桑普拉能源 (SRE) 2006 Q3 法說會逐字稿

Good afternoon. My name is Marcus and I will be your conference operator today. At this time, I would like to welcome everyone to the Sempra Energy third quarter earnings results conference call. [OPERATOR INSTRUCTIONS]

Mr. Martin, you may begin your conference.

Thank you. Good afternoon. I'm Jeff Martin, Sempra's Vice President of investor relations, and I would like to thank you for joining us to discuss Sempra's third quarter 2006 financial results. A live webcast of this teleconference and slide presentation is available on our website under the investor section. With us today are several members of our management team: Don Felsinger, Chairman and Chief Executive Officer; Neil Schmale, President and Chief Operating Officer; Mark Snell, Executive Vice President and Chief Financial Officer; Debby Reed, President and CEO of Sempra Utilities; and Joe Householder, Senior Vice President and controller.

You'll note that slide 2 contains our Safe Harbor statement. I would like to remind you that this call contains forward-looking statements that are not historical facts and constitutes forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not guarantees of performance. They involve risk, uncertainties, and assumptions. Future results may differ materially from those expressed in the forward-looking statements. These risks and uncertainties and assumptions are described at the bottom of today's press release, and are further discussed in the Company's reported filed with the Securities and Exchange Commission. Some of the financial information we'll be discussing today contain non-GAAP financial measures. In those cases, we'll reconcile those financial measures to the most directly comparable GAAP figures, and the reconciliations will be attached as appendices to our slide presentation. In addition, all the earnings per share amounts in our presentation today are shown on a diluted basis.

With that, I'd now like to turn it over to Don, who will begin with slide 3.

Thanks, Jeff, and thanks to all of you on the call for joining us today. ,By now you've seen our earnings release so you know how pleased I am with our performance. 2006 is shaping up to be another great year for Sempra. Earlier this morning, we reported third quarter 2006 net income of $653 million, or $2.49 per share, compared with net income of $221 million or $0.86 per share in the same period last year. Income from continuing operations was $543 million, which included $211 million from the sale of our remaining Texas power plants. Excluding the impact of these asset sales, third quarter 2006 net income from continuing operations was $332 million, or $1.27 per share. For the nine -- for the first nine months of 2006, Sempra Energy's earnings were $1.28 -- or $1.2 billion or $4.92 per share, compared with $565 million or $2.26 per share during the same period in 2005. Excluding the sale of the Texas power plants, nine-month income from continuing operations in 2006 increased 36% to $758 billion or $2.91 per share. Based on our strong year-to-date performance, I'm pleased to announce that we're raising our guidance to a range of $3.50 to $3.70 -- $0.70 per share, which excludes the gain on asset sales. Our previous guidance was $3.40 to $3.60 per share. Clearly 2006 is on track to be another record year for Sempra Energy.

For an analysis of our comparable earnings, let's look at slide 4. After eliminating unusual items, our comparable third quarter net income was $292 million or $1.11 per share versus comparable net income of $269 million or $1.05 per share for the same period last year. For the first nine months of 2006, our comparable earnings were up 28% to $710 million or $2.72 per share.

Now let's go to slide 5, and I'll provide more detail on each of our major business segments beginning with our Sempra Utilities. Our Sempra utilities recorded third quarter 2006 net income of $131 million, compared with $138 in the third quarter of 2005. Net income for Sempra Utilities for the first nine months of 2006 was $350 million compared with $353 million in the first nine months of 2005. Net income for San Diego Gas & Electric in the third quarter of 2006 was $70 million, compared with $102 million in the third quarter 2005. Third quarter 2006 results included $13 million in benefits from favorable regulatory matters. In the third quarter 2005, SDG&E benefited from three unusual items totaling $39 million. Excluding these unusual items, the change in earnings is due primarily to higher income tax expense, partially offset by the addition of the Palomar Energy Center, which was placed in service in the second quarter of this year, and higher authorized revenue from the [inaudible] nuclear generating station.

At Southern California Gas, third quarter net income rose to $61 million from $36 million in the same period last year. Third quarter 2005 results included $53 million for increased litigation reserves, offset by $18 million for the resolution of prior year's income tax issues. Comparable earnings for the third quarter were impacted by higher income tax expense, partially offset by improved margins. For the nine months ended September 30, 2006, SoCalGas reported $168 million compared to a net income of $163 million last year. Results for the nine months 2005, included an increase in litigation reserves, offset by a favorable resolution of tax issues. Comparable earnings of $166 million for the first nine months of 2006 reflect higher income tax expense of $24 million.

