Atmos Energy Corporation (ATO) Q1 2012 Earnings Report, Transcript and Summary

Greetings, and welcome to the Atmos Energy first quarter 2012 earnings conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator instructions). As a reminder this conference is being recorded. It is now my pleasure to introduce your host, Ms. Susan Giles, Vice President of Investor Relations for Atmos Energy Corporation. Thank you Mrs. Giles you may begin.

Good morning, everyone, and thank you all for joining us. This call is open to the general public and media but designed for financial analysts. It is being webcast live over the Internet. We have placed slides on our website that summarize the financial results. We will refer to just a few of the slides during the call, but we will be happy to take any questions on any of them at the end of our prepared remarks. If you would like to access the webcast for slides, please visit our website at atlasenergy.com and click on the conference call link. Additionally, we plan to file the Company’s Form 10-Q later today. Our speakers this morning are Kim Cocklin, President, and CEO, and Fred Meisenheimer, Senior Vice President and CFO. There are also other members of our leadership team here to assist with questions as needed. As we review these financial results and discuss future expectations; please keep in mind that some of our discussion might contain forward-looking statements within the meaning of the Securities Act and the Securities Exchange Act. Any forward-looking statements are intended to fall within the Safe Harbor rules of the Private Securities Litigation Reform Act of 1995. And now, I would like to turn the call over to Kim Cocklin. Kim.

Thank you, Susan. Good morning, everybody, and we certainly appreciate you joining us, and your interest in Atmos Energy. Before we begin, I’d like to extend my congratulations to all the Giants fans on the phone, and condolences to the Patriots and the Cowboy fans. Yesterday, we did report first quarter consolidated net income of $69 million or $0.75 per diluted share compared to $74 million or $0.81 per share one year ago. When you exclude the unrealized gains in both periods, net income was $56 million or $0.61 per share this quarter compared to 74 million or $0.81 last year. Regulated operations contributed 93% of our net income and non-regulated operations contributed the remaining 7%. Regulated earnings were in line with our first quarter expectations of fiscal ’12. Abundant natural gas supply across the nation has created a low gas price environment, which is extremely good for utility customers. However, our non-regulated operations are adversely impacted by such a low price and low volatility and did not contribute as expected. Our liquidity and financial position remain very strong. Our debt capitalization ratio is 53.4% at December 31, compared with 51.4% one year ago. Short-term debt this quarter increased to $390 million compared to $248 million in last year’s quarter, primarily to fund natural gas purchases in our non-regulated segment and increase capital spending. During the quarter we purchased about 388,000 shares under our current share repurchase program at an average price of $32.31 per share. Also during the quarter, we resolved the FERC investigation that arose in 2007 in our non-regulated segment. Under the terms of that agreement, we paid about $12 million plus accrued interest. We cooperated with the FERC throughout the process, and had adequate reserves for the resolution. Yesterday, our Board of Directors declared the 113th consecutive quarterly cash dividend. The indicated annual dividend rate for fiscal ’12 is $1.38. Our CFO, Fred Meisenheimer, will review our financial results in greater details now, and I’ll return for closing comments and we’ll open up the call for questions. Fred?

Thanks, Kim, good morning, everyone. As a reminder, because of the agreement to sell our distribution assets in Missouri, Illinois and Iowa, we combine and report financial results for those assets on the income statement as discontinued operations. Therefore, the corresponding detail by line item will be excluded from my prepared discussions. Rate relief remains the primary driver of our success in the regulated operations. Rate increases for distribution Atmos’ pipeline Texas combined, generated almost $13 million of incremental margin quarter-over-quarter with about $5 million for distribution, and $8 million for APT. Specifically, distribution margins were negatively impacted by utilizing required updated weather data to calculate the weather normalization adjustment in the Mid-Tex division, which we expect to substantially flip around by the end of the heating season. Regulated Transmission and Storage, we refer to as APT, benefited from the rate case that became effective last May. Also, during the current quarter, APT’s consolidated throughput rose 5% due to increase through system demand and the execution of new delivery contracts with local producers. Turning now to our non-regulated operations, and you may want to turn to slide number 7. The on-going and on-favorable market cash conditions continue to pressure this segment. We anticipate natural gas storage levels will remain high for an extended period of time, and for unseasonably warm weather to continue during the second quarter of fiscal 2012. We expect gas prices to remain relatively low, with little volatility, and spot to [inaudible] spread values and basis differentials to remain compressed. Realized delivery gas margins decreased about $5 million for the same period one year ago, due to a 4% decrease in consolidated sales volumes, mainly due to warmer weather, which reduced sales to our utility, municipal and other weather-sensitive customers. These decreases were partially offset by a…

