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MDU Resources Group (NYSE:MDU)

Q4 2012 Earnings Call

February 05, 2013 11:00 AM ET

Executives

Doran Schwartz - VP and CFO

Dave Goodin - President and CEO

Nicole Kivisto - VP and CAO

Kent Wells - Vice Chairman

John Harp - CEO, Knife River Corporation and MDU Construction Services Group

Steve Bietz - President and CEO, WBI Holdings, Inc.

Frank Morehouse - President and CEO, Montana-Dakota Utilities Co., Great Plains Natural Gas Co. and CEO, Cascade Natural Gas Corporation and Intermountain Gas Company.

Analysts

Timm Schneider - Citigroup

Chris Ellinghaus - Williams Capital

Paul Patterson - Glenrock Associates

Rosemarie Tableau - Tableau Associates

Paul Ridzon - KeyBanc

James Heckler - Levin Capital Strategies

Operator

Good morning. My name is Christy and I will be your conference facilitator. At this time, I would like to welcome everyone to the MDU Resources Group 2012 year end and 2013 Guidance Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period.

(Operator Instructions). This call will be available for replay beginning at 2 pm Eastern Time today through 11.59 pm Eastern Time on February 19th. The conference ID number for the replay is 85150168. Again, the conference ID number for the replay is 85150168. The number to dial for the replay is 1-855-859-2056 or 404-537-3406.

I would now like to turn the conference over to Doran Schwartz, Vice President and Chief Financial Officer of MDU Resources Group. Thank you. Mr. Schwartz, you may begin your conference.

Doran Schwartz

Thank you and welcome to our earnings release conference call. Before I turn the presentation over to Dave Goodin, our President and Chief Executive Officer, I'd like to mention that this conference call is being broadcast live to the public over the Internet and slides will accompany our remarks. If you'd like to view the slides, go to our website at www.mdu.com and follow the link to our conference call. Our earnings release is also available on our website.

During the course of this presentation, we will make certain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. Although, the Company believes that its expectations and beliefs are based on reasonable assumptions, actual results may differ materially. For a discussion of factors that may cause actual results to differ, refer to item 1A, Risk Factors, in our most recent Form 10-K, and the Risk Factors section in our most recent Form 8-K.

Our format today will include formal remarks by Dave Goodin, the new President and CEO of MDU Resources effective January 4th, followed by a Q&A session. Other members of our management team who will be available to answer questions during the Q&A session of the conference call today are; Steve Bietz, President and CEO of WBI Energy; John Harp, CEO of Knife River Corporation and MDU Construction Services; Frank Morehouse, President and CEO of Montana-Dakota, Great Plains Natural Gas, Cascade Natural Gas and Intermountain Gas; Kent Wells, President and CEO of Fidelity Exploration & Production; Bill Schneider, Executive Vice President of Bakken Development and MDU Resources; and Nicole Kivisto, Vice President, Controller and Chief Accounting Officer for MDU Resources.

And with that I’ll turn the presentation over to Dave for his formal remarks, Dave.

Dave Goodin

Thank you, Doran, and good morning. Thank you for your interest in MDU Resources and for taking the time today to join us and discuss our results for 2012 along with our 2013 outlook. It is both the privilege and honor for me to be speaking with you today of course as I am new to this role but I am not new to this company. I have had the opportunity to meet and talk with number of you over my 30 years with the company and certainly I’ll look forward to our continued dialogue.

As I reflect in 2012, it was a year field with many achievements. Our construction businesses grew combined earnings by 47% with higher revenues and margin levels. They are well positioned for 2013 entering the year with higher backlog levels and strengthening across many of our local markets.

The E&P business was able to largely mitigate the effects of lower natural gas prices by continuing to execute their strategy to grow liquids production and reserves. In the fourth quarter alone, our oil production was 59% higher than the fourth quarter in 2011 and 36% higher for the full year.

