know it's a very small number but I was wanting to know in terms of the merit power plant in Arkansas, what if anything have you all done recently have you transferred it to another operator or could you talk about that for a second?

No, we have -- I'd remind you the merit plant in Arkansas is the budget for zero earnings and zero cash flow. We've actually been working on a couple of other -- different restructuring alternatives in conjunction but nothing that we're really prepared to talk about at this time.

Okay thanks Mike, and Park on your cash tax rate at KMI for the next couple of years, could you just give us what roughly your deferred tax is and therefore your cash tax rate will look like over the next couple of years?

Again, we haven't done a detailed forecast of the cash taxes in the next couple of years. I think what you can assume is that the cash taxes will increase in 2004 up marginally from where they are in 2003 as we continue to work off some existing NOLs. And so what I mean by that is we will pay slightly higher cash taxes relative to book taxes in 2004 and 2005.

But our preliminary number, Scott, would show that's more than offset, obviously, by the increased cash generated by the operating unit. So if you look at starting with this $530 million free cash flow figure for 2003, you can expect that to go up rather nicely in '04 and '05 notwithstanding the fact that we will be paying more cash taxes and as we go through the budget process of course we'll lay that out on our Web sites again for you as we did this year and last year at the beginning of next year.

Okay. My last question is regarding the SEC inquiry down at KMP, is there any update on what's going on there, have you'll talked to them recently since receiving that letter a few months back?

I'll let Park answer that.

Happy to. You know, we have at this point answered all of their questions that we are aware of. We have met with them. We've provided them with information. We provided them with additional information following the meeting. We have no indication that they are interested in anything other than what they originally asked about. That doesn't mean that they can't ask additional question and in truth we'd be happy to answer any questions that they have. But other than that, we don't have any update on its status.

Okay, all right, thank you.

Thank you.

David Fleischer of Goldman Sachs, you may ask your question.

David, how are you doing?

David Fleischer Good, Rich, how are you.

Fine.

One other piece I'll ask the SEC question and then a couple others. When was the last communication you had with him w them, was that, you know, shortly after the request or was it much more recent?

Shortly after their request. As we said when we announced the inquiry, we would have a meeting with them, we had that meeting, Park and Joe Listerguard our counsel, outside counsel and our controller all met with them, answered the questions that they had, submitted information that they asked for and that's the last we've heard from them.

Okay. Second question relates to all this recontracting that you've done which is great in terms of, you know, the counterparties and the confidence of [inaudible]. My question is what can you tell us about the terms? It sounds as if maybe the terms haven't changed much but that's really a question. Are you getting any higher rates and what's the visibility to being able to, you know, get those rates up closer to the full rates there?

I would say we haven't seen, you know, certainly on NGPL where we've been discounting the FT, the long haul transportation capacity we've continued to have to discount that capacity but the rates we're receiving and revenues we're getting from these customers are consistent with what we've had in the past. You know, you get a little more out of some and a little less out of others. We're certainly expecting NGPL will continue to grow in the 3 to 5% range that we've laid out for you previously.

And I would say, David, on the Texas intrastates, there we are seeing a slide slight widening of margins for a number of reasons, one of the reasons that of course as gases prices are higher some contracts a few of them on a percentage basis so the percentage widens a bit. So -- and generally we've seen, as the numbers reveal, positive performance coming out of the Texas intrastates.

We've seen great performance there. You talked about, you know, combining that system with yours, the system. Have we seen the bulk of the initial benefit that you hope to get, tail off there but up take there to come?

I think we have upside left. To be Frank about it, I think we shared this with you the last couple of quarters. When we got into the system as sometimes happens it was more difficult to put together than we thought it was going to be and of course when we bought it and put it together we also were facing a situation where we had a number of the purchase power contracts, potential merchant power contracts that wanted contracts for gas supply that we simply weren't willing to give the credit that they needed to get them so those two things together I think took us a little time to get some traction. So I think we're doing a lot better with it now and I think you can continue to see some upside out of that. And again, very nice performance this quarter and through the next six months.

My last question I want to ask you is on the $23 hedge price little over $23 you indicated that since the market is backward dated I presume you've got a fair bit better than that price for the balance of this year and next year I'd love to get what you can give us on that and the 50% out on the '05, 6, 7, 50% plus there of the volumes really is the question is of what volumes, should I presume in one of those years that you're at that 50,000 potential that you'd talked about before, is that -- is that, you know, the number that you're working off of?

