桑普拉能源 (SRE) 2007 Q2 法說會逐字稿

Good day everyone, and welcome to the Sempra Energy second quarter earnings results conference. As a reminder, today's conference is being recorded. For opening remarks and introductions, I would like to turn the call over to Mr. Jeff Martin. Please go ahead, sir.

Thank you and good afternoon. I'm Jeff Martin and I would like to thank each of you for discuss Sempra Energy's second quarter 2007 financial results. A live webcast of this teleconference and slide presentation is available on our website under the investor section. With us today in San Diego are several members of our management team, including Don Felsinger, our Chairman and Chief Executive Officer; Neal Schmale, our President and Chief Operating Officer. Mark Snell, Executive Vice President and Chief Financial Officer, Debbie Reed, President and CEO of Sempra Utilities, and lastly Joe Householder, Senior Vice President and Controller.

You'll also note that slide two contains our Safe Harbor statement. I'd 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. As many of you know, forward-looking statement are not guarantees of performance. They involve risk, uncertainties and assumptions and future results may differ materially from those expressed in those statements. These risks, uncertainties and assumptions are described at the bottom of today's press release and are further discussed in the company's reports, which are filed at the Securities and Exchange Commission.

In addition, and one final comment, all the earnings per share amounts in our presentation today are shown on a diluted basis. With that, I would now like to turn it over to Don, who will begin with slide three.

Thanks, Jeff. Thanks to each of you for joining us today. What I'd like to do on today's call is start with an update of our financial results, then provide you with the current status of our key business activities, and finally answer any questions you have.

Let me begin by saying how pleased I am with the strength of our financial results this quarter. For the second quarter of 2007, our income from continuing operations increased by more than 50% compared with the same period in 2006. And all of our operating businesses performed very well. In July, we announced a joint venture with the World Bank of Scotland in order to accelerate the global expansion of our commodities business. We are excited about the prospects of our joint venture, and later on the call I will give you an update about the status of this transaction. Our year-to-date results keep us on track to meet our 2007 earnings per share guidance of $3.75 to $3.95 per share. And with that, I'm going to ask Mark Snell to take you through our more detailed financial results for this quarter.

Thanks, Don. Earlier this morning, we reported second quarter 2007 income from continuing operations of $280 million, or $1.06 per share, compared with $185 million, or $0.71 per share for the second quarter of 2006.

As Don stated, the improvement of our second quarter 2007 results represents more than a 50% increase over the same period last year. Net income for the second quarter of 2007 was $277 million, or $1.05 per share compared with second quarter 2006 net income of $373 million, or $1.43 per share. Second quarter 2006 net income, however, included $188 million of earnings from discontinued operations primarily related to one time asset sales. For the first six months of 2007, income from continuing operations increased by more than 20% to $507 million or $1.92 per share from $419 million, or $1.61 per share in the same period last year.

Now let's preview the financial results of each of our businesses starting with Sempra Utilities on slide four. Sempra Utilities reported second quarter 2007 net income of $105 million, compared to $123 million in the year ago period. San Diego Gas and Electric's net income for the second quarter 2007 was $51 million compared with $65 million in the second quarter of 2006. Second quarter 2007 results were improved by higher electric transmission earnings results in the second quarter 2006 benefited from $16 million in net income due to the favorable resolution of certain regulatory and tax issues, and the positive adjustment for litigation reserves.

At Southern California Gas, second quarter 2007 net income was $54 million, compared with $58 million in the second quarter of 2006. Results in 2006 included $3 million of positive adjustments for litigation reserves. From the first six months of 2007, Sempra Utilities' net income increased to $222 million from $219 million for the same period in '06. During the second quarter, final agreements were signed and construction began on Calpine's Otay Mesa Energy Center. Because of the overall length and term of its power purchase agreement with Calpine, San Diego Gas and Electric is required to consolidate the entity on its books and accordingly it's reflected in our second quarter financials. What's really unique about this United States is that SDG&E will be allowed a regulatory return on this agreement when the center is operational.