Now let's go to slide 6 and review the results of our commodities business. Third quarter 2006 income for Sempra Commodities was $105 million compared with $61 mil -- $161 million for the year-earlier period. In the third quarter, we had strong results from our North America natural gas business and our European metals business. North American and European power also produced robust results in this period, while margins in the petroleum marketing business were lower. The third quarter of 2005 benefited from a $38 million gain on the sale of natural gas storage assets. Sempra Commodities synthetic fuel tax credits contributed $24 million in net income in the first nine months of 2006. Based on current oil prices, we now expect a net income contribution of approximately $30 million for the full year.

Commodities' third quarter 2006 mark-to-market earnings were $86 million compared with $153 million in the year-ago period. Sempra Commodities earned $325 million in mark-to-market earnings in the first nine months of 2006, compared with $282 million for the same period in 2005. Commodities excellent results continue the positive trend we have seen over the last several quarters and represent Commodities 31st consecutive quarter of profitability. Based on the strong GAAP results of $290 million through the third quarter, we expect Sempra Commodities to be at the upper end or exceed the earnings guidance we provided in March, of $250 to $350 million. This business has demonstrated an ability to produce great financial results in volatile markets, and we see nothing on the near-term horizon that will change current volatility, particularly in the natural gas market. It's our belief that these market conditions will not be diminishing until major new natural gas infrastructure is developed.

Let's move on to slide 7 to cover Sempra Generation. Third quarter net income for our Generation business was $265 million in 2006 compared with $24 million in 2005. Earnings for the quarter benefited from the $211 million gain on the sale of our Topaz power plant in Texas, which closed in July. Because Topaz is a joint venture, accounting rules require the sale to be recorded as continuing operations. Our other 2006 asset sales had been recorded as discontinued operations. Excluding the impact of the asset sales, earnings for the quarter were $54 million, up from $24 million for the same period last year. This is due primarily to a $19 million mark-to-market loss in the third quarter of 2005 and lower development costs in the third quarter 2006. And to assist you in understanding the accounting impact of these asset sales, we provided additional details in the appendix to this presentation.

Moving to slide 8, let's go over Pipelines and Storage. For the third quarter 2006, Sempra Pipelines and Storage reported net income of $19 million, unchanged with 2005 results. Earlier in the year, Pipelines and Storage reported a $9 million benefit related to the favorable resolution of prior year's income tax issues. Let me give you an update on our Rockies Express pipeline project with Kender Morgan and Conoco-Phillips. This project continues to benefit from a first-mover advantage. Not only is the pipeline fully contracted, but we have locked in all the pricing for our pipe and compression equipment, which is very important because it mitigates our exposure to rising construction material costs. Moreover, our permitting and construction remains on target. The Rockies Express pipeline is an important pipeline and we're excited about the additional opportunities it can present to Sempra in the future.

In the third quarter, Sempra Pipelines and Storage and our 25% partner, ProLiance Transportation of Storage, announced they acquired three existing salt caverns representing ten to 12 billion cubic feet of potential storage capacity, and more than 150 acres of property in Cameron Parish, Louisiana. Once developed, this property would ultimately become an extension of our Liberty Gas Storage facility, and on a combined basis, represents about 27 billion cubic feet of natural gas storage in the gulf region, which is a key market for our natural gas strategy.

Now let's go to slide 9 for an update on our LNG business. For the third quarter 2006, Sempra LNG recorded a net loss of $13 million compared with a net loss of $5 million in the third quarter of 2005. We're making good progress on both our Energia Costa Azul and Cameron, Louisiana, LNG projects. Both are under construction and on schedule for completion in 2008. Similar to Rockies Express, our LNG projects benefit from the first-mover advantage. The delay in construction of liquefaction projects worldwide reinforces our strategy to substantially contract our facilities prior to beginning construction. We believe the long-term supply/demand fundamentals still remain intact.

Now to slide 10. Slide 10 provides a summary of our business unit results, and I'd like to focus on the parent and other line towards the bottom of the page. In the third quarter, parent and other had net income of $36 million compared with a net loss of $121 million in 2005. The improved results were related to a $38 million favorable resolution of a state income tax matter in 2006 and other income tax adjustments. The third quarter of 2005 included a $90 million litigation reserve relating to the California energy crisis.

