桑普拉能源 (SRE) 2004 Q4 法說會逐字稿

Good afternoon. My name is Matisha (ph) and I will be your conference facilitator today. At this time I would like to welcome everyone to the Sempra Energy fourth quarter 2004 results conference call.

[Operator Instructions].

Thank you Mr. Arriola, you may begin your conference.

Thank you. Good afternoon and thanks for joining us to discuss Sempra Energy's year-end 2004 and fourth quarter financial results. A live webcast of this teleconference and slide presentation is available at www.sempra.com under our investor section.

With us today from the company are several members of our management team, including Stephen Baum, Chairman and Chief Executive Officer, Don Felsinger, President and Chief Operating Officer, Neal Schmale, Executive Vice President and Chief Financial Officer, Ed Guiles, our Group President of Sempra Utilities, Mark Snell, our Group President of Sempra Global and Frank Ault, our Senior Vice President and Controller of Sempra Energy.

Slide 2, contains our Safe Harbor Statement. I would like to remind you that this call contains forward-looking statements that are not historical fact and constitute forward-looking statements within the meaning of the Private Securities Reform Act of 1995.

Forward-looking statement are not guarantees of performance. They involve risks and uncertainties and assumptions. Future results may differ materially from those expressed in the forward-looking statement. These risks, uncertainties, and assumptions are described at the bottom of today's press release and are further discussed in the company's reports filed with the Securities and Exchange Commission.

In addition, some of the financial information that we will be discussing today may contain non-GAAP financial measures. In those cases, we will reconcile those financial measures to the most directly comparable GAAP figures. With that I would now like to turn the call over to Steve, who will begin with slide 3.

Thanks Dennis and thanks to all of you on the call for joining us today. Earlier this morning we reported 2004 net income of $895 million or $3.83 per diluted share. That is up 38% over 2003 net income of 649 million or $3.03 per diluted share. The significant improvement in net income was driven by strong results in our commodities and generation businesses.

For the fourth quarter 2004, Sempra Energy earnings were 346 million or $1.46 per diluted share, up 48% over the 234 million or $1.03 per diluted share for the same time in 2003. Earnings per share in 2004 were affected by a greater number of shares outstanding. The weighted average number of diluted shares outstanding in 2004 was 234 million compared with 214 million in 2003.

Now let's turn to slide 4 and go into a little bit more detail on each of the major business segments, beginning with the California utilities. The Sempra Energy Utilities reported 2004 net income of 440 million, compared to 543 million in 2003.

Net income for Southern California Gas Company or SoCalGas increased to 232 million in 2004 from 209 million in 2003. Due primarily to lower operating expenses, the favorable settlement of its rate case with the California Public Utilities Commission, or the CPUC, and a onetime gain from a property sale partially offset by litigation expenses. Fourth quarter 2004 net income for SoCalGas was 58 million versus 61 million in the year earlier period.

Net income for San Diego Gas and Electric or SDG&E in 2004 was 208 million compared with 334 million in 2003. SDG&E's net income was 68 million in the fourth quarter of 2004 compared with 128 million in the same quarter of 2003. In the fourth quarter 2004, SDG&E benefited from the settlement of its rate case at CPUC. The 2003 results for SDG&E included a $79 million gain recorded in the fourth quarter for favorable resolution of tax issues and a 65 million after-tax gain recorded in the third quarter from a contract settlement with the CPUC.

Now let me address the status of a few regulatory and legal proceedings, starting with the cost of service, on slide 5. In December 2004, the CPUC approved the first phase of the Sempra Utilities cost of service rate cases. Phase I one established the capital and operating plans for each of the utilities. Changes in rates resulting from the cost of service proceeding were retroactive to January 1, 2004. Phase II of the cost of service covers annual inflation adjustments, revenue sharing and performance incentives for the years 2005 to 2007. An all party settlement was reached on most of the Phase II issues in July 2004.

On February 15, the administrative law judge or ALJ assigned to the case issued a proposed decision. On the same day the assigned commissioner issued an alternate decision, which approved the all party settlement. Both decisions established performance based measures at both SDG&E and SoCalGas for customer service, safety and reliability with reward and penalty potentials of approximately $20 million annually combined. There were slight differences in the proposed mechanisms to adjust rates going forward. The ALJs proposed decision would also require a review of the utilities cost of capital. We expect a final decision from the CPUC in the next two months.