Now let's go to slide five. Sempra Commodities second quarter net income more than doubled to $155 million in 2007, from $69 million in the prior year. You will also note commodities saw improved margins across all product lines in the quarter. Second quarter 2007 also benefited from the recognition of $33 million of mark to market profits that had been deferred from the first quarter, which we commonly refer to as the EITF adjustment. In the first six months of 2007, Commodities reported net income of $226 million compared with $185 million in the first half of 2006. Our excellent results in the first half of 2007 don't include $53 million of 2007 mark to market profits. As a reminder, these profits relate to commodity inventories, storage and transportation contracts used in forward sale transactions that will be deferred until later in the year. At the close of the RBS transaction, we expect any remaining deferred mark to market profits will be recognized.

Commodities' excellent results continue the positive trend we seen over the last several quarters. If you move to slide six, we will discuss some key aspects of the RBS joint venture. As Don mentioned earlier, our joint venture with the Royal Bank of Scotland is focussed on accelerating the growth of the commodities business. Don will discuss some the major milestones for the transaction later, but I want to clarify several key financial points. First thing to note, Sempra received net proceeds between 1 and $1.2 billion in closing. In the short-term, Sempra is selling approximately $100 million of expected 2008 earnings. This represents a multiple of 10 to 12 times forward earnings. A pretty impressive premium for this business segment. A key point with respect to the amount of regulatory capital in the business is that it's not discretionary and that the formula used to determine it is prescribed by the U.K.'s Financial Services Authority.

Also, both Sempra and RBS have made affirmative covenants to minimize regulatory capital to the extent possible. While the formula is somewhat complex, a good rule of thumb is that it should roughly track about 70 to 72% of total capital. Third point. While RBS's regulatory capital varies, Sempra's $1.3 billion will always be treated as regulatory capital. Both Sempra and RBS receive a 15% return on regulatory capital that's invested in the joint venture. Then each year Sempra also receives 70% of the next $500 million of pre-tax profits. On everything above that, we received 30%. For those of you who take the time to work through this earnings sharing arrangement, you will note that Sempra will retain the majority of the joint ventures profit until the business almost doubles its 2006 record earnings.

Now let's move to slide seven and cover our Generations business. Net income for our generation unit in the second quarter of 2007 was $10 million. Compared with $16 million in the second quarter of 2006. Second quarter 2007 was impacted by higher mark to market losses by long-term contracts with Sempra commodities. For the first six months of 2007, net income for Sempra Generation increased to $64 million from $57 million in the first half of 2006. The improved earnings in the first half of 2007 were primarily due to the lower administrative and development expenses.

Moving to slide eight, cover pipelines and storage. In the second quarter 2007, Sempra pipelines and storage reported net income of $17 million compared with net income of $28 million in the same period in 2006. Second quarter 2006 results included $9 million from the favorable resolution of prior year's income tax issues.

Please move to slide nine. This slide provides a summary of our business unit results and I like to start by briefly discussing our LNG business. In the second quarter of 2007, Sempra LNG recorded a net loss of $13 million compared with a net loss of $17 million in the prior year. In the quarter, LNG recorded a lower mark to market loss related to a marketing agreement with Sempra Commodities as compared to the year earlier period. Parent and other reported net income of $6 million in the second quarter of 2007, compared with a net loss of $34 million. The improvement in net income was largely due to an $18 million benefit from the cumulative gain on an interest rate swap. The improvement in the quarter was also due to lower interest expense net of interest income as a result of a significant cash proceeds from the asset sales of 2006.

Please turn to slide 10. We had a very strong quarter. And really great year-to-date results. Operating earnings driven by Sempra Commodities far outpaced last year's results. Operating cash flow continue to improve, leaving us with $1.3 billion in cash and strengthening our balance sheet. Our credit ratings were firm, following the announcement of the RBS Sempra Commodities joint venture and those ratings are based on a $2 billion stock repurchase assumption.