Now I'd like to sum up our results on slide 11. By any measure you apply to our performance, we had a very strong third quarter. We successfully executed on our asset sales, receiving significantly more proceeds than originally anticipated. At the end of the quarter, we had $1.5 billion in cash and over $6 billion of available credit lines to support our businesses. As of September 30, 2006, debt-to-capital improved to 43% from 48% at year end, giving us added balance sheet strength to support our $10 billion capital plan. Moreover, our year-to-date earnings from continuing operations grew even at significantly higher tax rates as compared with prior periods. Earnings in the first nine months of 2006 reflect a tax rate of 33% versus a negative tax rate for the same period last year. Another key metric we focus on, earnings before interest, taxes, amortization and depreciation, or EBITDA was up approximately 28% in the first nine months of 2006 compared with the same period in 2005. These adjusted EBITDA numbers exclude the gain on the Topaz power plant, the 2005 increase in litigation reserves, and the sale of Blue Water Storage, and this is all shown on slide 14. Based on these strong results, we have increased our 2006 earnings guidance to a range of $3.50 to $3.70 per share. This guidance excludes asset sales, which when included causes our reported results to be significantly higher. By all accounts, the first nine months of 2006 were one of the most successful periods in the history of Sempra Energy, and I couldn't be more proud of our results and our employees.

Now with that, let me open up the call to questions.

Thank you. [OPERATOR INSTRUCTIONS] Your first question comes from Sam Brothwell with Wachovia.

Hi, good morning.

Morning, Sam.

Just a couple of quick ones. When do you anticipate updating your '07 guidance? I mean, I know you have your view out there from the analyst meeting, but when do you plan to issue formal '07 guidance?

Let me give this to Mark.

We'll update our '07 guidance on our fourth quarter call, it's in February.

Okay. As we look at your -- obviously things have gone very well through '06 and you now have '06 gui -- your '07 view is equivalent to your '06 guidance. Are there any factors we should be thinking about that might affect -- that you've seen in '06 that might affect '07?

Well, again, we think that we've had strong commodity results and we think that the volatility in that business will continue through -- for the time being, so you can take a look at that.. But we won't be doing a business unit by business unit break down until '07 -- excuse me, until February of '07.

Until first quarter, okay. And Don, if I may, on the last call there was some discussion about you considering bringing in a financial partner or a strategic partner for Commodities. Is your thinking on that evolved any further?

Well, Sam, as I said before, the problem we have is one of success. This business has performed very well. It's very strategic to us, and it continues to grow, there's a point in time when, in fact, it get bigger than what Sempra could deal with. So we have been thinking about strategic partners. The good news here is that we have time, but, yes, we continue to think about that.

Okay. Thank you very much.

Thank you.

Your next question comes from Paul Patterson with Glenrock Associates.

Hi, how you doing?

Good morning -- good afternoon.

Just on the utility, the favorable regulatory outcome. What was that again? I wasn't clear when you went over the numbers what -- it seems like -- it says SDG&E benefited from a favorable regulatory outcome. I was wondering what that was or how much that was?

Let me give this to Debby Reed.

This is Debby, Paul. I would refer to the slide 5, and when you look at the $27 million that was for 2005, that was related to a settlement with the APSIID, the first settlement. And then this year we had a $13 million positive settlement of resolution of prior year cost recovery issues relating to CPC regulatory issues.

Okay, I see. And so it goes from minus 27 to minus 13?

Well, they were positive settlements for us, but when you true up the earnings year-to-year, then you take them out for the true-up. So both of those were positive events.

Okay. And I guess on the generation business, you said lower project development and operating costs and -- how much was that? Was that about $10 million or something? What was causing that, I guess?

I don't know if we provided a number, but let's see if we can find one here.

I just took the delta between the mark-to-market and the sale of the generation and that's how I came up with that number. It may not be the actual number, though.

This is Mark. Among other costs, the project development cost and some additional interest income, both of those add to about $11 million.

Okay. And then finally, the tax impact that you mentioned at corporate and other, could you elaborate a little bit more on that and what caused that and how that will be treated going forward?

Let me have Joe Householder answer this.