No, the way we work off the volumes, I think it's a very conservative way, and then I'll let Park give you the exact numbers on these hedges to the extent we have it. The way we work off the volumes is obviously Tim Bradley and his team come back to the board on a regular basis with their capital expenditures. And what we assume is that all those capital expenditures are spent. We have a track for what we expect to get in terms of production out of those cap expenditures and that's what we use for the volumes and then we hedge in it in accordance with our standard, you know, in other words we're right where we ought to be 90% for the first 12 months and then at least 80%, so on and so forth. That's where we are with regard to hedging. We try not to get ahead of it. On the other hand, we don't -- we're not behind the curve either. And I think that's -- anything you want to add to that, Tim?

I think the approved projects forecast is a little bit over 50% and the total potential planned projects might be -- I think over 40%. And so --.

And that's part of the reason why there's a little bit of variance in the numbers and why what I provided in some cases was a range or an approximate number.

Right.

And it ranges depending upon which denominator that you use. In response to your question first question on price, I mean, that is true if we were to hedge all of our volumes today, then, you know, in the early dates we would get higher prices than in the outdates. But, I mean, again, think about our hedge profile. The hedges that we're putting on now are for, you know, late '04, '05, '06, '07, '08 and that was true two years ago. And so in truth you don't see a large change, which is the way we want it, you don't see a large change in our weighted average hedge price because as we go throughout time, we are layering our hedges and most of the volume, you know, most of the hedges that we're layering on are for out months rather than near months because the near months, because the near months are already hedged.

Thank you.

Next question?

Yves Siegel of Wachovia Securities, you may ask your question.

Hi, Yves, how are you, she even got the name right.

Lucky day.

So easy when it was first union go ahead.

I have a couple, to follow up on David's one the fact that the production volumes out of sack rock are above expectations, are the hedges just based on the original budget or as you're going forward are you updating your expectations?

We update our expectations as we go forward.

Okay, thank you. And then could you give an update on what you're seeing in the Rocky Mountains as it pertains to, you know, with Kern river up, with El Paso has a project proposal, number one, how's that impacting TransColorado, and how may that impact the expansion projects that you're looking at? And then if you could also quantify, perhaps, what the -- what portion of the contracts are based on the basis differential and what's the impact of the basis narrowing as much as it has?

Okay. That's a multifaceted question. Let me start with the overview which is as I think most of you know, one of the few bright lights in terms of rapidly growing natural gas production in the lower 48 is the Rocky Mountains. I think the basis differentials were absurd late last year and early this year. In some cases the spread between giant hub and RCIG and mid continent was 3 or $4 and certainly was averaging well above a dollar, dollar and a half or better for a long period of time.

People thought that that basis differential would largely collapse when Kern came in to play on May 1st. In fact, it has narrowed but has not collapsed and starting first with the northern Rockies, the basis differential between the Cheyenne hub and the mid continent today and it varies somewhat but it's still running 50 to 75 cents and when you think about the average tariff on our trailblazer line, for example, is probably 11 or 12 cents running to a high on any line connecting the two of 25 or 30 cents, probably. there's certainly still a lot of value on transportation capacity going from Wyoming to the mid continent up.

That's what Mike was referring to when he said every day we have any -- might or trailblazer it's immediately sucked up by producers or others who want that capacity. The project you're referring to -- Plaines, El Paso CICIG project would address some of that, so would our advantage project. As you know, the state of Wyoming, for example, has created an authority the Wyoming pipeline authority funding up to a billion dollars they say to encourage more pipeline capacity coming out of the Rockies. So I don't think we're through with the building of capacity. I'm certainly hopeful that we will be owned some of that additional capacity coming out of the Rockies.

Say anymore right now probably is the wrong thing to do. So I'll just say that we think we will own more capacity coming out of the northern Rockies. Now, specifically with TransColorado, it's a bit of a different story. There, the basis differential does vary, it has gone down. Mike just add a little bit to what park said, he's absolutely right that we will see a little less profit at TransColorado in the second half because of that narrowing basis differential but in fact the basis differential narrowed in the second quarter too.