And lastly, I want to mention that we currently have over $160 million available on a previously authorized share repurchase program. Although we still plan on making the bulk of the 1.5 to $2 billion share repurchase after the RBS Sempra commodities transaction closes, we will take advantage of our current authorization and begin repurchasing our common stock prior to that time. Now let me hand things back to Don for an operational update, starting with slide 11.

Thanks, Mark. Let me begin with a short business activity update. Starting with our utilities. We just recently placed into service the 230KV Otay Metro transmission projects which will increase reliability throughout the San Diego region and add approximately $170 million of new rate base. This project was completed ahead of schedule and under budget.

In May, the FERC approved an increase of our authorized return on equity on FERC regulated transmission projects to 11.35%, which just became effective last month. In May, we filed a Cost of Capital application with the CaliforniA Public Utilities Commission to increase the authorized return on equity for SDG&E from a 10.7% to 11.6%. We expect a decision by year end. In December of last year, you will recall that we filed a general rate increase for both utilities. We expected a decision in early 2008 with new rates effective January 1, 2008. We are also asking for these new rates to be in place through 2013.

Also, work continues on the regulatory process for the $1 billion Sunrise Power Link Transmission Projects. You may have read some the recent press on this project. As part of the process of evaluating different transmission routes, the California Public Utilities Commission has informed us it will take more time for their environmental review. By increasing the review period it will likely delay a final decision by about seven months. So now we expect a final decision in the second half of 2008. When complete, this 500 KV transmission line will provide add reliability for the San Diego region, serving as a critical transportation link to deliver new supplies of energy. We have a lot of confidence this line will get built and will continue to work closely with the commission staff to ensure the project goes forward with as many system and customer benefits as possible.

Also, you will remember from last quarter's call that the California Public Utility Commission approved SDG&E's smart metering program. In terms of a quick update, we are progressing through our vendor selection and hope to have that completed by year end. This is an important program, and SDG plans to send $572 million, which includes $500 million of capital through 2011 to replace an estimated 1.4 million electric meters with smart meters. As part of this program, SDG&E will also retrofit approximately 900,000 gas meters throughout its service territory beginning 2008.

Please turn to slide 12 for an update on our generation business. In June, Sempra Generation announced that it had agreed to acquire the development assets associated with the proposed 250-megawatt La Rumarosa Wind Power Project under a co-development arrangement with San Diego-based Canon Power. Sempra Generation also announced it signed a 20 year agreement to provide Southern California Edison with up to 250 megawatts of wind power generated from the La Rumarosa project. The project remains subject to certain conditions, including regulatory approval of the contract with Southern California Edison, and other conditions that preserve favorable project economics. This is a project which we are excited about and will provide you with updates in the future.

Now let me update you on our natural gas infrastructure business on slide 13. Our pipeline and storage business, along with our partners Kinder Morgan and ConocoPhillips have placed in service the 328-mile segment of the Rockies Express pipeline, which runs from the Meeker hub in Colorado to the Cheyenne hub in Wyoming. Construction has now commenced on the 713-mile Rockies Express West portion of the Rockies Express pipeline, which runs from Colorado to Missouri. We expect this segment of the pipeline to be flowing gas beginning in January of next year.

In April, we filed with FERC seeking approval to construct a 638-mile Rockies Express east portion or last portion of the project. This final segment is expected to begin interim service as early as December of 2008, and to be fully operational by June 2009. Our permitting and construction remains on target for this $4.4 billion pipeline. Gas prices in the Rockies region continue to demonstrate a strong need for the Rockies Express pipeline. With respect to possible expansions or extensions, we're discussions with our shippers about both options. And I think there's recognition in the market that together with our partners, we are as well positioned as anyone to capture additional market opportunities as they arise.

In Mexico, construction on the Baja North Bay pipeline expansion is moving along well and is now over 60% complete. The $200 million project is scheduled to go into commercial operation at the same time as the Energia Costa Azul LNG facility in early 2008. Moving now to to our LNG business. Construction continues on Energia Costa Azul, which is over 80% complete, and on our Cameron receipt facility, which is 55% complete. Operating dates for both terminals remain unchanged and are on target.