In December, another important regulatory issue was addressed by the CPUC. We're pleased that CPUC voted down the administrative law judges proposed decision in the investigation into Southern California natural gas market and the price of natural gas delivered to the California Arizona border between March 2000 and May 2001. At this point, it is unclear what further steps if any the CPUC may take in this investigation.

The company believes that CPUC ultimately will reaffirm that Sempra's California utilities acted in the best interest of their core customers and that none of the Sempra Energy companies were responsible for the gas price spikes. The CPUC office of rate payer advocates have filed testimony supporting the gas cost and incentive mechanism and the actions of SoCalGas during this period.

Also in December, the CPUC approved SDG&E's updated 10 year electric resource plan, covering energy efficiency, contractor power, demand response, qualifying facilities, renewable generation, and distributed generation. In approving the plan, the CPUC adopts SDG&E proposal for cost recovery related to utility owned generation. The CPUC previously approved the addition of local generation and transmission facilities including the Palomar plant under the energy reliability plan. The total investment for this previously approved project is approximately 700 million and will be invested through 2007.

Now I would like to spend a moment on the status of the California energy crisis litigation. Our companies and employees have acted legally and ethically and the allegations made by the plaintiffs in these cases are false. These lawsuits are without merit. We are engaged in discussions to resolve our energy crisis litigation on a satisfactory basis. This is primarily a risk management exercise. If we can achieve a reasonable resolution, we shall do so. Meanwhile we're prepared to vigorously defend this legislation and remain confident that we will prevail should this matter goes to trial.

The judge assigned to the Continental Forge class-action case has set June 3 to begin hearing pretrial motions and has established September 2 as a trial date. I will not be answering questions that revolve around litigation strategy or the potential for any settlement. On our website, we provide investors with additional information surrounding the litigation, including answers to frequently asked questions and material filings in the case. We will continue to update the web site with relevant information.

Please turn to slide 6. In 2004, net income for Sempra Commodities, formerly called Sempra Energy Trading, more than doubled to 320 million from 157 million in 2003, due to improved performance in all of its key commodity segments worldwide, including natural gas, petroleum, and base metals. Fourth quarter 2004 net income for Sempra Commodities increase to 137 million from 73 million the year earlier period. Primarily on the strength of trading and natural gas and power both in the US and Europe.

We are extremely pleased with our performance in the commodities unit. This year's results continue to demonstrate that our low-risk business model with a focus on short dated contracts and physical customer transaction provide shareholders with higher returns on invested capital. In addition, we were able to capitalize on a favorable market conditions and generate a significant amount of earnings from transactions using exchanges as counter parties.

For the year Sempra commodities set a return in excess of 20% on based on average capital of approximately $1.5 billion, using net assets at the beginning and end of the year. The value of risk, or VaR for the year averaged 7.9 million, compared with 6.5 million for 2003. Based on the nature of the business we did last year, we expect commodities to generate in excess of 300 million in cash flow over the next 12 to 18 months. This continues to be very profitable business line for our company.

Now please turn to slide 7. Net income for Sempra Generation, formerly called Sempra Energy Resources, rose to 137 million in 2004 from 71 million in the previous year, due primarily to a full year of contributions from the company's new generating assets on the Pacific Southwest as well as power plants required in Texas. Sempra Generation's fourth quarter net income was 19 million in 2004 compared with 32 million in 2003.

The decrease is primarily related to increased litigation reserves and an unscheduled power plant outage at Mesquite in Arizona. The Mesquite plant now is fully operational. Sempra Generation portfolio of active generation now totals over 3,600 megawatts. Approximately 80% of the capacity is under contract through 2007, providing stable earnings and cash flow into the future.

Now let's turn to slide 8 to cover our other businesses, starting with pipelines and storage, which was formerly Sempra Energy International. Pipelines and storage recorded net income of 63 million in 2004, up from 3 million in 2003. Results for 2003 include an impairment charge of 50 million in the third quarter. In 2004, Sempra pipelines and storage also benefited from a $5 million gain from reducing its ownership in Luz del Sur, a Peruvian utility to 38% from 44%.