So the real differentiation if you look at the four quarters in 2003 is between the first quarter when the basis differential was wide and the second, third and fourth quarters where it has narrowed but TransColorado, Yves, has a little different mechanic to it because there's very little capacity coming out of there. TransColorado is today, I'm not say someone else couldn't build something but we certainly have the advantage, it's the only way to get that additional production down out of TransColorado and move it whether you want to backhoe it in into Texas physically move it to Texas for that matter or move it west to California, it's about the only straw coming out of that area. It kind has its own unique set of circumstances. Demand seems to be very good. We have a relatively small portion of our contracts that are -- that are tied to that basis differential. I don't have a percentage number, Deb is not in the room but --.

I think it's 75 a day on phase two.

Maybe 75 out of 300. That's a ballpark. Would be subject to the some variation on basis differential. A lot of it is max tariffs and some of it's not. But about 75 million of it is basis differential. I think the impact that you've seen you largely saw in the second quarter. As Mike said we are completely sold out on that long haul capacity, well into 2004. And I think as part of the expansion we will probably cue up all that capacity for longer periods of time. We have a lot of it that goes until '08 anyway but we feel very good that there's just high demand regardless of the basis differential, you just physically have to get the production out of western Colorado. There are a lot of rigs working there, a lot of players in there and several different producing platforms that seem to be doing very well.

And to get at the question a slightly different way and this gets to the point Rich made about the second quarter, I mean, the total potential deterioration from the index based contracts from where we were in the second quarter is maybe 10 to 20%. And so it's not a -- it's not a significant amount.

Just a follow-up and I won't outstay my welcome. Generically, Rich, when you look at perhaps going to JVs, what's the thought process in terms of being a partner rather than an operator so does that become just -- strategically, what do you get out of a partner other than perhaps -- if you're not operating is it just a good financial transaction. Can you just expand on what your thoughts are there?

I think its unlikely we would be involved in something where we want the operator, I would never say never but, we think one of our strengths is in operations -- among other things and we I guess with the exception that we're crossing an NGO line where BP operates -- there's very little in our whole network that we don't operate ourselves. I think it's unlikely we wouldn't operator JV, I wouldn't say impossible but unlikely.

Thanks a lot.

Uh-huh.

John Woodbury. You may ask your question.

Hey, John, how are you doing?

Thorough and stunning. Any thoughts on your -- your cash flow for this year and possibly any thoughts for next year? Looks like you paid off an awful lot of debt?

Talking about use of cash flow?

Yes.

Yeah, and we've been pretty upfront with that, again, some basic numbers, we're saying that under the definition of free cash flow, and as park took you through in detail we actually did a at least that 530, probably better than that, up to 470 and budget. We have raise the distribution, excuse me raised the dividend of course as you know so we will be distributing in dividends for the remaining quarters of the year, our total dividends will be 1.20 times 120 so about (indiscernible) to quarters. Yeah, the next two quarters. $100 million total. We have paid down $283 million in debt. Either pay down more debt or buy back shares and it is our intention to buy back some shares before the year is out, we may do that this quarter, I mean, the third quarter or the fourth quarter. As I think park said we bought back virtually nothing year-to-date, a couple million dollars of KMI shares. We do want to buy some shares in secret and we think it's a good use of capital. But we also want to increase our dividend and we would look to continue to increase that dividend and continue to pay down debt. But purchase fewer shares than we would otherwise have done largely because it's very advantageous now from a tax basis to pay this cash out in dividends.

But KMI, saying the board today, this is really a unique animal. It is a very interesting company to generate this much cash flow with so little need for capital reinvestment and yet still regrow the earnings and cash. And those of you who follow this company closely know why that is and how it works. But it's -- the results are absolutely amazing. And so we think we're going to be able to continue to maintain a very strong balance sheet, continue to raise the dividend and continue to buy back shares and that's the way we will uses -- use these proceeds, both this year and beyond.

I mean, just to put those numbers around it, you know, it's about $240 million remaining that we expect to generate, $100 million of that goes to the dividend, $50 million goes to expansion capital because again our budget's about 65. We spent about 15 so far. That leaves you about 90. We do expect that we will repurchase shares and so the debt reduction in the second half of the year will be smaller than what it was in the first half of the year.

Any thoughts in sort of ballpark area about how much more debt you'd like to pay off over the next couple of years?