Hi. There were a different elements here. In the third quarter last year, there were about $18 million of benefits from consolidating tax entries. And in the current quarter, we had the $38 million benefit from the state tax settlement that Don mentioned and also $27 million from consolidating tax entries. These consolidating tax entries are two different things. One related to the combined state tax expense versus what the individual segments reported, their tax expense. And then the second part is the required accounting rules around effective tax rate and those turn around by year end. But, quarter-to-quarter, we have these benefits included.

How much will be reversing by the end of the year?

About 15 of the 27.

Okay. And then the rest of it is sort of an unusual kind of item; is that right?

No, it's an annual benefit that we have at the parent Company of having lower state taxes than the segments themselves record.

And it just shows up in the quarter is that -- understanding that correct?

Pieces of it show up in each quarter.

So that should be happening going forward, correct?

Yes.

Okay. Thanks a lot.

Your next question comes from Faisel Khan with Citigroup.

Hi, it's Faisel. Good afternoon.

Good afternoon, Faisel.

When I look back at guidance for trading, long-term guidance of $200 to $300 million, if I look at the volatility of gas, oil, and power prices today in the market, is it fair to say that that guidance is based on a lower level of volatility in the market?

I'll let Mark answer this.

I think -- it's hard for us to always predict the volatility going forward and we can kind of do that on a quarter-to-quarter basis.

Sure.

But generally speaking, level of activity is higher than what we had originally anticipated a year ago. We'll continue to look at this and we'll think about what we think it will be in '07 and beyond, and we'll probably up -- we'll update to '07 in February and the rest of the numbers in March.

Right. I'm just trying to figure out if there was a level of volatility that was assumed in that guidance?

Well, certainly our performance to date is better than we anticipated at the beginning of the year and we attribute most of that to increased volatility.

Fair enough. If I look at the product lines on gas, power, and I guess metals, metals you seem to have done very well in the quarter. Starting on the power side of the equation, you've had pretty steady margins in that business over the last three quarters. Can you give us a little more flavor of what's going on in that part of the segment?

Well, I think what you can really conclude is that the power business has recovered from the energy crisis. That business dropped way off after the energy crisis. We were effectively not doing much trading on the west and around the country it had really dampened. And then in the last couple of years, we've seen a real return to active trading in the power business. We're seeing more activity around tolling arrangements with plants. And we're seeing a lot of customer activity in the business, all of which brings -- increases liquidity and makes for a more active trading market.

Okay, and on the metal's side, the big number you reported this quarter, what will happened there?

Neil?

Well, the metals business early on in the year did not benefit from some positions that they had. A few months ago, they just started going back to basics in this business and chipping away at this a little bit at a time and they've done very, veer well.

Okay. And if I look at the tenor of your book, the trading book, it looks like about over the next 24 months 75% of your book gets realized. If I go back in time, it used to be a little bit more short dated. Are you finding that because there's liquidity -- little more liquidity out of the markets farther out in time, that's giving you opportunities to make some customer transactions?

I would just echo a couple of things. One, Mark's comment about the electricity business. But more than importantly than that, you have to remember that this table that shows the net unrealized revenue is the net and does not reflect the entire book. It's the time when the profits that are currently booked come due and, of course, the state of the book can vary a lot and you can have little things going on over the end of a particular time frame and so forth. So what I would say is the basic way that we do business in the trading Company has not changed with respect to the timing of transactions.

Okay, fair enough. Don, I think you mentioned that there's been some delays in liquefaction coming online worldwide. And I think I understand some of the projects out in the Pacific and the Pacific Rim that have been delayed, but are you also seeing delays in other parts of the world, including the Middle East and Nigeria? Are those also projects that could be delayed farther?

We spent time in the last month just looking at all the projects around the world. And I think what we've concluded is that these are very big, costly projects. There are a lot of different partners involved. There are a lot of politics involved, and so they are taking longer than I think most of us anticipated. Longer term, we're still very bullish about the impact that LNG will have, not only in North America, but in Europe and Asia. We see these delays as just being natural occurrences of projects of this size and scope with this many people involved and with the politics involved.

And any update on a binding -- on binding contracts for Costa Azul as that negotiation continues to go on?

We have a lot of active discussions going on with multiple partners and we feel very good about where we are.

Okay.