As many of you know, it's necessary to bring in some initial volumes of gas to go through the normal check out and testing process in order to bring a terminal to full commercial operation. We've recently secured initial cargo for the Energia Costa Azul facility, which puts on track for commercial startup next year.

Now I would like to briefly update you on the RBS Sempra commodities joint venture on slide 14. We are now in the process of completing our announced joint venture with RBS. I'd like to update you on where we were and discuss a couple of key aspects of the joint venture. First of all, we are still on track for a fourth quarter close. We made the appropriate regulatory filings with the financial services authority and the federal reserve and the FERC. We anticipate the approval costs to be fairly straightforward.

Another point I would like to stress is that this joint venture moves all of the growth capital and liquidity requirements over to RBS. This is important to us because it provides because it provides us with the flexibility to rebalance our capital structure, lower our cost to capital and be able to look at opportunities in the market where we have been less competitive in the past. With RBS coming on board, our continued access to capital has been assured and more importantly, our commodities business can grow and expand into an even more profitable global business.

Now, I would like to sum up our results on slide 15. As stated earlier, all of our businesses are performing well, and I couldn't be more pleased with the strength of our performance through the first half of this year. We expect to begin our recently announced financial initiatives once the RBS Sempra Commodities transaction closes in the fourth quarter. These include a 1.5 to $2 billion stock repurchase and increase in our dividend to $1.40 with a targeted payout ratio of 35 to 40% there after. And we're on track to meet our earnings guidance of $3.75 to $3.95 per share.

With that, let me now open up the call for your questions.

(OPERATOR INSTRUCTIONS). We will go first today for questions from Lasan Johong with RBC Capital Markets.

Good morning or good afternoon. Nice quarter, by the way. Don or Mark, according to the current year-to-date results, Sempra Commodities achieved about half of the upper end of the guidance of 3.50 to $4.50 to date. Fourth quarter is typically the strongest quarter and I didn't hear any thoughts or considerations of increasing guidance on Commodities. Is there something we should know about the third or fourth quarter that was not apparent?

There is nothing here that is unusual. As you all are well aware, we were fairly conservative in terms of how we look at this business. We're only six months through the year, and even though we, in the past have had strong fourth quarters we aren't at a point where we will make a change to our guidance.

I see. The dividend increase and the share repurchase at the end of the year, $1.5 billion, $2 billion, given the increase, I'm assuming you will have the balance from just cash on the balance sheet, is that correct?

Let me turn this over to Mark.

We will fund it from cash that we received at the close of the transaction, of the RBS transaction. And cash on the balance sheet, we may borrow some, because we were rebalancing our capital structure at that point. For the initial billion, it will be primarily proceeds.

Right. With the current credit spreads the way they are and the credit market in turmoil, any thoughts on whether RBS can meet its obligations to increase capital as necessarily you need it?

We don't have any concerns whatsoever about RBS being able to close in this transaction.

Great. And then lastly. What confidence do you have in the JV working going forward. It's difficult -- JVs are never easy to operate and many have, shall we say fallen by the wayside, because of operational and strategic decisions that are in conflict. Who has the control of the boat?

Let me say this. When I look at our history, we today have something like eight or nine different joint ventures that are either active or had in the past. And they are always delicate relationships when you get into them. We have been looking for a financial partner for our commodities business for about a year and a half to two years. And one of the things we had on our plate was not only could we find somebody that had a strong balance sheet, access to a lot of capital, but somebody that we felt comfortable partnering up with. At the end of the day, all those criteria was met with RBS. I think going forward, you never know how a joint venture will turn out. But on the surface, everything we are looking for and everything that they are looking for seemed to have been met. We have the beginnings of a good relationship and I think it will be successful.

Great. Thank you.

Our next question will go to Faisel Khan with Citi.

Good afternoon. On the agreement on the Costa Mesa PPA, can you go to a little bit more detail how that works. How you will return on that PPA?