Yeah, I think that we will continue to -- to whittle the debt balance down and there will be a balance between, you know, debt reduction, difficult dividends paid and share repurchase. And we will work with all constituencies and that includes the rating agencies to ensure that everyone is comfortable with how we make that balance.

Terrific, thanks again.

Thank you.

Ron Bundy (ph) of AJ Edwards, you may ask your question.

Hey Ron, how you doing?

Fine Rich, how are you?

Fine.

One of the other things that happened I guess in the second quarter I believe was the ALJ judge decision on grand fathering the rates on Salphine (ph) and the Pacific area. Could you give us some more insight into that and maybe put it into context?

Sure. Absolutely, you know, I think we've been talking about that just about every quarter now for, I don't know, five or six quarters. And obviously, as I've said before in this forum and elsewhere, if people say what's the biggest issues with this company, I say look, KMI and KMP operator over 30,000 miles of pipeline. More than 50 percent of that is regulated, and therefore you have to be prepared to live with regulation, and regulation has its own set of risks and rewards. And we have specifically buttoned hole this, both orally and in our K's and Q's.

What we had was an ALJ decision, which is the first decision ever to un-grandfather a products or crudeoil pipeline, since the Energy Policy Act was enacted in 1992. The real issue, and it is not binding of course, it's a recommendation that goes to the full group now. The briefs aren't even do yet. It will go to the FERK (ph) and in addition, this examiner or ALJ has fipercated the proceedings into a Phase II where he will look at assuming the FERK (ph) would uphold him on un-grand fathering, what would the reparations be and how much should future rates be reduced.

So there's all kinds of possibilities for ships crossing in the night, as he get his Phase II in before the FERK (ph) makes a decision on Phase I. Did they remand him, you know, what happens, and then beyond that, probably either side of the issue, probably appeals to DC Circuit.

It's a pretty important case to the industry. As we've said to give you perspective on in Ron (ph), worst case, if we lost every single issue and let me say, that would be flabbergasting to use as a matter of precedent. I'll come back to that in a minute, but if we lost every issue at the full FERK (ph) and the DC Circuit Court of Appeals upheld every bit of it, the ongoing hit, including the ongoing cost of paying the reparations would be about 15 cents per unit in terms of lost distribution.

So to put it in perspective, even in a worst-case environment, we would not expect to ever have to reduce the distributions to KMP, but it might have some impact on our growth rate out in 2005 or 2006.

That's the first point.

Now let me talk about timing. That's somewhat of an unknown, but given that it's fibercated, that the FERK (ph) has to decide first on is it appropriate to un-grandfather, and if part of it should be un-grand fathered, what do they do with the judges, the ALJ's recommendations on how much the reparations are. We would guess it'd be late '04, early '05, before we get any decision whatsoever out of the FERK (ph) on that issue.

And that's the only time at which it goes into effect, up until that time it has no binding effect.

So it's a period of time out in front of us.

Let me also say to put it in perspective, that again, the issue revolves around what amounts to substantial change. We believe that the act was very clear on its face that Congress intended that you only look at these, you don't do a rate case every year or every five years to look at whether or not there was substantial change. There has to be a tremendous differentiation in how the pipeline operates before you get substantial change. In this particular case, in one instance, the ALJ found that the throughput had increased compounded over several years by 14 percent and he found that to be a substantial change. If that's the case, probably most of our pipelines in the country have substantial change.

So this is inconsistent with what the full commission said in our prior rate case where it said substantial change defined in much stronger terms.

But again, we'll just have to see where they come out. But I hope that puts it in context. It is a serious event for the industry I think, the AOPL (ph) is filing an amices brief with us, I think and they certainly opined on it in their newsletter. So it is of concern to industry. On the other hand, it's certainly a manageable issue and we would not expect it to be nearly as bad as the worst case, but even the worst case, it's a containable issue for us in terms of the impact it would have on cash flow at KMP.

My other question would be you made an inference that other owners that (inaudible) reduced deliveries to their customers, resulting in decrease of five percent on Co2 volumes. Can you give us a little flavor on that?

Yes, I think you can just say that of course, our partner there is largely servicing the dome floods and since it is the world's biggest oil company, I guess it can decide to do whatever it wants to do, but it's entirely with how it's, we don't know Ron (ph). We're not privy, all we're privy to is the bonds. We're the operator of course of the (inaudible) complex as well as the pipeline. But for whatever reasons, they've slowed down some of their floods, it may be just that they're drilling some more injection wells, we don't know what the reason is, but they're buy ups both of these first two quarters have been down. I would expect that over some period of time, they come back, but again, that's beyond our control. Our volumes are up very nicely.