For the fourth quarter net income for Sempra pipelines and storage increased to 28 million in 2004 from 10 million in 2003 due primarily to favorable resolution of foreign tax issues. We're pleased with results and prospects for Sempra Energy-- excuse me, Sempra pipelines and storage. The Latin American transportation and distribution operations are performing well.

The company is also developing two new storage facilities in Louisiana that will complement our LNG activities in the Gulf Coast. Last week the company held an open season for the Port Arthur pipeline project. In the open season, prospective shippers have an opportunity to indicate their interest for capacity and delivery points on the on the pipeline. Results of the open season will be evaluated and potential shippers contacted regarding the projects specifics in May.

Sempra Financial reported 2004 net income of 36 million compared with 41 million in 2003. The decrease is due primarily to the sale of its section 29 tax credit business in July.

Net losses for parents and others in 2004 were 68 million compared with 118 million in 2003. 2003 results include an asset write-down of 21 million related to the discontinued business Atlantic Electric and Gas. 2004 results benefited from the favorable impact of income-tax issues.

Sempra Energy's effective tax rate for 2004 was 17%. The tax rate is below of what we estimated earlier this year due to increased earnings coming from lower tax rate jurisdictions in Sempra commodities, a reduction in Mexican and state tax accruals, and the resolution of tax issues in the utilities cost of service.

Please turn to slide 9 for an update on our LNG business. For 2004, Sempra LNG recorded a net loss of 8 million related to ongoing investment compared with a 2 million loss in 2003. The last month Sempra LNG awarded the engineering and construction contracts for its Energia Costa Azul and Cameron LNG receipt terminals in Baja, California Mexico and Louisiana respectively. Construction has commenced on the Energia Costa Azul terminal, which is expected to be operational in 2008.

Also, last month Sempra LNG was awarded a 15 year natural gas contract to supply Mexico's state-owned electric utility, Comision Federal de Electricidad. On January 27, Sempra LNG announced its has signed Heads of Agreement or HOA to provide Tractebel LNG North America with up to one-third of the capacity of the Cameron LNG receive terminal for a period of 20 years beginning in 2008. The HOA contemplates finalizing a definitive agreement by June 30, 2005. Additional supply capacity agreements involving Cameron LNG have been or are being negotiated. We expect to begin construction later this year and the facility to be operational in 2008.

Finally, I want to discuss our prospects for the remainder of the year on slide 10. Today we updated our 2005 earnings per share guidance to $3.10 to $3.30 from previous guidance of $3 to $3.20. The increase is primarily based on improved clarity of utility earnings. The EPS guidance assumes an average of approximately 250 million diluted shares. The share increase is primarily due to the conversion of the equity units in May 2005.

The company's estimated 2005 capital budget is approximately 1.6 billion, including 900 million for the California utility plant improvements and 300 million for the development of LNG regasification terminals. We will provide additional details on our guidance including estimated net income and capital expenditures by business unit at our upcoming analyst's conference on March 8 in New York City.

I also want to touch briefly on our announced yesterday by the board of directors to increase our dividend by 16%. This decision was based on both the solid state of our business today and our confidence in our future investments. Before increasing the dividend, we outlined several conditions that had to be met.

First we wanted certainty that the cost of service of Utilities was adequately resolved. Next, we wanted our Costa Azul LNG facility fully contracted and confidence that our Cameron facility was on path for the same. We also wanted to be comfortable that our existing businesses could generate sufficient cash flow in the future to meet our capital expenditure plans.

Lastly, we wanted to discuss these plans with the credit rating agencies so we could maintain our strong investment-grade credit rating. I am pleased that we've been able to achieve all of these objectives. The dividend increase and our expected driven growth rate of 3% to 4% annually will allow the company to increase cash return to shareholders on the short term while continuing to invest necessary capital for our identified long-term growth.

2004 was a record year for Sempra Energy. I am very proud of our results. All of our businesses and employees contributed to this success, and we look forward to sharing our future plans with you at our analyst's conference on March 8 in New York. Now I'll open the call for questions.

[Operator Instructions].