And I would just go back to what Neil said about our metals business. When you look at Q3 last year to this quarter, we just had a lousy quarter this year. We were not happy with it and our metals traders weren't happy with it, so we just had a much better -- much better quarter.

Okay. And on the utilities side, if I look at your operating income X one-time items in that table that you guys provide, it seems to me that both SoCal and SDG&E X litigation expense did better. And I think I understand some of the SDG&E expense from Palomar. But just trying to figure out what going on with SoCalGas that they seemed to do better than last year?

If you look at SoCalGas on a year-to-year basis, we have an impact of $24 million of incremental tax there that's driving the differential on a year-to-date basis, in addition to what you're seeing on table 5 -- on slide 5. $21 million of that is actually hitting us in the third quarter of this year. That's the key differences that are occurring on the SoCalGas are that are in addition to what's in the table here.

I was actually talking about above the line -- above the operating income line. So if I look at SoCalGas above the line, it looks like it did better this quarter than last year. I'm just trying to figure out what are the moving parts that would cause a shorter -- as shorter quarter than to be higher than last year?

Well, the key changes that are occurring at SoCalGas is -- I mean, we've had -- if you look at operating revenues, the operating revenues have been impacted by gas prices. If you're looking at that -- I'm sorry, I thought you were looking at the income statement piece. But there are higher operating revenues as a result of higher commodity prices and higher sales. We had higher sales during the first part of the year. And litigation expense was down. If you -- again, going to slide 5, it shows last year we had an impact from litigation expense of $39 million -- excuse me, $18 million -- $53 million at SoCalGas, $53 million.

[OPERATOR INSTRUCTIONS] Your next question comes from Mike Sim with A.J. Edwards.

Thanks. Do, I want to take you back to your comments you made about being excited about additional opportunities related to Rockies Express. I guess I'm wondering, is that a reference to a fourth leg with the project, or is that meant to be a more general comment about other opportunities? And if it is more general, could you elaborate on whether -- what your interest are in terms of storage or other pipeline opportunities along the general track?

Well, Mike, I think -- it's two things. One is, I talked about our first-mover advantage. There were several projects that wanted to take out of the Rockies. We got there first. Those other projects have fallen by the wayside. The fact that we are fully subscribed for 1.8 b's a day, it gives us the opportunity now to look at expansion of that pipe, look at storage opportunities, and then look at the ability to take that pipe further to the east. It's mainly having this anchor asset that we can build around.

Okay. All right, thank you. That's my only question.

Your next question comes from Neil Choi with [inaudible] Capital.

Hi, good morning. I was wondering -- you mentioned the $38 million state tax settlement benefit that you booked in the quarter, is that embedded in the $1.11 comparable earnings you talked about for the quarter? And is that also included in guidance for the year, or has that been adjusted out?

Let me ask Mark to take this.

It is. Our guidance for the quarter is focused on our normal earnings excluding the asset sales. So we're excluding the asset sales from discontinued ops and excluding the asset sales from continuing operations.

Okay. So that's $31 million that you lift out separately in terms of the things you're stripping out is unusual? That's something --

It's unusual, but it's in our guidance.

Okay. Okay, thanks.

Your next question comes from Zack Schreiber from Duesquene Capital.

Hi, it's Zack Schreiber from Duesquene Capital Management. Congratulations on the quarter.

Thanks, Zack.

Just a question -- I got on the call a little bit late -- just a question about your comments on exploring different strategic alternatives for the Commodity business. Can you just elaborate on that a little bit more? Are you talking about a joint venture, are you talking about a sale? It's been such an integral part of this Company's success going back to the California energy crisis, and I'm mot sure why you would want to change it. Is its growth constrained right now? Is it a balance sheet issue? What are the things you could do differently with this business if it were somehow reconfigured and would you still maintain participation in this business?

Let me go back and repeat what I said earlier, Zack. This business is strategic for us. That's the reason we're in and that's the reason we've stayed in it for the past eight or nine years. Other people have been moving in and out. The business is very successful, as you can see from the results we've been posting for the last eight years. And if it keeps on the same growth curve that it's on, there'll be a point in time when it'll become more difficult for us to, in fact, fund its working capital needs. That's not the case today and it's not going to be the case for several years. So as we think out beyond this near-term horizon and look out 2008, '09 and beyond, there could be a time when we would need a strategic partner to let this business grow at the rate it could grow. That's what we think about it. As we look at this, it's not to exit the business, it's not to sell the business, but how we could allow it to have unfettered growth in the next decade.