Our electric utility grew its earnings year-over-year driven by strong customer and sales growth largely in North Dakota where electric customer accounts grew by 9% in the Bakken region and we are on back for an ambitious capital program that will significantly grow rate base over the next five years.

Our natural gas and distribution earnings were affected by warmer weather in 2012 when we compared it with 2011; however, our markets continued to grow near and long term investment opportunities do exist to invest and expand and for 2013 whereon to a great start with favorable weather thus far in January.

And we’re also pleased that our pipeline and energy services businesses, their ability to execute its strategy by diversifying and complementing what was really our historic strategy of focusing and dry natural gas gathering, transporting and storage with expansion into our liquid base opportunities right in our backyard.

Our midyear acquisition of a 50% interest in the Pronghorn natural gas processing facility is performing very well and positions us for a strong 2013 in this business.

We are also excited about the progress we are making on our diesel topping plant refinery in Western North Dakota as well. This project has really great potential for all of our investors.

2012 also had its share of challenges, in addition to that, warmer weather and lower natural gas prices, we continue to evaluate the initial results of our exploration drilling program in certain areas. We will be focused on deploying capital in 2013 into a lower risk, higher return development plays while we continue our evaluation and appraisal process of our 2012 expletory efforts.

Overall, for 2012 our adjusted earnings were 216.8 million or $1.15 per share. This compared to adjusted earnings of 225.2 million a $1.19 per share a year ago. We are really not satisfied with our results. As I look forward, I have confidence on our team and I believe the businesses and industries we operate in are key industries for growth of our economy as well as our nation. I believe that we have many opportunities to work across our business lines where collectively we can add more value for the investor and this is a primary focus of mine. Taking the topping plan for example, where we all businesses will benefit and our investors are rewarded with accretive earnings per share growth.

We will focus on investing in projects that incrementally add both earnings and cash flows while maintaining our commitment to a strong balance sheet. We believe, we can accomplish this growth beginning in 2013 and I’ll cover our 2013 expectations in just a moment.

Moving on to individual business segments results, our construction group had combined earnings for last year of 70.8 million, up from 48 million in 2011. The construction serviced earnings increase reflects record earnings at our inside electric businesses in Oregon and our specialty equipment manufacturing and rental business as well. Our construction materials group saw an increase in the private construction market and a strengthening of markets in the intermountain and north central regions as well as higher ready-mix concrete and asphalt margins as well as volumes.

National indicators, such as 37% higher housing start levels and the strongest builder confidence levels in seven years suggest that we should continue to see construction markets improve. Entering 2013, backlogs have on a combined basis totaled 731 million, 39 million higher than a year ago. Private work now represents 14% of our total backlog up 8% from a year ago. We're also pleased Congress has passed a two year transportation bill. That bill provides roughly $40 billion in highway funding per year and good states and a better position to bid up larger road projects.

There are number of projects and areas, we're excited about for our construction businesses for one, our operations in North Dakota where we currently have $46 million in work backlog with nearly half of that being private work. And the future while looks very bright, North Dakota our governor (inaudible) his budget calls for more than $2.7 billion to be spent on state roads and infrastructure during that coming (inaudible).

This funding level is increasing by over a billion, over our current level just within the state of North Dakota alone. Our construction group has adapted well to a changing market focusing on improved margins. We intend to maintain the lower cost structure, we've worked hard to achieve during the recession and are confident there is room for earnings growth with minimal incremental cost.

Now moving on to our EMP group, adjusted earnings for 2012 were $69.6 million, compared to earnings of $80.3 million in 2011. We were impacted by realized natural gas prices that were down 25% for the last year and as a result we shifted our focus towards higher returns related to oil production.

We prudently reduced our capital investment into natural gas and made certain voluntary curtailments and the divestments resulting in a 27% reduction of natural gas production. Although we have low cost, natural gas properties that can positively cash flow even in today's price environment, we feel it's better for our investors if we focused on oil for now and produced these valuable natural gas reserves in the future when the potential returns are higher.