Your first question comes from Anatol Feygin with Banc of America Securities.

Good afternoon. Thank you for your time. A couple quick questions. Steve, you mentioned increased visibility, increased clarity of utility earnings. Without stealing too much thunder from the March 8 meeting, can you give us some idea of what buckets this will manifest itself in?

Let me ask Frank Ault, Ed Guiles to deal with that and maybe start with Frank and then Ed why don't you add to whatever you like.

The key thing is we really have settled the cost of service from phase I, which allows us to know exactly how we're going to account for the pensions and other expenses and cost recovery we're going to get on that except for what the operating expense levels are going to be. We now have decisions on our cost service phase II that -- while one or two minor differences mostly they resolve issues there but we have more clarity about where we're headed. So I think those are the things that we're really commenting on at this point.

This is Ed. The other thing I would like to add, in both the judges draft decision as well as Commissioner Brown's alternate, proved our all party settlement and it does show performance based rate making initiatives in both decisions. It is around $21.9 million. It is that both utilities. These are the areas of reliability, customer service, customer satisfaction. So we are encouraged by the fact that the commission is continuing to endorse PBR initiatives.

Are there pending PBR's that you guys are counting on receiving in 2005?

Anatol, we have got right now just under $100 million of pent-up PBR rewards. The bulk of that is in the energy efficiency or demand side management area. We have filed an all party settlement for the DSM peace. That would play out over a three-year period. That is before the commission to be considered. We expect approval of that in the next couple months. That is pretax, by the way.

From that, is it safe to say about one- third of that is included in your '05 thoughts?

Yes a little bit. Between third and a half.

We will give you, Anatol at the analyst conference; we will give segment detail on all of this.

Great, thanks Steve. The 900 million in CapEx at the utilities, does that include Palomar, the spend on Palomar?

Yes. Hold it. Just a minute.

The CapEx for Palomar is being spent right now at the generation business unit that is doing the construction. When it is complete with the construction, it will be transferred to the utility -- will pay the generation, that is an inter company thing. We have not included that in the 900.

Steve I would just add. Anatol that includes this year we have got a combustion turbine at Ramco units going into service in June. So that includes about 45 million for that facility as well as our FERC related transmission expenditures.

Let me clarify that. The 1.2 billion of CapEx that's outlined on page 10, Frank are you saying that that does not include the capital that will be spent on Palomar?

That is correct, this is Neal. The $900 million that we refer to is for the utilities exclusive of Palomar. There is about $300 million in LNG and then the balance that takes us up to 1.6 billion includes the money that is currently being spent at Palomar, which is shown in the resources division. That capital will eventually show up in the utilities in 2006 when the transfer occurs.

Understood. Can you give us a sense for what your thoughts are on tax rates for '05 and going forward?

This is Frank. Right now the plan we have put together would have a tax rate around 30%. As always we have open litigation issues with both the federal and state authorities as well as foreign authorities, and those things have successfully -- results could change that a little bit maybe slightly lower but right now the plan is about 30%.

Great. Last question, maybe Steve if you could just expand on the thinking around the dividend increase. Why 16%? Why 3% to 4% growth rate? And perhaps as you look 3 to 4 years down the road, is there a view as to a pay out ratio as a percentage of utility earnings or how do you approach the dividend once Sempra reaches a steady state?

This is kind of balancing act that we do. We have an identified capital program that we have outlined to you. And we want to be sure to carry that out. That is the strategic direction of the company. I think the board was also interested in the fact that we were probably on the low end of the spectrum in terms of dividend pay out ratio and yields. We could afford, given the conditions that I outlined in my prepared remarks, to increase the dividend within that structure.

And so we did. But there's no -- I would not say there is a hard and fast formula with respect to it. I would just point out that we kind of straddled the fence. We're not really a utility company pure and simple. So you shouldn't expect us to pay dividends just like the average of utility sector.

On the other hand we do have large utilities and it is our belief that many of our investors, many of them, would like to have greater cash returns on an annual basis and to invest in Sempra on that basis. And so it was kind of a compromised position. Now we're very confident in the future of our earnings. And so we are able to project that 3 to 5% increase in this dividend, which would be consistent -- or 3 to 4 -- which would be consistent with our expected growth in earnings and consistent with our capital plan.