Thank you very much, Fred. Capital investment, as Fred talked about is an extremely important component of our earnings growth. As you well know, it increases our rate base, and the more valuable the rate base for a regulated operation, the greater opportunity for increased revenues and growth. And as Fred mentioned, we are projecting investing significant capital on our intrastate Atmos Pipeline Texas system, to increase its capacity to secure new, long-term gas supply on a firm reliable basis and enhance the reliability of our service in certain critical locations along the Mid-Texas system. And this was approved by our Board of Directors yesterday when they added and increased the capital budget for fiscal ’12 by $50 million, as Fred said. There’s two projects that we’re talking about. The first is the Line W Looping project, which is designed to secure new long-term gas supply for the Dallas/Fort Worth Metroplex area. Atmos Pipeline Texas is going to spend between $47 and $52 million in capital to construct a 34 mile, 24-inch high-pressure pipeline North of Fort Worth, connecting Boyd, Texas to a producer’s interconnect in Montague County. The project is supported by a multi-phased firm transportation agreement, with a producer for deliveries to the North side loop, through the year 2019. The rates, which are designed on a straight fixed variable basis will consist of demand fees, which are expected to generate incremental annual revenue of $10 to $14 million beginning in fiscal 2013. A lot of the project up there is driven by the continued drilling by producers of wet gas and gas that’s associated with oil in the Montague County area. Also, during fiscal ’12, through fiscal 2014, Atmos Pipeline Texas is projected to spend between $110 and $120 million in capital to construct a 59-mile, 24-inch…

(Operator instructions). Our first question is coming from Ted Durbin of Goldman Sachs. Theodore Durbin – Goldman Sachs: Good morning, guys.

Good morning, Ted. It’s a shock that you’d be the first one. Theodore Durbin – Goldman Sachs: Maybe I can just come back to the distribution segment. I’m kind of trying to understand exactly – I’m not sure I followed the weather normalization impact here. You’re saying that you think it will largely reverse, it sounds like, in your fiscal second quarter. Can you go again into the drivers of – you bulked up a little bit in the segment, I think about $3 million. What were the drivers for why that went up this quarter?

Well, you know, we’re experiencing unusually warm weather, and so we have redirected our crews, instead of doing O&M type work, they’re working more on capital projects. With the absence of any weather events, we’re not incurring the overtime and additional administrative costs that are related to that and so we’re seeing upsides from those things occurring and reducing the expenses. We’ve gotten some results in some of our rate activity that we’ve had that has been a little better than what we had in our original estimates and so that has improved things. And then also, as we’ve gotten more into this Rule 8 and the benefits from that, we’re able to defer and capitalize certain costs. We’ve realized that there’s more benefit there than what we originally anticipated. So kind of a combination of all of those things. We feel very, very confident in being able to raise the level of income for most of our regulated unit segments, both the utility and the pipeline. Theodore Durbin – Goldman Sachs: Okay, thank, Fred, that’s helpful. And next for me, on the Mid-Tex rate case here, I guess I’m trying to understand how you’re seeing this play out. It looks like you’re – if I look at your Slide 14, you’re thinking you’re probably going to have this 90-day suspension and then, I’m just wondering what kind of feedback you’re getting with your initial filing for the cities. It may be a couple of things. It looks like your more than doubling the fixed charges for the residential customers off kind of the thinking there. And then are you looking to make this into a multi-year settlement like you had last time where you’ll have the RM go forward for three or five years?

Ted, this is Kim. The filing was obviously well known by all of the effected customers because we had a lot of discussions leading up to the time that the case was filed. So they were very familiar with what the case involved and what the case was going to require because all of this was part of the negotiations to extend the current RM. We’re extremely pleased with the relationships that we’ve developed in that we continue to strength with all of the city customer in the Mid-Tex division. You’re exactly correct, we are proposing to increase the fixed customer charge that would be very similar to the way that we designed rates and a lot of other division including – well, most other divisions, but it would reduce the commodity charge. You know, I think the case, the customers continue to be very open and receptive about discussions and are interested and are taking – I mean, this is their opportunity to look and see, you know, why we need what we need, or why we’re proposing what we’re proposing. So we think that there’s a good likelihood, at least we are going to be very earnest and sincere and desires of reaching a settlement in the case. But we, you know, we haven’t baked any upside in the 2012 results. But I think, you know, that the – at the end of the day, the customers are very, very satisfied and I think happy with the way that they are and has operated up to this point. It’s kind of a considered pain of everyone that, you know, at the end of the day we will seek a middle ground, which provides a win-win outcome for all of the parties involved in the case and continue to have an RM after we finish the proceedings. Theodore Durbin – Goldman Sachs: Okay.