We are very pleased to report that the increased oil production of 59% in the fourth quarter compared to a year ago which actually accounted to 40% of total production for the quarter is up from 26% last year. For the year, oil production was up 36% over 2011 and at the same time we're able to replace 267% of our total oil production last year alone. Our oil base efforts have generated momentum as we enter 2013. The higher production levels help drive 4th quarter adjusted earnings at our E&P unit of 25.5 million, the highest levels of quarterly earnings for this group since 2009.

As we described in our press release, recent wells indicate that the Bakken continues to perform very well for us. This coming year we plan to invest approximately 200 million of CapEx to develop our high return acreage in the Bakken. We also intend to drill with three to five rigs across our acreage throughout the year. Turning to the Paradox where we hold approximately 83,000 net acres, we have an option to lease another 20,000 net acres. We've seen some encouraging results throughout the year as we work through our six well appraisal program. We are continuing to proceed systematically in this play with 70 million of capital investment plan for 2013. As the play is fully understood, the opportunity to ramp up to full scale development could increase what we invest this coming year. We continue to believe that the potential for the Paradox basin is very significant for us.

Turning to Texas we continue to target areas with a potential for higher liquids content. We've allocated approximately 40 million for this area for this year and anticipate a one rig program. Through our appraisal program in the Niobrara, Central Texas and the Heath shale areas we deferred further development as these investments do not compete economically with other projects that we're presently pursuing.

However we will continue to study these plays and monitor other producer activity in these areas as well. In total we plan to invest approximately 400 million in our E&P business in 2013. With the focus being on high return growth projects in the Bakken, the Paradox as well as Texas. We are projecting a 25-30% increase in oil production year over year.

Now moving on to our utility business. Our utility had a solid year reporting earnings of 60 million compared to last year's record earnings of 67.6 million. The electric side of the business increased earnings by 1.4 million and had an outstanding year as a result of 4% overall increase in electric sales.

Customer and loan growth continues to be led by the Bakken region which added approximately 3,500 electric customers during the year in addition to about 3300 natural gas customers in the Bakken region alone. To meet the demands of the growing customer base in that region, we plan to invest approximately $70 million in 2013.

This planned investment is part, overall record capital expenditure budget for the year of $252 million and be approximately $1 billion, we plan to invest in this business over the coming five years. That would equate to a rate based growth of approximately 6% per year on average.

We are moving forward on a couple of large projects we touched on in the past, but just to remind everybody, one is an 88 megawatt simple cycle natural gas turbine located on property adjacent to our Heskett generating station near Mandan, North Dakota. Total project costs for this generating facility are estimated to be $86 million with an in-service date in late 2014. And we have also got a $125 million Big Stone environmental upgrade with plans to complete that by 2015.

Our natural gas distribution business earnings were lower by 9 million last year compared to 2011. This decrease was largely a result of lower natural gas retail sales volumes primarily due to our mild weather that we’d experienced. In fact temperatures for last year averaged 16% warmer for the MDU service territory and Great Plains, 14% warmer at our Intermountain Company in Idaho and 6% warmer in the Cascade area of Washington and Oregon.

We have natural gas rate cases pending in Montana and South Dakota totaling $5 million of annual rate relief. In Montana we are requesting $3.5 million annually or approximately 5.9% above our current rates. Our hearing has been scheduled for May 1st with the Montana PSC.

Turning to South Dakota, we've applied for an increase of $1.5 million annually or approximately 3.3% above our current rates. Our utility is a solid contributor to our corporation. Really they formed the roots of the company back in 1924. We are excited about its future considering its substantial organic growth opportunities.

Now turning to our pipeline and energy service operations, earnings for 2012 were 26.6 million compared to earnings of 23.1 million a year ago. Results for the year did include a $15 million after tax benefit related to an arbitration charge reversal. This group is making substantial progress in its strategic shift towards diversifying our midstream energy business by expanding into more liquids based activities.