Let me just set the stage here and say one thing that I think is important. For a number of years, utilities like SDG&E that have been purchasing power in long-term contracts have imputed debt on the balance sheet from the rating agencies. In the case of this particular project at Otay Mesa, this is the first time where the California utilities commission has given us relief and allowed us to earn based upon both the length of the contract and how the contract is structured. It's a first. It's a very positive thing. And let me have Mark explain how actual the mechanism works.

How it works is Calpine is expected to finance this particular project with about 75% debt. And as you know, the utility capital structure is 50/50%. Essentially what we are allowed to return on, we get the return on the sort of phantom additional equity that we need to rebalance our capital structure after the consolidation.

Okay.

So that's how it works, and when you look at the way it's set up right now, we were essentially earning a bit on the minority interest line that relates to this project. You can see in our balance sheet that our minority interest went way up this quarter. And that's the consolidation.

And on the equity component you would get your authorized return on equity?

Our -- on the amount we need to rebalance our capital for the utility. And we will give some guidance on that later down the road as it becomes operational.

What is the wind project? How does the PPA work here? What are the economics on this? Do you need the ITCs and -- or the PTCs to make that project work economically?

This project that we are looking at is our initial entry under renewables. We have signed up a contract that is still subject to approval with Southern California Edison. Whatever relief they may get from this is up to them. From our standpoint, it's strictly a project that we look that has a high single digits on level return.

And one thing because the project is in Mexico, we are not going to get the kind of tax credits that you get for a domestic project. But that's probably more than offset. The one thing that's unique about this project is that it has a very very high capacity rate for a wind project. So that higher capacity rate kind of offsets sort of the economic loss from the ITC. And the other thing we get is that while Mexico doesn't have a investment tax credit for this type of project, they do allow us to accelerate the depreciation for tax purposes. We get to fully depreciate this project for the first year of operation. And because we have earnings in Mexico, we can use that -- we can use those accelerated writeoffs.

And on the SoCal gas and there were comments from PG&E that talked about how they needed to increase the pipeline capacity in central California to accommodate Oil LNG from the south. What is the magnitude of Cap Ex you would have to spend to expand your facilities into that pipeline system?

Let me ask Debbie Reed to address this.

It really depends on how much gas would flow. And we were looking at a lot of various scenarios depending how much gas would flow. This is something we haven't even filed an application at the CPUC on. So we are still preliminary stages of really trying to assess what upgrades will be necessary on our system depending on the volumes. It's dependent on the volumes.

And last question on your cash balance. If all things are equal, how does that cash balance move through your balance sheet over time, given your working capital? Working capital needs of utilities and trading.

Are you referring to the large cap we have at the end of the quarter?

Yes, $1.4 billion.

That's a result of our obviously of our operating earnings and probably a temporary reduction in some of our working capital requirements as a commodities business. Absent the RBS transaction I would have expected our working capital needs and commodities to sort of suck up some of that cash. But one way or the other, even if it does, we will get it back at the close. If it doesn't, we will keep it permanently.

Got you. Thanks for the time.

For our next question today, we will go to Paul Patterson with Glenrock Associates.

Hi, guys can you hear me?

Yes, Paul.

Just a few quick things. On slide nine when you were going over it you were making comments about interest rate swaps and other things associated with LNG. Could you quantify what those impacts are again?

What we were looking at originally was doing some project financing in Mexico and taken out interest rate swap. Mark?

The interest rate swap, we took it out to fix the interest rate on an anticipated project financing in Mexico. After looking into it and seeing the cost of that, we decided to go a different route, and finance it as the parent. We were not allowed to flip that interest rate swap up to the parent because it was taken out in Mexico. So we are basically not using -- not recognizing it under hedge accounting anymore. We picked up the gain on it and we will do something different here in the U.S.

And what's the gain?

$18 million.

Okay.

It's essentially one time.

And that's pre-tax?

After tax.

And then the Sempra mark to market at the generation business that goes to commodities, how much was that and does that get to offset income commodities? In other words, as commodity gets the gain for what the mark to market loss was in generation?