We’re pretty optimistic because of the relationships that are there. Theodore Durbin – Goldman Sachs: Okay, that’s helpful and the just this last one for me on these – the new regulated transition lines. I saw that you’ve got the Line W project contracted out to 2019, but I didn’t see what the duration of the contracts for the Line X to Boyd. Can you just talk about that? And then I guess I’m trying to understand, if you’ve got these demand terms that are already locked in from your pre-cert customers, but you’re also going to get GRIP recovery, are you really recovering your cost twice or how does that interplay between GRIP and the drifting demand charges?

Yes, we’ve never recovered our cost twice. No, we’re not recovering our cost twice. They’re two separate projects. The one project is essentially, you know, with the – part of the Rider Rev treatment revenues for third-party transportation. That contract with the producer would be considered part of those third-party revenues and so what we would experience is 25% of the upside associated with those revenues and credit 75% back. The project is very beneficial and it is, you know, moving a lot of volumes that are associated with gas, or I should say with oil in [Inaudible] County. So they’ve got to move. The other project that you’re talking about really replaces an interruptible agreement that the pipeline had been relying upon to provide service for a lot of the regulated customers that it has, in particular, the Mid-Tex division. So you know, we experienced some operating history last year when we had the very peak conditions at the end of January and early February and during those times we have an opportunity to look where certain sensitive spots are on the system and where we need to fortify our assets, and that’s essentially what that project is doing, it’s replacing the interruptible exchange that was relied upon and replacing it with a firm capability to reach the areas that we’re currently serving and that are growing at a pretty good clip in the Dallas-Fort Worth area. Theodore Durbin – Goldman Sachs: Okay. Thanks, I appreciate the detailed answers.

Thank you.

Thank you. Our next question is coming from Faisel Khan of Citigroup. Faisel Khan – Citigroup: Good morning, guys.

Good morning, Faisel. Faisel Khan – Citigroup: On the Line X to Boyd, I just wanted to get a clarification there. What are your expected revenues from that line? You gave us the Line W, but I’m trying to figure out the Line X.

The revenues? Faisel Khan – Citigroup: Right, the revenues that you’ll be producing annually from that particular project.

You’re talking about not the Line W? Faisel Khan – Citigroup: Right, the Line X.

Well, we don’t – it’s a, you know, it would receive the regular rate treatment, so it’s going to earn 11.8% return on equity. It’s going to be – it would be included in our GRIP filing that we make. So it’s going to be treated as part of the regulated revenue side of that business. Faisel Khan – Citigroup: Understood. Can you remind us, on this particular pipeline, how much of that volume – how much of that customer volume is utility base and is producer based?

Yeah, I mean, X would be pretty much all dedicated to providing service to the regulated customers, the utility customers, and that, right now, I mean, you know, we rely on an interruptible exchange agreement with another party that we’ve been told cannot be made firm. What we’ve experienced in that extremely cold snap is that, you know, we need some – we need firm reliable service, particularly on that area of the system because we’ve got some low spots over there on the West side of Fort Worth and then we’ve also got a lot of growth that’s occurring in that area. So it’s going to be regulated, service for regulated customers. To the extent that there’s, you know, additional services provided for third-party producers on off-peak areas, then that revenue also would be counted towards the Rider Rev calculation and then the benefit of credited 75% to the customers and 25% to us. But it’s really a very, very good deal and it’s, you know, it’s an excellent project for the customers that are served by Mid-Tex in terms of reliability and diversity of supplies, but it also provides us significant growth opportunities of our rate base. Faisel Khan – Citigroup: Understood. I just want to make sure I went back to one of your other comments. You said you were projected to grow rate base by about 6% a year for the next four to five years. Is that correct?

No, 6 to 6.5%. Faisel Khan – Citigroup: And what kind of – how much capital are you going to spend to kind of achieve those rates?

This year, we’re – capital budget, we’re expecting to spend $700 million. You know, that’s a $50 million increase as of yesterday. This year, the 638 that we were starting out with was an increase of about 40 million or so over the prior year. Faisel Khan – Citigroup: As you spend that incremental capital, is there going to be a regulatory lag in terms of getting recovery?

A lot of reg money being spent is GRIP eligible and a lot of it comes out of this Rule 8, this new Rule 8, which totally eliminates any lag. A good portion of the money that Mid-Tex will be spending also will be on steel service lines and there’s no lag on that money either. So we’ve got the steel service lines, we will complete that program on 100,000 steel service lines this year and so that money is no lag, GRIP money comes in very quickly and the Rule 8 money is no lag, plus we’re able to defer a lot of the cost; depreciation, interest, et cetera in relation to the Rule 8 spending. So it’s a very beneficial type spending money.

And Susan can get you the reg rate on the capital investment, you know, historically and it’s wrapped up pretty considerably. And then it supports further the lag what we’ve done there. At last count, and I don’t know where we’re at right now, about 90 to 93% of the capital that’s invested on the regulative side of the business begins to earn a return on it’s investment within 12 months. We’ve cut it down considerably and as Fred said, this Rule 8 treatment is really – has ramped up the opportunity to reduce lag. Faisel Khan – Citigroup: And what would you guys say your – the growth rate was in the rate base in the last five years?