In mid-2012, we purchased a 50% interest in a natural gas processing plant and related facilities in the Bakken area. The 2012 portion of our investment was approximately 100 million and we expect a full year of accretive earnings and benefits from these facilities in 2013.

We have made substantial progress in conjunction with Calumet Refining on the potential building of a diesel topping plant here in North Dakota. This facility would process Bakken crude and market the diesel within the Bakken region.

The permitting process is progressing and the public comment period on the air quality permit concluded just yesterday. The North Dakota public service commission has signed a certificate of public convenience and public necessity approving our utility as the electric provider on the purposed plant.

The land has been purchased near Dickinson, North Dakota for the plant site and total project costs are estimated to be in $280 million to $300 million price range with a projected in-service date of late 2014.

We also continued to expand our transmission assets throughout the year. We completed the takeaway pipeline serving a new natural gas processing facility and we again nearly doubled our takeaway capacity from the Bakken in 2012 compared to the prior year and grew system wide capacity to more than 1 Bcf per day. We are confident our strategy of expanding our regulated transmission assets and midstream presence in key energy plays like the Bakken will yield excellent long term results for this group.

So in summary, 2012 had many achievements along with several challenges but overall we believe that we exit 2012 as a stronger company than when the year started and that we are well positioned to grow as we go into 2013. Our utility is positioned to investment and grow in its rate base.

Our pipeline business is reinventing itself by expanding into liquid based midstream opportunities that will grow both earnings and cash flows here in 2013. Our E&P business is successfully executing its strategy of focusing on more higher return, liquids opportunities with growth in oil production and reserves in 2012 and we see that continuing here into 2013.

Our construction companies are well positioned with higher backlogs and a very competitive cost structure to build on the earnings momentum that we’ve seen for these businesses coming out of 2012. Coupled with a competitive dividend that we recently increased for the 22nd consecutive year, we believe that the earnings generated by our capital program expected to be $807 million in 2013 and $3.8 billion over the next five years will deliver a substantial value to our shareholders. Accordingly, building up our 2012 adjusted earnings results of $15 per share, we are establishing our 2013 guidance in the range of a $1.20 to a $1.35 per common share. We are very excited about the future of MDU Resources.

And operator with that, please open the line for any questions that may be at this time.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Sam Arnold (ph) (inaudible).

Unidentified Analyst

Couple of questions for you. I guess there’s been talk about potentially deconsolidated and I think you guys addressed that on the call but the one thing that I was thinking about is do you get much of tax benefit for the IDRs by having the E&P business kind of merged with the construction and the utility?

Dave Goodin

This is Dave. I’m going to turn to our Chief Accounting Officer for that question.

Nicole Kivisto

Yes, we do realize the benefit in terms of the immediate deductibility on intangible drilling cost if that’s what you’re asking?

Unidentified Analyst

Yes.

Nicole Kivisto

Yes. We do.

Unidentified Analyst

And then the follow up I had is, you gave some decent some good well results in the Bakken and I wondering could you disclose little bit more, were those Mountrail and do you guys have any further updates on some other stuff round on Elm Coulee and maybe Pronghorn?

Dave Goodin

I’ll now turn this over to Kent in just a bit but he's going to touch on our five rig program that we currently have going on in the Bakken. We talked about that in the comments, three rigs are in Mountrail County; two are in Stark County but Kent has the details of those.

Kent Wells

The well results that you were referred to most of the time are Mountrail County, one is in Stark County and we didn't have any results from Richland County, which is what you refer to near Elm Coulee because we deferred some completions there. So I think, with what’s going on in the Bakken and that just elaborate little bit, the biggest game changer for us is what we've able to do the lower our well costs there and at the beginning of the year, we were drilling wells, and I'm talking about 1280 lateral in that $8.5 million to $9 million range. We're now down to $7.5 million and we see ways to get down to $7 million.

So that's starting to open up some new possibilities for us. So on Mountrail County; we've been mainly drilling middle Bakken wells. I would have liked to have been able to talk to you about our Three Forks well but with the cold weather deferred and we will just start flowing to back later this week but that could open up a new opportunity for us in Mountrail County. Then, Stark County there is the one well we did complete in the fourth quarter there, which had good rates. As we continue to bring down those well costs that allows us to expand the area.