And from a -- is this something that's sort of half baked with you folks, or is it fully baked? I mean, you're actively, actively exploring or something you're just planting with us as something we ought to think about and consider over a longer term time line?

Look at our position. We have one of the most successful commodity trading business in the industry. People know that and those people who would like to be in this business come and talk to us. We have the luxury of picking and choosing the type of partner we would like to be associated with. And I'll leave it at that.

Okay. Is the growth today currently constrained?

Not at all. As I mentioned, we're sitting here with over $1 billion in cash, $6 billion of credit line and we see no constraints on this business at its current growth rate for the next several years.

And what are the kinds of thinks that you think this business could do over the longer term that having a partner -- a strategic partner would allow you to do that you think, ultimately, you may not be able to do on your own?

As I look at the business, we have a great presence, a strong presence in North America. We're the largest gas marketer outside the integrated oils here in the states. What I'd like to see this business do is to have that same growth opportunity around the world.

Got it. Thanks so much, guys. Congratulations.

Thank you.

Your next question comes from James Stettler with [inaudible] Capital Strategies.

Hi. My question has been answered, thanks.

Thank you.

Your me question comes from Davey Boyle with RBC Capital Markets.

Hey, good afternoon, this is [inaudible]. I've got a couple of questions. The first one is regarding the utility segments, I think I'm a little bit confused. How can I think about the lower results of that segment, despite the unusual events you mentioned? I guess part of it being the especially hot summer in California. I understand you mentioned taxes, but can you help me understand that a little bit better one more time, please?

Well, let's make sure we leave this clear, because I think we're all impressed and satisfied with where our utilities are, so let me have Debby --

Yes, let me take them one at a time, because I think that that would be easier and starting with SoCalGas. If you look at SoCalGas on a year-over-year basis and you look at slide 5, what we've done is we've adjusted on slide 5 for the unusual item. And there you'll see that there's comparable net income of $62 million for the quarter compared with $71 last year, and $166 compared with $194 in 2005. The key differences for the nine-month period, in addition to what you see on this table, is that there was a $24 million differential tax expense year-over-year at SoCalGas. So that puts the income on a nine month comparable basis about the same as it was last year for SoCalGas. On a quarter-to-quarter basis for SoCalGas, there was higher tax expense of $21 million hitting us in the quarter. And offsetting that, a positive that offset that is that we have higher margins of about $11 million this year over last year and a lot of that is contributing to earnings. That's under the picture of SoCalGas,

Okay, well -- [multiple speakers] I'm sorry, go ahead.

One of things that I was going to mention is that the hot summer you raised and the issue there, that we're all balanced for any of our throughput at the gas company. So to the degree -- and at SDG&E, so to the degree there's higher commodity usage at either company, that's all balanced out.

Okay, okay. So I guess that affect completely comes out of the picture? The weather affect is --

Absolutely.

Is that right?

Did you want to go to SDG&E then or --?

Sure. Just one more question about SoCalGas. Why did you decide to exclude the $24 million differential tax expense you just mentioned from that comparable net income for the nine months?

Well, there's certain tax adjustments that are not considered to be unusual, such as return to provisions and things like that and discrete tax items, and so it's just our categorization. We don't consider those to be unusual items.

Okay. So regarded SDG&E?

Okay, going to SDG&E then, and again looking at slide 5. If you look at the six months -- excuse me, the three-month period, they're pretty even year-to-year. But in that 61 and 63, for the 61, we do have increased generation margin due to Palomar and some [inaudible] rate case true-up. That's a positive $12 million that we had this year. But we had an $11 million negative tax impact for the quarter that pretty much offset the benefit from the incremental earnings from our generation. And on the annual basis, we have about $29 million of positive benefit in generation from both Palomar and [Song] and higher taxes for the year are only about $7 million. So you see more of the positive affect of the generation on the annual basis than you do in the quarter.

Okay, okay. So I guess moving to my next question regarding the commodities segment, so I understand that it's great results. And I guess last year the hurricane activity was a great driver for [inaudible] in particular. How do you explain the slightly disappointing results regarding the oil, the oil business? Because I would have been thinking that in light of the international turmoil of last summer, it would have been -- that would have been a significant driver for your activity?