Thanks very much for your time. Look forward to seeing you on March 8.

Your next question is from Paul Patterson with Glenrock Associates.

Good afternoon and morning. How are you?

Fine.

First of all, just wanted to get a better idea about the litigation reserve and the Mesquite outage. What was that amount?

Frank, why don't you talk about reserves.

Right now for the year 2004, in totality, we had about $84 million net income from reserves that we've put in place at a number of different business units related to primarily litigation around the California Energy crisis back in 2000, 2001. And those affect both of the utilities, the generation unit as well as the commodity unit. In total, right now we have legal reserves, these are all pretax of about $250 million, the bulk of which, about 240 are related to the energy crisis litigation. That is where we stand numberwise right now.

Okay. Is that 250 million you have been reserves associated with the California energy crisis?

240 on the California related issues. And there's a few other minor ones we have reserves for that are related to that. So it's about 250 in total.

Okay. And it increased in the fourth quarter?

It increased a couple times during the year as we assessed different pieces of the litigation. The largest single part of the year was in the fourth quarter when we put about 65 million on the books on an after-tax basis.

Okay, after tax. And what about the Mesquite outage. How much was that?

The Mesquite outage was I believe about 5 million. I will clarify that very quickly for you.

Okay. And then just looking at the cash flow statement, first of all, I guess on the income statement, the depreciation has gone down. That has to do with the utility and regulatory situation there. But just elaborate a little bit about what exactly is driving down the different elements. What is driving the different elements of depreciation?

I think one of the things that is a little bit unusual when you look at the income statement in this regard to, the depreciation is down a fair bit in the fourth quarter. If you were to look for the full year, what you would see a little different situation. Depreciation was up just slightly. And the reason that you have the abnormality was really related to the cost of service. It was really a balancing and between the revenue and the depreciation.

So that was kind of an unusual thing in the fourth quarter. I think the proper way to look at depreciation basically is that on a 12-month basis you get a normal run rate of little over $600 million. And we would anticipate that continuing at about that level next year. As there's no major facility is coming into service in 2005.

Okay. So it's totally associated with the utility, the cost of service. There's nothing else is going on there? Is that right?

That is correct.

Okay. And then finally when we look at the cash flow statement, the net changes in working capital components and the changes in other assets and other liabilities, what is happening there and what do you expect to happen in 2005?

When you look at the State of Cash flows, and Neal could add a little bit more around that, but the working capital requirements increased. That was largely due to the increased activity we had at our commodities business. That was probably the largest single item there. Neal, I don’t know if you want to say anything.

A little over 300 million was at the commodities unit. That explains the bulk of that number.

Sure.

And the change in the other assets, that was from a couple of things. One the utility's cost of service, there was a mechanism set up for certain costs that had been expensed before could be recovered. That increased the regulatory assets we have. That of course had no cash flow impact. So that is one piece of that. We also had deposited some margin related to our generation business. That was the other item that really caused the increase in the other asset piece of the working cash.

Your next question comes from Steven Valentis (ph) with Talent Capital. Please limit yourself to one question.

I have a follow-up to the Paul’s question, previously. So that the 300 million change in working capital that was due to trading, you're going to see that reversed in the next 12 to 18 months and that is where that 300 million of cash flow that you are saying will show up?

Yes.

Okay. In the back, Table E of your release, you talked about the net unrealized revenues in the next 12-months at $750 million. Well what I want to know is, for 2004, the $1 billion or so of trading margin, what was the associated cash generation and what can we expect from that 750 that you have locked down?

Well, on the 750 million that we show there on Table E, that is the cash we anticipate coming in over the next 12 months from the existing positions that we have today. This could go up or down a little bit as the (indiscernible) changes before we settle. The difference between that and the 300 million, is we obviously anticipate doing some new business next year that we will be putting money back into the business.

And just to be clear, the 300 is based on revenue that you realized in 2004 and the 750 are revenues you expect to realize in 2005?

No, the 300 million was cash that we put into the business to allow them to do the transactions and activity at the level that they did last year. The 750 is cash that we would anticipate to come in in 2005 based on the positions that were in existence at the end of the year. And we would anticipate putting some additional money into the business to do new transactions so that the net would be about 300 million or so coming back into Sempra, the parent.