And then at Richland County, we have two challenges and the reason we deferred any completions and we're not drilling there right now; one because we're actually drilling in the shale, we've only been able to drill 640s and we need to learn how to drill 1280s. So we've got this steady going on about wellbore stability.

And then also when we took the completion techniques from the benches in Mountrail and Stark County didn’t work as effective in the shale and so we're looking at that and we expect that once we finish those studies, we'll recomplete or we'll complete the two wells that we’ve drilled and haven’t completed and then probably look to drill a couple more wells there before year end.

So, that sort of gives you the whole gist of the activity but we are getting the good rates in Mountrail Stark County and the ability to lower our cost structure like we've done is really making a difference. We're now rig spud release, we just did one week and a half ago and it came in at 16.5 days. That's pretty impressive.

Unidentified Analyst

Yes and so that one was around the Pronghorn area is that the later land or whatever, the one on 640.

Kent Wells

And you're looking on the release I assume.

Unidentified Analyst

Yes on page 8, you have a list of all

Kent Wells

It's the Bauer well.

Operator

Your next question comes from the line of Timm Schneider with Citi Group.

Timm Schneider - Citigroup

Hey guys, just a quick follow up on the Richland county well. When do you think that study will be complete and how many wells do you think you'll drill in '13?

Kent Wells

It's Kent. It'll be about probably two to three more months because we want to do both the wellbore stability and the completion before we proceed. Then we would look to complete the two wells we're having in story. So that could be sometime late, second quarter, third quarter, and then depending on what we see there, we'll start drilling. We have in our plan to drill two more wells that could be more or could be less, depending upon what we see on the recompletions and what we've learned on our wellbore stability study.

Timm Schneider - Citigroup

Are you guys looking to kind of actively add acreage to Richland County projection or is that kind of where you're happy with what you have right now and more focus is kind of on Mountrail and Stark.

Kent Wells

Well we really like the acreage we have in Richland County and it’s 60,000 acres. It's well blocked up. If we can make this work we can really efficient with pad drilling there. So I don't think we need to add any more acreage there so I'll just leave it at that.

Timm Schneider - Citigroup

I noticed you guys drilled a 640 in Mountrail County, I think that was the last one to Flail and was that a down spacing test or why was that drilled on 640.

Kent Wells

No actually, there is still some down spacing to consider out there Timm, you make a good point. But that well was actually just because a 640 had been drilled previously that was the only way we could get to those reserves was a 640. So it was more by necessity rather than choice.

Timm Schneider - Citigroup

Got it, and on the natural gas production guidance for next year at 15% to 25% decline, does that assume any curtailments at all? Is there a legacy kind of decline rate?

Kent Wells

What we've assumed in there is that we will not turn on back any of the Baker, the Delain (ph) and coal bed production that we've already shut in, and we shut it in, in May of last year. So it's anticipated they'll be shut; now we may that back on depending upon what prices do.

Timm Schneider - Citigroup

Got it. If you have a, can you break out the 200 million of CapEx kind of by county in the Bakken for next year, for '13 I should say.

Kent Wells

We'll probably spend, I don't have the numbers in front of me here, Timm, but we'll probably spend half maybe in Mountrail County and with the exception of maybe $20 million in Richland County, the rest would be in Stark County.

Timm Schneider - Citigroup

Okay got it. Just kind of moving on to the Paradox, really quick. In the release it’s kind of was proceed systematically once we get a better understanding of the play, and can you just give us an update on what you mean by that and what kind of the average IP rates were there. I think you have drilled six wells so far, is that right?

Kent Wells

Yes, you are right. So let me start with our 12-1 well that we talked about last time. We ramped it up to 1,500 barrels a day. Today it is still producing 1500 barrels a day and flowing at over 2200 PSI. I think it’s going to be very interesting to see after that well has been on production for six months.