The gain was about $13 million. And it definitely gets offset at the commodities side so consolidation it really doesn't make much difference.

Fine. And then with the stock buy-back you mentioned you guys might be in the market earlier. And I was wondering if you could elaborate a little more. Is that limited to the $160 million that you had previously or could you guys get maybe be a little more aggressive here. Might be an attractive time to buy the stock.

We have current authorization from our board of $160 million. And we intend to do a lot more after the close. We were looking -- we were obviously looking at the market. We do think it's an attractive time to start this program. And we can go to the Board and ask for additional authorization if we think that makes sense.

And then finally, depreciation on the income statement seem to be flat for the quarter. I was wondering if there was any benefit to depreciation that that you could usually you guys with everything that's going on with the Cap Ex and you think depreciation would go up, was there any item that -- or any change in depreciation methodology that you need to use that changes that?

No. There was still changes. We didn't have -- even though we had a lot of Cap Ex going on. We didn't have anything of significant other than the transmission line going into service in the quarter and it would be a very small difference for that first pickup. It was a little bit higher last year. We have $9 million that was offset by some reserves. By revenue.

I appreciate it, guys.

Okay.

We will go to Carl Kirst with Credit Suisse.

Good afternoon, everybody and congratulations on a good quarter. Maybe focus in a few questions on LNG, the stuff that has been hit, I thought I had read somewhere that Cameron might be making a decision on whether or not it should be expanding in the second half of this year. Is that the case? Do you need to actually make that determination this early on?

No, we don't. As you know, we have gone through and gotten permission from the FERC to expand up to 2.65 a day. We were having some good discussions about filling out the remainder of the terminal and going into expansion, but we have not made a decision to expand yet.

Okay. Can you say is a decision on that expected by the end of this year?

As we were saying before, there is a critical element upstream in terms of liquefaction supplies and as the market sorts itself out here, we were having discussions with people about using the facility, but it's all contingent upon supplies being available. So it will happen when it happens and we've made no announcement that we will do anything in the second half of this year or next year.

Fair enough. It does bring me to the second question on liquefaction. I want to clarify to the extent that you guys are looking at some upstream investments. Will this be made in the LBG division? Or does it happen at more kind of the commodity level in order to market that L and G.

It would happen within that business unit.

Within the L and G business?

Yes.

Great. Lastly, moving to the utilities, with respect to the GRC decision here early 2008, is it possible we could be seeing a potential settlement? Or should we be waiting for the decision in early '08?

I will have Debbie give you color on this. But as I go back and think about recent history I can't remember the last time we litigated a result. It has been our intent and the intent of the parties involve to reach a settlement and I think the commission encourages that. As we get into the proceeding later this month, we will have the opportunity to start settlement discussions and assuming we can reach an attractive or appropriate settlement, that will be our preferred option. Debbie?

I would -- good morning, Carl. I would add that we had reached some settlement with a few of the parties in the case. And that we are continuing to have some discussions. The full settlement discussion will occur later in August. And the main intervener DRA and ourselves are not far apart on a number of the issues like the term, as an example. We had proposed a six year term, and they are recommending a five year term. We have some indexing mechanisms proposed and we are not too far apart on those types of things. I think there is at least a strong basis for good settlement discussion.

Great. Appreciate the added color.

(OPERATOR INSTRUCTIONS). We will go first to Rudy Tolentino with Morgan Stanley.

Hi, can you give me an idea with the wind of transaction that you did, is this wind business, something that you continue to work to expand going forward?

Rudy, yes, it is. I think we said on the last call, where we said there is a real issue developing, and that is with the high targets that have been established for the utilities in California and not only California but around the region, the need to get the significant renewable energy in those portfolios is going to require a lot of development. And one of the reasons that we decide to enter when we did was that it looks like now that we can bring something to the table from a stand-point that we can go in and develop on a much larger scale than what some of the utilities are seeing with some of the smaller developers. It would be our intent to bring forward our expertise and skill in developing large projects.