And you also alternate water injection with Co2 injections. So it could just be that they had in a number of their floods a period in which they're injecting water rather than Co2, so it may just be a timing issue, although again, you know, we don't know for sure.

The important thing is that no financial impact on us. It does affect reported volumes through Cortez in Macelmo (ph).

OK, thank you.

Next question.

John Edwards (ph) of Deutsche Bank, you may ask your question.

Hi John, how are you doing?

Oh, good how are you Rich?

Fine.

Just a couple questions. On the, you know, as you guys, maybe this is for Mike (ph), as you guys renew the pipelines, renew your customer contracts on the pipelines, I assume you're still pretty significantly below your maximum tariff rate, and so, you know, as far as any kind of regulatory risks there, you know, with low interest rates, you're not seeing any, you're seeing significant resistance for customers, you're not seeing any rumblings of having to adjust tariffs as a result of, you know, being in a sustained low interest environment.

No, you know, again, we're in a relatively small rate case right now on Trailblazer, and I think you really have to go pipeline by pipeline as you kind of look at whether we're discounting or not, you know, typically on Trailblazer where its tariff is 12 cents and you've got a $2 basis differential at times across there, you are charging max tariffs, similarly on KMIGT, as I mentioned on NGPL (ph), we have discounted for quite some time the firm throughout, the long haul capacity, and you know, so that's kind of what it is. Again, NGPL's (ph) last rate case was in the mid 90's. There was a big global settlement and the only active rate case we have is Trailblazer, and anything else would really require a section five by the customers. We're certainly heard no rumblings of anything along that line.

NGPL (ph) has no obligation to ever file another rate case of course. And we're not at max tariffs, and certainly I think the other thing that you have to consider and frankly I think this, I would think be a strategic consideration in looking at the SFPP (ph) products pipeline case too. The FERK (ph) is on record both the chairman and most recently Nora Brown-Ell (ph) at the INGA Conference (ph) as saying their key priority is going to be the development of infrastructure. The one number thrown around by somebody was $50 billion in needed infrastructure of the pipelines in this country over the next 20 or 25 years.

It was 10 years, I think it was thrown out there by ...

By Commissioner Brown-Ell (ph).

David Socal (ph) ?

Yes, at any rate, with those kind of numbers being bantered about, you know, I think it would surprise me if the commission were to do anything that interfered with rate certainty on the pipelines. I mean, I think the last thing in the world this industry needs or this country needs is to have people not building new infrastructure, because of an uncertain regulatory environment, and I have faith that people think rationally, and I'm hopeful and believe that's what's going to happen.

But if you go through, as Mike (ph) said, you'd have to go through pipeline by pipeline, but you take the whole Texas intrastate, they have no rate regulation as a practical matter. They're regulated for safety standpoints. The contracts have to be filed with the Texas Railroad Commission, but it's obviously a very competitive market, so there's no issues on max tariffs there.

So the real regulatory right now is really more competition and at least it remains that way, and you're customers are pretty much signing up as similar rates?

Yes, I think that's right.

For the rollovers?

Yeah, that's right, John. If you look at the Chicago market, we have certain advantages, other pipelines have certain advantages. We have tremendous advantage in the fact that we have a spaghetti like network that interconnects with our LBC customers and some of our industrial customers that the other two pipelines don't have. On the other hand they have access to Canadian gas directly. Now, we can backhaul some of it, but we don't have this direct access to Canadian gas.

And then, you know, on Sackrock (ph) park you're alluding to the, Rich, you were talking about, you're continuing to invest in that segment so that your production levels are rising pretty rapidly here. Could you remind us, what your target production level now for the end of this year and, you're up to 20,000 barrels a day or I guess 21,000 barrels a day, and what are you trying to get to by the end of this year -- ?

Our budget showed that we would average 20,000 barrels for the year so that would, and we started at about 17,000, so you would think you would be up at about 23,000 by the end of the year, in fact we're running a little ahead of that. As you can see, the first quarter we averaged 17,000 and then we averaged about 19,600 the second quarter, so we are well on target to be in the mid 20's by the end of the year. We're going up about a thousand barrels a month, not quite, but on that order.