Neil?

I would just like to make one comment about the trading business. One of the great advantages of our trading business is that we have all four product lines. The gas, the power, the oil, the metals, and the other things that is we're in. So this is not a trading business that depends on market conditions with respect to any one commodity. So you will see from time to time different segments of this business making more or less money. Sometimes they have really good quarters and sometimes not so good quarters. I see -- I wouldn't characterize necessarily anything as a disappointment merely because it was less than the prior year. I think what you're describing here is the strength of the business.

Right. Yes, I'm sorry. I just used that [inaudible] just lack of a better word. It's certainly not disappointing, you're right. If you guys would let me I would have one more question, if it's okay?

Go ahead.

Okay. Regarding the Port Arthur facility, have you made any decision regarding how you want to -- what you want to do going forward?

No, we haven't. What we have said is we left our options open. We have gone ahead and are pursuing expansion capability of Cameron, so we can make a determination, depending upon when the market moves, that we can either decide to expand Cameron or launch Port Arthur. So we have given ourselves a lot of flexibility in the gulf region.

And one more regarding -- follow-up regarding the LNG. Have you been impacted at all because of the moody decisions of Russia regarding the [inaudible] project? I think you had been mentioned in a partnership with Shell, maybe, for gas coming from that field over there.

Well, we have an arrangement with Shell where they are buying capacity at our Costa Azul terminal. They can bring that gas from any of the sources where is they have LNG, whether it's [inaudible] or Oregon or any other location.

All right. Thank you very much.

Thank you.

Your next question comes from Ashar Khan with SAC Capital.

Hi, good afternoon. Just going back to LNG. Don, I might have missed this. Have you guys missed anything on expansion results at the Costa Azul. I guess, that were expected in the fall?

We have not. We are in active negotiations with all the people that were participants in the open season and those discussions, as you can imagine, are slowing down, or have slowed down just based upon the uncertainty and timing of upstream liquefaction supplies. So we're still active with all those discussions. I think people are trying to get a better handle on when the liquefaction projects will, in fact, be coming online.

Okay. Could you just help us with the use of cash on the balance sheet, as well as the contemplated project financing that you had in your plan for '06 to '07 for these facilities?

I'll have Mark do that because it's a pretty good story.

I think the first thing is that we are -- we do have a fair amount of cash on the balance sheet. We're well over $1 billion, $1.5 billion, actually. At the last analyst conference, there was some concern about funding our $10 billion capital program and whether we would have to go to the equity markets. And I think, given our good operating results, our terrific results from the sale of assets, I think we can remove that as a concern. And looking forward, we have ample capital to fund our program without going back to the equity markets and also, at the same time, maintaining our ratings. So we feel very positive about that. As we look forward, we've always thought that we will eventually end up with a capital structure that's under-leveraged and at those points in time, then we would decide what we would do with the excess capital or excess cash that we're holding and whether we would talk about any kind of large dividend increases or buyback of stock. But we won't really be addressing that until after we have funded our capital program.

Mark, but what do you plan to do with this cash in the next 12 months? I know you're going to have needs on a CapEx basis, but I'm trying to get a better understanding, what is going to be the use of cash? I guess you're just going to keep it on there and invest it in your CapEx, and then when do you plan to do your project financing? I thought it was in your last May -- March presentation was an '06 '07 event. I'm just trying to understand a better use of cash in the next 12 months.

We will keep the cash on our balance sheet and invest short term. We'll use it to fund our capital program. And then, as we -- our project financing, we will -- Costa Azul will be the first one that we'll do and that will probably be sometime in '07 and then the next -- Cameron would be the next item up and that probably wouldn't be until '08, and as those projects come into completion. But we've got -- we have an active capital program at both the utilities and the unregulated side. and we have ample uses for that cash.

Okay. Thank you.

Okay.

Your next question comes from David Grumhaus with Copia Capital.

Good afternoon, guys. Congratulations on the quarter.

Thank you, David.

A couple quick questions. I'm a little confused on the guidance, what we should be thinking about as a nine-month result. Is it the 291 number or is it the comparable 272 number?

David, you're fading out here. Could you repeat that?

I'm sorry. I'm a little confused on the guidance whether we should be -- for a nine-month number, using the 291 number that on page 3 or the number 272 comparable number that's on page 4?