4 to 4.5%. Faisel Khan – Citigroup: Okay. Fair enough. Okay, I appreciate the time.

Thank you. We appreciate your time and interest.

Thank you. (Operator instructions). Our next question is coming from John Hansen of [Inaudible].

Good morning.

Good morning, John.

I just want to double check one thing and make sure I got this straight here. In the release, you talked about the, how optimization and the inventory of gas and how some of the accounting worked. I just want to make sure I understand; you made the statement that you expected that to be realized in the third and fourth quarters, the incremental margin kind of got available in inventory there. My question is, is that locked in at this particular point in time, or is it contingent on any kind of changes in price, or is that pretty much locked in?

It’s locked in. The way it’s set up right now, third and fourth quarter, we have locked in gains, you know, that roll off and we will realize the money from that.

So in between now and then, we’re just going to be probably subject to the whims of the prices and remarking each quarter in terms of the inventory?

Yes. You’re going to probably see that, you know, what we’ve experienced in the first quarter for non-reg will continue in the second.

Okay, good. Thank you very much.

And it will be [inaudible] five quarters, three and four.

(Operator instructions). Thank you. Our next question is coming from (Peter Arch of ZLP). (Peter Arch – ZLP): Yes, good morning.

Good morning, Peter. (Peter Arch – ZLP): A couple of housekeeping questions. First, on the sale of the distribution assets, Kim, I was hoping you could update us on where that stands and what needs to happen to get across the finish line.

That’s on track and everything continues to work it’s way through the regulatory process and on the timeline that we anticipated and we continue to expect to have a successful close in fiscal 2012. Probably looking at a May timeline right now when the transaction would close for us. I mean, Iowa and Missouri waived on it and Illinois and Missouri, we’ve had several very positive and successful meeting with the purchaser included and the staff of the Commission involved, and we seem to be working our way with really no big – no show-stoppers, no big issues. (Peter Arch – ZLP): Okay, thanks. And that kind of leads to the next question. On Slide 20, one of the assumptions you’re making, you know, the 230 to 240 this year, the first bullet point is assuming a contribution from these properties of 9 to $0.11 in that - so I'm just trying to understand that that – is that an annualized number or is that the earnings of the discontinued opts that you anticipate through May?

That’s an annual number. (Peter Arch – ZLP): Okay, Fred, and would you have the quarterly breakout, like you did for this quarter where you broke out the discontinued ops for the first quarters of ’11 and ’12? Would you have the third through – second through fourth quarters’ contributions?

No, we don’t have that. We break it out as we report the results, you know, consolidated results and then we break out the discontinued portion and then give some granularity on that because on the [inaudible] financials, it’s a one-liner, but then we show a breakdown on that as we’re reporting our earnings. (Peter Arch – ZLP): Okay, great. And then you know, again, the [inaudible], you lose this 9 to $0.11 of annualized earnings but redeploy the 124 million of proceeds. What will that be…

And that’s correct. And one thing to remember, this discontinued earnings is the accounting required calculation of that and so they do not – the accounting rules do not allow certain costs to be allocated that normally would be allocated to those operations And in the regulated environment, we have the ability to, once we dispose of these assets, to reallocate those overhead costs to other restrictions and recoup that. (Peter Arch – ZLP): I see.

Normal – you know, an unregulated type environment, those certain overhead costs would discontinue and you don’t recoup them. We’re able to reallocate that and recoup those down the road. (Peter Arch – ZLP): How much, Fred?

Oh, it’s in the neighborhood of 6 to $8 million on an annual basis. (Peter Arch – ZLP): Okay, great. Thank you. And the – have you – remind us, have you said what the after-tax proceeds will be out of the 124 million in after-tax…?

Proceeds or gain? (Peter Arch – ZLP): Well, I mean, yeah, the after-tax proceeds.

We just disclosed about a $5 million pre-tax gain is the only thing that we’ve disclosed. (Peter Arch – ZLP): Okay. Fair enough. The other questions have to do with the FERC investigation and you had – you got paid a penalty and some disgorgement of profits, just $12 million. I didn’t know if you had reserved against that or is there earnings that that you felt in your first quarter?

There was no earnings impact to us currently on that. It had been reserved in prior time periods. (Peter Arch – ZLP): Okay, great. Thanks very much, Fred.

Thank you. (Operator instructions). Thank you. There are no further questions at this time. I’d like to hand the call back over to management for any closing remarks.

Thank you, Jackie. I just want to remind you all that recording of this call is available for replay on the website through May the 2nd. Again, we appreciate your time.

Thank you. This does conclude today’s conference. You many disconnect your lines.