Okay, so now, the hedging part that you were referring to, when you say, let's say the numbers you threw out there were 90% hedge for this year, 80% for 2004, 50-60% for 2005, is that contemplate the additional 1,000 barrels a month?

Yes it does, John. It contemplates everything that, I forgot the exact phrase Tim used but, approved plan volumes, in other words the board has approved all of this years expenditures and that planned volume would take you out to certain out several years. Those volumes, it's kind of like building a layer cake. As we approve more expenditures as things continue to go well, that number keeps coming up. And once we approve that, we assume it's going to be spent and that the results projected are going to happen. Now, you know, I will just say, and probably will be very careful about not getting too carried away with anything, let me just say that all the results of Sackrock (ph) at least as positive as we originally think, and we continue to get more positive results. Some of you follow CO2 closely know that one way of measuring impact of CO2 floods is what percentage of the OOIP, the original oil in place do you recover? And depending on the formation and all kinds of various characteristics of that formation, that can be anywhere from a low of 8, 9 or 10% to a high of 14 or 15%. We originally ran our numbers based on 11% recovery ratio. And we've just been told now within the last week that that number looks like it's going to be more like 12% now. Now that's based on a lot of geology, but if you work it through, that's given the oil in place quantities at Sackrock (ph) it works out to be another 14 or 15 million barrels recovered over the course of the life of the productions. So, everything seems to be showing with the wells we drill that are CO2 floods are doing very well.

Okay, and then, a question on the NGPL results. In the press release your segment earnings were up slightly year over year. But, you had this lateral expansion that came on the third quarter of 2002. So, on an organic basis then would it in fact be slightly down year over year? Did I (inaudible) about that incorrectly?

Yeah, because of, as Park said, you need to add back this 4.1 million to both the 184 and the 84. So, year to date, it really ought to be 188.5 versus 179 and change a year ago, and quarter to date, it really ought to be 88.5 versus about 84.

Okay.

And the difference is down in interest on it.

Okay, so the way it's reported there, for the previous year you did not have that interest number but this year you do so you just back out that interest number. Is that correct?

Yeah, I mean it's just an item because we haven't moved things previously from the interest line into the segment than it shows up in that line.

Okay, okay, great. And then lastly is on trans-Colorado. This is kind of a follow up to what Ives (ph) was asking about. On the base differential, then when current rivers (ph) I guess this other proposed prospect (ph) from El Paso comes on, when the base differentials go down, so in this effect, I think what you were saying about 20% of volume on trans-Colorado. So does that mean for that 20%, I guess the $75 out of $300 million or so, does the tariff you receive, does it go to zero, can it go negative, is there a floor?

No, it can't go negative, and there's a floor in every one. I think the simple way that the $41 (inaudible) fall off in the slump here, is I think you can take the second quarter and pretty well, I'm sorry?

It's slightly less than the second quarter's (inaudible) rate probably.

Again, the maximum deterioration from the second quarter will be about 10 to 20%.

It was 7.3 in the first, it was 5.2 in the second, and it can be a little worse than it was in the second.

The 7.3, 5.2, so the worst it's going to be, the most we're looking at it is maybe it goes to something like 4.5.

That's a good average.

And then the fourth quarter, obviously the volumes come back up because of the weather, et cetera.

No, the volume, trans-Colorado is sold out, end of 2004. Everyone needs to realize that. It's not a volume issue.

I'm sorry; it's just the way it's priced, because of that basis differential piece, right?

That's right, I think what driving at is that $75 million a day roughly, the basis differential might widen, it might not. But even if it didn't widen at all, we would be at that range that Park (ph) was talking about.

Okay, so the floor to think about would be kind of 4.5 and then on the upside we're looking again at perhaps up to 7 or so?

Yeah, the third quarter is a.....

Yeah, that's a reasonable measure there.

Okay, I just wanted to make sure I understood that.

A little confusing, I know.

Yeah, it's not as transparent, well, thanks a lot. Anything else I have I'll take off on. Great quarter.

All right, next question?

Once again, to ask a question please press star 1.

Sounds like we've worn it out, it's quarter after six in the east and people are ready to head out. As always if you have any additional questions feel free to call us on a one off basis. We appreciate your time and we think we had a great quarter and we look forward to more of the same. Thank you