You should use the 291 number. That is our -- it's essentially our operating earnings less the sale of our Topaz plant. That's the number that we're giving guidance around. It's the $1.27 for the three months ended September 30 and 291 for the nine months ended.

Okay, that's helpful. On the generation side, obviously you had the big gain on the Topaz sale and then you had mark-to-market losses in the third quarter of last year, but generation was still up a meaningful amount in the third quarter. What's driving that? Is that just prices on the DWR contracts? Is it new stuff coming in?

The biggest -- if you look at slide 7, in '05, we had a $19 million mark-to-market loss. So that's affecting the comparability of the number. But we did -- this year on a year-to-date basis we've had increased revenue because of the way -- because of gas prices and the way the DWR contract works, we've gotten a little bit more profitability off our gas arbitrage.

Okay. Lastly on the LNG, obviously the costs went up a little bit there as you get closer to completion. Should we expect that to continue -- those higher losses to continue for the next five or six quarters until it's [inaudible]finished?

Yes. Not necessarily. Most of the increases in LNG were interestingly enough related to tax-related issues around foreign currency at our Costa Azul facility. We had some currency gains that were taxable that drove up some tax expense. We don't expect that kind of thing to continue. And frankly, most of our costs at LNG, the vast majority are capitalized into our construction projects, and so really this is kind of the noise around that.

Okay. So going back to the $5 million quarterly run rate is --?

That's probably closer to ac -- more closer to accurate.

Thanks for the time today.

Okay.

Thank you.

Your next question comes from Faisel Khan with Citigroup.

Faisel, how are you?

Hi. Sorry, I've got to ask a few more questions, I hope you don't mind. On the utilities, I just want to figure out just on the attrition filings that I think you have every year, how do those get booked in earnings? Is it kind of steady state through the year, or does it have to get CPUC approval on that and then the other earnings come through?

Okay, we have mechanisms that are in place for the attrition adjustments, and they set forth a minimum and a maximum level and then there's a methodology that really ties them to the CPI. In the case what we're looking at now, the minimum level of increase would be 3.8% for SDG&E next year and 3.3% for SoCalGas next year. And that will come as an automatic margin adjustment for us in 2007.

Okay, I got you. On Sunrise --on the Sunrise power link, I know there was some issues around the potential one segment of the routing, I think, through some state land. Has that been resolved, so-- and can we expect construction to start pretty much right after the CPUC approves the line?

Let me give just you a little background. As you recall, this is a 500 and 230KVU line that goes about 150 miles and has a cost of about $1.265 billion. And there is part of that that the preferred route that we've identified does go through a state park. The ISO has come out and indicated that this project is needed, and that the routes that go to the south, which were the alternates, would not meet the reliability requirements for the state and they filed that at CPUC. Where we stand right now is the CPUC has come up with a schedule and that schedule would have a decision in January of 2008. And so we would still be looking at putting the line in service -- based upon that schedule, the line would go in service in 2010.

Okay. Then I assume that you'd have to push equity into SDG&E to start construction of the line? I forget how big the line is. I think $1.2 billion is the last figure I saw.

It's almost 1.3, it's $1.265 billion. And right now we have a deal with the Imperial irrigation district, where they would cover other than about $1 billion of the line. SDG&E's investment would be about $1 billion.

Okay, got you. And I just want to go to the income -- to the cash flow statement where it looks like you generated about $600 million in operating cash flow in the -- just in the quarter alone. I just want to understand how the working capital -- has the working capital came back to you? Was that working capital in the the utility or working capital from the Commodities business?

Well, it's a little bit spread out. Commodities inventory was lower by about $470 million. We had some capital coming back from SoCalGas that had lower accounts receivable, about $400 million. Trading assets were up almost 600 and, then, regulatory balancing accounts at the utilities were throwing off about 150. So I would -- the biggest part of it is at the utilities because trading is sort of netting out.

Okay, fair enough. Thanks.

Thanks, Faisel.

At this time we have no further questions and I would like to turn the conference back over to Mr. Felsinger.

Well, once again thanks to all of you for all of joining us on this third quarter earnings call. And as always, if you have any follow-on questions, get hold of Jeff, Karen, or Glen. And we'll be talking to you again at the beginning of next year, when we do the year end wrap-up. Thanks.

This concludes today's conference. You may now disconnect.