So we have been producing, in a week’s time it will be producing four months at 1500 barrels a day, each and every day. And I think as we compare it to the best wells drilled anywhere in the U.S. onshore that were drilled in 2012, it will be interesting to see where that stacks up because very few wells sort of hold on to that kind of rate. Even if they start at 5000 barrels a day, they quickly drop down below this number.

So we have established the potential on the Paradox as really impressive. Our issue is our ability to repeat that. This is a very complex reservoir, it’s complex to drill, I think we have resolved the drilling issues. What we don’t know is if we don’t quite understand the reservoir or our completion techniques aren’t quite right. We don’t frac these wells. All we do is perforate them.

So I think we just see enormous potential here but we haven’t unlocked it. So the systematic piece that we’re talking about is we’ve taken a core of which we have done a bunch of analysis. We have learned some things from that. We are doing some pressure trenching analysis work to understand drainage areas, and what we don’t want to do is get a number of rigs going and get ahead of ourselves. So until we fully understand the play we are going to continue to go at one rig.

But once we sort of feel we really understand it can repeat the high rates, then we will look to be much more aggressive in our development. We have shadowed another seismic. We now have most of our acreage under 3D seismic. We only had about half of it up until a few weeks ago. So we will analyze that and that will give us an opportunity to further expand. And then you remember this Timm, probably from the analyst presentation, there is a number of our poll zones, that once we fully understand the Cane Creek, there’s actually a total of 30 additional classics above it. We’ve focused on 10 we’re going prioritize on four. The potential here is just enormous.

Timm Schneider - Citigroup

And what is the current production in the Bakken and Paradox if you have those numbers?

Kent Wells

I think on a net basis, the Bakken’s around 7000 barrels a day and the Paradox is around 1600 or 1700 barrels a day.

Operator

Your next question comes from a line of Chris Ellinghaus with Williams Capital.

Chris Ellinghaus - Williams Capital

Can you guys give us a little more color on what’s been going on in construction and what the backlog looks like?

Dave Goodin

Yeah, I will turn that over to John Harp.

John Harp

Our backlog is up, both entities are up year-over-year and Chris if were to look at the construction groups and kind of look in back the last couple of years, it looks like 2010 was really the bottom of the market, both CSG and Knife River started to move their number up year-over-year and have done that done for the last three years. So if you think about that, I like that trend. Obviously revenues grew 8% - 9% 8% at Knife, 9% at CSG.

We grew earnings at Knife River by about 19% and CSG just kind of had an exceptionally and we grew that by 77% and there is some indicators also in the private side particularly for the Knife River group, we’re starting to see those numbers move up from 8% 14% and in Dave’s comments today he talked about the confidence in the homebuilders and we’re starting to see a little activity there and I think that’s gangbuster spud. You look at our cost structure; you look at how competitive we are in these markets and back to our people which I always advocated that we have the best people in the industry. I like our chances.

Chris Ellinghaus - Williams Capital

On the pipeline side it sounds like you made a tremendous amount of progress on the diesel topping plant. Have you got any aspirations beyond that project?

Steve Bietz

Chris, this is Steve Bietz. Certainly, we continue to look for other opportunities. We have had some discussion with our partners there of potential not expansions but kind of other projects that could come off of that and we are looking to that would be opportunistic as we look at those things.

Chris Ellinghaus - Williams Capital

Okay. And just back on the diesel topping plant. As far as the Bakken and the expansion and the diesel you said what sort of market share might that plant have and what additional kind of infrastructure assets do you foresee needing it in North Dakota?

Steve Bietz

If you look at the diesel demand in the state, we’re probably somewhere in the 45,000 to 50,000 barrels per day. It’s about 22,000 barrels produced in the state of North Dakota at the refinery here in Mandan. So you can see that the state itself is a pretty large importer of diesel. With the continued oil development and projections take that 45,000 to 50,000 barrel a day usage up closer to 70,000 over the upcoming years and if you look at our plant we’re talking probably 7,000 to 8,000 barrels of diesel being brought onto the market. So, I guess from market prospective it’s not a huge amount of additional diesel within the state given the growth that’s anticipated.