There are a lot of moving parts when you talk about the total cash flow in the trading business. And including things like the amount of margin that we post, the amount of margin that we get in and a lot of other things, so you cannot answer a question about the total cash flow of the trading business simply by reference to the unrealized margins.

But also I think you will get a little more clarity are around this discussion when you see what our anticipated earnings are going to be by business segment and anticipated earnings for commodities, which is the other piece of the puzzle.

But going on a little bit on the unrealized margins, even though you cannot explain and reconcile the total picture around cash flow, simply by looking at the unrealized margins, you can see that that of course will be a significant source of positive cash flow going forward.

In theory if we were to shut the business down and not do any more transactions, all of that $754 million would flow on next year. But that is not the case. You have to hear our discussion about what we anticipate the business will be in 2005 and then Judge the expected cash flow is based on that.

Your next question comes from Margaret Jones with ABN AMRO.

My questions have been largely answered. But just to clarify on the 300 million and a 750 million. Is there a figure that you provide, and I am sorry if it is right here, for ongoing investments in the commodity business? Or what was the investment in the business at the beginning of 2004? And where I was going with this was just trying to understand how much money has been invested.

Neal Schmale will talk to this issue.

This number moves a little bit. As we indicated in the presentation, we had on average about 1.5 billion invested in the trading company this year. And that is a combination of equity and debt that the trading company owes both intercompany and third party. Now the reason the trading company had an increase in working capital and used that $300 million that we talked about earlier is because the earnings grew so much.

Remember, the earnings grew in excess of $300 million. And in that situation as it has done in the past, the trading business will generate cash flow. Generally, we do not think that long-term this business is going to generate $300 million a year. We expect that $300 million will come back. Over time your expectation should be that trading company's cash flow will be roughly equal to the earnings from that business, assuming that the earnings are stable.

Or another way is when the earnings go up, it generally consumes cash. And then as flatten or decline, it throws off cash.

Your next question comes from Stacy Saul with WH Reaves & Company.

Hi, guys. Thank you for the dividend. Appreciate it. I thought one of the reasons was you guys were sick of arguing with me about it. I will ask some real questions. What was the amount of the utility property sale of the gas utility?

This is Frank Ault. They had a sale in the third quarter of Southern California Gas Company. That had a positive effect on the bottom line of $9 million.

That was after tax?

After-tax, 9 million.

Okay. And then also can you give us more clarity on the international tax issue that was settled in the fourth quarter?

It's interesting because you noticed when we talked about that -- that was not part of the explanation for the earnings for the year. And what we had was a situation where we had the tax issues in South America and took a charge in the earlier part of the year and then had some other tax issues that went favorably for us in the fourth quarter, which is the one we highlighted when we were talking about the fourth quarter. Those issues settled around a few things down in Mexico. The statutory tax rate decreased in Mexico going forward which meant the deferred taxes that we would have to pay in the future were reduced because that obligation will be lower.

But they also have an adjustment for taxes paid in the future taking into consideration on the NOLs, the tax rates there. So there is a number things that worked in our favor in the fourth quarter. So we had some positive things there. We had some things earlier in the year that went against us. So it was kind of neutral for the year, but definitely had a positive effect for the fourth quarter.

Okay. And for future dividend increases, February will be the board meeting where it would be revised?

Well, not necessarily. That is normally the start of the year when we might look at those things. I must say that I want to refer you back to the considerations that I outlined in my prepared remarks. You know had we been able to resolve those issues concerning the Costa Azul contract, concerning the rating agencies, concerning the cost of service earlier, we might have raised the dividend earlier. So, there's no particular magic in February. But I mean other than it's sort of the beginning of the year.

Okay and then also I wonder if you could comment, now on something we have to look forward to at the Analyst conference. But you guys have always talked about looking at acquisitions or asset purchases in all the different business lines that you have. Does that continue?

We continue to look. I don't know maybe Mark Snell you would like to comment on that. But we have nothing to announce at this time.

That's right. We have nothing to announce. But we do continue to look at interesting opportunities and we take advantage of those when we see something that makes sense.