We talked about the fact that in Mexico, starting out with 250 megawatts, that we would look to developing that resource up to 1000 megawatts assuming we can get the land and other equipment and get contracts. I would look at this going forward as a need in the marketplace that matches up very well with the skill set that Sempra has in terms of developing large projects that require permitting, long lead times. Good balance sheet. This is a business that we are looking at and assuming this contract with Edison goes forward, It meets our financial criteria. But you will see us active in this marketplace.

Is then your primary focus for development in California? Or are you looking to go nationwide?

We have a focus in the region so including Mexico and the west where we have other generation and are familiar with transmission we would tend to focus initially in Mexico and the west.

And what about the gas portfolio? Is that something you intend to keep? Or is something that might be up for sale in the future.

When you say the gas portfolio --

The gas generation that you have.

We were under contract through 2010, early 2011. What we will do is continue to keep an eye on the market which looks like the generation will become more valuable in the marketplace that we were currently dealing. If we can get attractive contracts, we will keep it. If those assets are more valuable to other people then we will look at selling, but we have not made a decision.

Thank you very much for the update.

Next to Michael Lapides with Goldman Sachs.

Hey, guys, congratulations on a good quarter. Two questions, one utility related. One LNG related. At the utility, is there discussion in cost of capital proceedings about a higher not just ROE but higher equity component, and can you refresh us in terms of where you stand versus where the other California utilities stand? Then on the LNG side, what is the difference it would cost to do an expansion of Cameron kind of on a BCF per day basis versus what your initial construction costs, were meaning the inflation of energy infrastructure costs.

Let's start with the utility first and I will say we have been disappointed over the last number of years that our returns have been low in the California utilities. Debbie, do you want to take Michael's question?

Michael, good morning. Let me talk about two costs of capitals because just to remind you, we just completed our FERC rate case, and in that FERC rate case that governs our electric transmission access which is part of our growing rate base. And that we were authorized a higher return on equity. We went from 11.25% to 11.35% and the continuation of our formulaic rate, And then whatever our actual cap structure is what we earn on. So, for FERC, that's the way it's handled. In terms of the CPC, we will begin hearings later this month on a CPC regulated cost of capital for SDG&E, and that covers our gas distribution -- our gas distribution assets and our electric asset distribution for SDG&E and this is for SDG&E only and not SoCalGas. What we have requested is an 11.6% return on equity. Edison has requested an 11.8% and PG&E has requested 11.7% in the proceeding. And we suggested maintaining the same cap structure as we have had historically.

On the LNG side?

Let's go to Neal Schmale and see if he can address your question.

You are right. It has been cost escalation in all the sectors that are affected by the oil industry. And we don't have a definitive estimate yet on what it would cost to expand. But I would comment that you always have the benefit when you adding on to an existing facility higher construction costs. We will have a good estimate before we decide to expand.

I think Neil's point is that in each of our facilities at ECCA and and at Cameron, we have already spent some initial capital to be able to expand so when the market needs additional capacity, there's no doubt in my mind whether we are talking about Cameron or stalk being ECCA or the Rockies Express pipeline, we will have the ability to expand and be more competitive than somebody starting anew.

And I would also not expect the capital costs for these re-gas facilities to experience the kind ever escalation that the more complex projects and more difficult areas.

Okay. Thank you, guys.

Thank you. Now we have another question from Lasan Johong with RBC Capital Market.

Thank you. Don or Neal, one of the advantages of being with RBC is that they are strong quick on the liquefaction side. Do you have any thoughts on where you might go with that or where you might do it with or without RBS?

The thing I'm most impressed about RBS is -- besides that they bring such a much higher credit rating and the fact that they have -- they are so big in the world and doing project financing including LNG, that it's a natural for this new joint venture to tag along and do the hedging around some of their project financing. So that was one of the things that attracted us to RBS is the fact that they are a large project financier and the fact that they have more of a European and Asian focus than when the business currently has. And so even though we have grown a lot in North America, the fact that their primary footprint is in Europe and Asia, this business -- that's where I see the growth in commodities going forward.