Chris Ellinghaus - Williams Capital

Okay. So, there is definitely some additional room for assets there?

Steve Bietz

Yes.

Operator

(Operator Instructions). Your next question comes from the line of Paul Patterson with Glenrock Associates.

Paul Patterson - Glenrock Associates

I thought I missed this, with the write downs in the E&P and what have you, how should we think about the ongoing impact on DD&A in this year and next?

Kent Wells

Paul, this is Kent. DD&A rates are going to be in the $17 to $18 range for 2013.

Paul Patterson - Glenrock Associates

Okay. And then with respect to the construction property sales in 2012, I know they were less but could you give us a feeling as to what the total amount was?

Kent Wells

Actually our sales were $4 million more in 2011 than they were in 2012.

Paul Patterson - Glenrock Associates

And what’s the total number for 2012?

Kent Wells

About 2 million.

Paul Patterson - Glenrock Associates

And then with respect to that of the topping plant, you mentioned I think $280 million to $300 million of CapEx. How should we think about the return on that, the financing of that I guess? You mentioned on one hand, I think the project itself was attractive but you also had sort of synergistic benefits with the other businesses and just wondering if you could without too much detail but just sort of a general sense as to sort of what we're looking at there in terms of the return potential what have you.

Dave Goodin

Yes Paul. I'll start and then Steve Bietz will maybe get into few more of the details but when you think about this project, it really will touch all of our business units which is really I think leveraging our talents, where he talked about the public convenience and the necessity for electric business utility to service facility, it's going to be about a 5 megawatt load about 1% load growth rate there. You think from a natural gas providing input for the plant, we've got the pipeline in its proximity. So we’ve got the pipeline associated with that.

Mr. Harp's business group both at the construction materials and construction services, we've got civil work, foundations, certainly, electrical expertise. So they can kind of provide a variety of services there as well and certainly the raw product could be produced from fidelity with our Stark County acreage that we’ve got there as well. So it really touches on all parts of our business unit. Steve can talk about some of the details relative to the plant itself but I'll turn it over to Steve.

Steve Bietz

I guess Paul from the project itself, either way $280 million to $300 million will be invested. From a return perspective, certainly we view this as a high return type project, we’ve not shared specific results but certainly much higher potential returns, much higher returns than what we’ve experienced at the pipeline kind of commensurate with the project. We're hopeful that we can find ways that even though the project looks very positive, that they’d even make it look better as we go over here and kind of driving down some of the capital costs and so forth.

Paul Patterson - Glenrock Associates

Okay I mean I realize that you guys feel a little bit tense about qualifying but I'm just sort of curious, I can't help but be really curious. When we're thinking about it, it sounds like the projects itself look very attractive on its own but then there are these adders. Can you give us some flavors to how much, the adders being the rest of the business synergy, just sort of wondering what how much sort of percentage wise, let’s just make up 12% and then on top of that, what percentage would that bring it up to sort of thing. Do you find any just relative order of magnitude with the synergy that you guys are talking about, do you guys look at it like that at all. Do you follow what I’m asking?

Dave Goodin

I think I know what you're asking Paul, and I think at this point we're going to look, focus on the project itself and it's a standalone project in and of itself on its own merits, and that's the midstream opportunity in front of it. The purpose in talking about it on a broader sense are the other skills and abilities that we bring as a corporation particularly in our own backyard to kind of leverage off whether our construction talents, our electric distribution talents, our pipeline talents, certainly the lot of crude product, those are all what we view as adders to it and we would expect, I'll leave it at normal margins associated with those, it'll be under tariffed rates for instance on the electric. There's not anything unique there, it's a tariffed rate in North Dakota. So, it would be expected at our normal margins provided to the plant.