Thank you. See you guys in a couple of weeks.

Right.

Remarkable.

Yeah. Thank you Stephen.

Your next question comes from Mark Kalinowski (ph) with Citigroup.

Good morning. I have a question about the earnings at the commodities business. Is it fair to say that the fourth quarter kind of came as a surprise to you? If that is the case, why was that a surprise? Was there a new trading book geared up more than you thought it would be? I'm trying to get a sense of how this huge upside happened in the fourth quarter and not really coming out with it until just a couple weeks ago.

I would like Mark Snell to address that. I mean -- let me just give a little background though. And that is I mean it should be obvious to all that we had significant volatility in commodity prices in the fourth quarter of the year. And but having said -- there are two conditions, high prices and volatility. And those are contributors to normally our trading company doing well but Mark why don't you.

Well, Mark there were a couple of things that happened in the fourth quarter. As Steve alluded to we did have some unusual volatility in the gas markets, which we took advantage of. But you I think for the most part, as we came into the quarter and gave guidance early on we were you know throughout the year we had been making you know roughly $750,000 a day in the trading business on average. And we were trending up to about $1 million a day. And we gave our guidance based on that trend.

As it turned out we earned about $2.5 million a day for the fourth quarter for every trading day. And as a result, you know it was primarily due to this excess volatility and taking advantage of those opportunities almost exclusively in the gas market, although we had very good electric trading business in the fourth quarter also. And I think as we look to the future you know we will continue to take advantage of opportunities like that that we see but it's but it’s not always easy to predict ahead of time when those situations will occur.

Well, did that mean I mean for example if you have volatility was there, but had you been on the wrong side you could have easily lost a $100 million for the quarter. What guidelines or safeguards are in place to ensure that does not happen?

Well, there are a couple of things that are in place. One we adhere to fairly strict VaR limits on all of our books. And as you can see in the fourth quarter while our VaR increased because of the increase in volatility, it certainly wasn't out of control. The $11 million kind of VaR that we had the fourth quarter was extremely conservative given what was going on in the market. And two you know we have relatively hard stop losses on most of our major books. And so from that perspective, if we are in a position where we're losing money, we will liquidate a position if need be.

We have fairly good controls on that. And you know one thing that I want to point out too while we take advantage -- we primarily take advantage of locational differences and timing differences. And therefore, we don't have large open positions. I mean we may have a short position in the current month and a long position in the following month. Those are the kind of timing differences that we take advantage of or we may have the locational differences where we own pipeline capacity between to trading points. We're not taking large open positions un-hedged. We will either hedge them in the forward markets or we will hedge them locationally.

[Operator Instructions].

Your next question comes from Michael Goldenberg with Luminous Management.

Good morning guys.

Good morning.

Hey, I wanted to understand a little bit about trading. It seems that 2005 guidance is up largely due to improved earnings in utility rather than trading. Without getting too much into your conference next week, can you give us a sense about how you look at trading long-term growth as you generally have this kind of five year look out forward? And I was wondering if your outlook for potential profitability on trading or potential size of the trading business has changed at all and I mean that has got larger.

Yeah, let me -- let me -- I have talked to this point on probably on every call that we have. But let me start by saying that we can give you a lot more guidance at our conference. You'll see specific targets by year out through the period that we're going to discuss. And I had said previously you know over couple of years that I thought the trading companies run rate, I don't know was in the 120 to 130 kind of a baseline on an annual basis. I think that's grown a little bit because the other side of it was that we would allow trading's use of capital to that exposure to grow with Sempra now, Sempra is growing.

And so we are revising upward that baseline to some degree. But $320 million year that we saw in 2004 would not be the normal expectation. So, what I think it's kind of a --- to put a sort of a general categorization on it, I mean if we're running a 1.5 billion, between a 1.2 billion and a 1.5 billion in capital in the business and we would expect returns in the high teens to low 20s on that. I mean you are going to generate on average you know in the high 100-- 200, I guess, or 200 of earning.

And but it will vary year-to-year. You will have a good year like this year under extraordinary volatility and price conditions. We had an extraordinary metals year in the first part of the year in which there was considerable backwardation. That doesn't occur every year. And then so the run rate will be considerably less than the 320, but you will get these pop ups from time to time. Well, Mark I don't if you want to add anything.