What about in the liquefaction side specifically?

They do a lot of liquefaction project financing. And I would expect that this joint venture will have an advantage in terms of being able to hedge the facilities.

Okay. And going forward, what do you think is development cost on wind power on a KW basis in the areas that you are focussed?

Neal, you want to put some color around this?

Well, I think I would go back to Don's original comment that we are looking for internal rates of return in the high single digit area. There is a whole complex of things that go into that. The cost determines our R&D the characteristics of the wind and this is also an area where technology will get better by the way. When you compare the size of these turbines with what was done several years ago. There was a marked change.

Back to your previous question. I just saw a little note that came across the table that RBS has done $30 billion to date of LNG projects around the world. They will bring those relationships and deal flows to this joint venture.

That's great. Thank you.

Thank you.

And we will go for our next question we will go to Ashar Khan with SAC Capital.

Good afternoon. Mark, if I have my numbers correct, you implied that by the time the sale concludes, which could be, if I'm right, end of October or so or early November with RBS, you net yet 1 to $1.2 billion in cash in addition to approximately 1.4 to $1.3 billion of cash on hand on the balance sheet. And in essence, the company would have around $2.5 billion to $2 billion of cash at that point. Am I doing it right or am I missing something?

It's not exactly right. At the end of the quarter, we had about $1.3 billion of cash on the balance sheet. That is -- that cash moves up and down quite a bit every day. It's very volatile within the trading business. And today as we speak, it's quite a bit lower than that. It's reinvested in the trading side. What I mentioned was that we expect to give 1 to 1.2 at close and we will -- and if some of this cash is in there, we will get it back, but I don't think we expect to be anywhere near $2 billion at the end at the close. So it's probably maybe 1.6, 1.7 with our total cash on hand but we don't expect it to be over $2 billion.

Okay. Thank you.

Thanks, Ashar.

And we have a question from Mike Heim with AG Edwards.

Thanks. Looking at the margins by product line for Sempra Commodities, looks like very strong results for the metals. Can you add a little more flavor on that? Are you seeing increased trading activity? Or is this merely rises in metal pricing that is affecting the inventories?

Let me ask Mark to address this.

We had a lot of good activity on the metal side of the business. We have seen a lot of international activity. And we have seen some volatility in our commodity prices. One of the things that's happened in the last couple of years is our brokerage business has increased substantially. As you know, we have a seat on the LNE and that business has done well. We have just kind of seen a market improvement overall. We made some management changes there about a year ago, and I think we are starting to see the fruits of that starting to pay off. And it's been performing much better of late.

And same question on the gas side and I recognize that a good part of that is going to be attributed to the mark to market issues but it seems like there is still a pretty good gain there and that's almost in contrast to what some of the other energy traders are reporting these last couple days. They are complaining about lower volatilities and you are reporting good results. Any color to add there.

Of recent you are correct. The lower volatility has put a little damper on the opportunities out there. But I think our good results here, they really speak to the type of trading that we do. This -- a lot of these results were very attributable to the fact that we are a major player in the physical business. And that it was really physical positions that we were taking as opposed to financial that allowed us to have good results. I think that's something that is helpful for us because we tend -- we can take advantage of certain bases differentials around the country that appear that other NYMEX players won't be able to do.

Is that the way to treat your gas treating strategy a lot of basis differentials as opposed to summer/winter spreads?

Both. It's always one or the other. It's almost always -- and in simplest forms it's either time or location that makes our money. And that's really -- and serving customers. We do have a better opportunity on the basis differential than I think most -- than somebody that's just trading the NYMEX or doing time spreads. We were a large holder of pipeline capacity and storage.

Okay. Thank you.

Ladies and gentlemen, this does conclude our question and answer session. I will turn the call back to Don Felsinger for any closing remarks.

Thanks again to all of you for joining us on Sempra Energy's second quarter 2007 earnings call. If you have any follow on questions contact Jeff or Glen. Thanks again and have a great afternoon.

And this does conclude our conference. We do appreciate your participation. You may disconnect at this time.