The only thing that I would add is that you know in our trading business, we have sort of a rock solid customer business that underlines our base projections. And that's what we tend to look at. And as we have continued to grow the business in base metals you know and other commodities, and as we continue to grow the business geographically, that base core customer business grows with it. And so you know we have a more optimistic ongoing run rate now than we did a couple of years ago. But it's not. It doesn't allow us to predict the kind of $300 million year that we have this year.

Well, I would add. We're not increasing the VaR limit particularly. I mean we have run a fairly steady VaR; it might be up maybe on average a 1 million or so. But that is a major constraint, which defines our imbalances, our open positions in effect. And I have said over the years that I think that while VaR does not measure necessarily all the risks in a business by any means because you have credit risk and other risks, it does generally give you a sense of how much exposure one has, how much imbalance in one's position one has and we are keeping that fairly conservative. And that's not just driven by Sempra management. That's driven by the nature of the business that the traders run. And that has been very, very consistent right from 1997 when we acquired that business.

Okay. That's all fair and understood. Just I guess to summarize, since Sempra has grown faster I guess a little than expected some months ago, the trading business will be growing a little faster also and the whole pie will be growing a little faster than originally expected?

A little bit. But I mean, I again I would invite you to come to the conference and wallow in the detail of that.

Your next question is from Brian Chin with Smith Barney.

Hi, congratulations on a nice quarter.

Thank you.

Congratulations on a nice quarter. Just very briefly on the other income in the fourth quarter. Can you touch on why that ramped up a little bit and is that the ongoing run rate you would expect?

Other income, I'm sorry?

Yeah, other income on the consolidated income statement.

That's it.

And that's all, you have answered all my other questions.

Go ahead Frank.

On the other income, assuming you're saying you're looking under operating revenues other?

I am actually looking at other income, the 46 million underneath the operating income?

That is the earnings from our non-consolidated subsidiaries. And that increase reflects partially that we have Coleto Creek on board with a 50% ownership that we did not have last year. We will also our LCL (ph) power plant and Eldorado power plant on a 50/50 ownership as well as investments in South America.

Right. Thank you.

Your next question comes from Zev Halstuch (ph) with Alliance Capital.

Hi. Good morning.

Hi.

Steve, should we take your free cash your comments earlier about the decision process to go into dividends that you expect to cover free cash flow neutral and really cover all the CapEx with internally generated cash?

Well, I mean it's going to Neal would comment on this. But you know we have variances year-to-year. I mean what's from the dividend perspective, what I and the board looked and what management recommended was a longer-term view. We looked at the capital budget out through generally the horizon of the projects we have identified. We took a look at our unidentified capital availability and what we might expend that Capital on in terms of acquisition or other matters. And we thought there was enough free board in those plans and in our expected earnings and cash flows to pay the dividend that we get. But go ahead Neal.

But we will give you more detail on this in early March. But generally the answer to your question is yes, the capital spending tends to look like the cash flow from operations generally before changes in working capital because the working capital go up and down. The effect of all this as you look over for example the next five years is the credit statistics get better because the cash flow is improving the amount of retained earnings and the equity is improving. So, we can spend capital roughly equal to cash from operations and still cover the dividend and maybe let the debt grow a little bit but still improve the overall credit picture.

And I would to add to this. There is no intention here to finance any of the existing identified program and certainly not the dividend with the issuance of equity. And we have -- in fact we are in the process of going to away from the original issue for our plans and going to market purchases and so forth to sort of slow the growth of our number of shares outstanding. So, all of these things are the product of an improving debt to total cap structure. And improving cash flow and as the businesses continue to flourish, I mean we will continue to take a look at this issue.

Okay.

At this time there are no further questions. Mr. Arriola do you have any closing remarks?

I would just like to thank everyone for joining us today. We look forward to seeing many of you on March 8 in New York where we will have our annual analyst's conference. And if you have any follow-up questions you can give Karen, Glenn or myself a call. We will be around today. Thanks a lot.

This concludes today's Sempra Energy fourth quarter 2004 results conference call. You may now disconnect.