Paul Patterson - Glenrock Associates

So sort of I mean, this is clearly icing on the cake, and it sounds like a considerable amount of icing but how much is, it depends I guess on the type of business I guess. Is there any, I mean I understand that, A. Do I understand that correctly and this is finally through to the follow up on that, considering where you are in the Bakken and all this other stuff, and your business, disciplines in your business, do you see other opportunities like this? Sort of back to Chris's question, anything else we might think about here that could happen here like this or is this all unique.

Dave Goodin

Well I talked earlier about our business development teams and if you just look back in the last six months or 12 months, we closed the Pronghorn facility with Steve and his group on the midstream thing. That was just seven months ago that we closed that. In fact we're adding compression and some fractionation for this coming year to increase our stream on the inlet side and we'll end up ramping that up. We've got the topping facility right here and clearly we've got business teams looking at opportunities. we're not at a point to be talking about any specifics here today but clearly we can bring a variety of skills and business acumen right in our own back yard, and that's really the key for us here.

Operator

Your next question comes from the line of Rosemarie Tableaux, with Tableaux Associates.

Rosemarie Tableaux - Tableaux Associates

I have a question with regard to the write off of the gas properties. At the current price of natural gas, and people are talking variously about maybe it will increase, maybe it won’t, but it looks like there is, there continues to be more drilling. But is there a lot of shut in capacity along the lines there so won’t be more increases, I’m wondering about the rest of further write downs on the properties?

Kent Wells

This is Kent. Of course what we have to remember is on the impairment, we used the previous 12 months price, not the future price, which is the proper accounting treatment but very confusing, and the price was considerably lower in the trailing…..

Rosemarie Tableaux - Tableaux Associates

Was it 280, was that the price that was used?

Kent Wells

Yes I think, exactly 275. And then if you could look at the futures price for the rest of this year, more or like 350 and next year is more or like $4. So, it’s a slightly different environment. We do have some gas shut in that we have chosen to shut in. We didn’t want to produce it when the gas price was $2, and we actually feel very good about that decision. Of course now it gets tougher to make, when do you turn it back on?

Whether other companies had done the same, I can't speak to that. So I don’t know if there is other volume shut in or not, but we certainly chose to, and we chose to in our coal bed property, just because there are higher costs, and it didn’t make sense for us. In our Baker and Bedouin(ph). We actually have low lifting cost there, but just due to transportation cost and other things our net backs weren’t sufficient and so we get quite an uplift as the price comes up. So we would anticipate turning that on, hopefully sometime this year, if gas prices continue to increase. But we don’t have that in our plan yet.

Rosemarie Tableaux - Tableaux Associates

Okay, and then I have another question if I may, and I have been wondering and kind of asking as I go to all the meetings, about the use of natural gas as a fuel for the trucks.

Dave Goodin

Yes Rosemary, I will turn that over to Frank Morehouse. The Utility once for a time ran a fleet on compressed natural gas, actually.

Frank Morehouse

Yes, we find that there is potential opportunity, a little bit of a chicken and the egg effect here. We don’t see many of the manufacturers in Detroit turning vehicles that are equipped to utilize either CNG or LNG. The liquefied natural gas appears to be perhaps a little more relevant for the long haul and over the road. We do have a group within the utility investigating the potential for natural gas as a transportation fuel as well as potentially a fuel in the oil field for the drilling rigs and things of that nature. So we definitely have an interest in it, we’re working closely with our elected officials. Certain jurisdictions out there have decided that they’d like offer some tax credits and things like that. The state of Oregon is looking at it very seriously. So we do think there is potential. I think we’re probably out three to five years before we see it fully developed.

Rosemarie Tableaux - Tableaux Associates

Because this seems to be made to order for 18 wheelers just making the trip back and forth to the rails and I know that Cummins engine for sample does have engines that are using compressed natural gas, but I think that they are adding it onto the regular engine so that you can switch it kind of with your fuel and that we reduces the amount that they can carry because they do have to make room for two engines, but I would think that that would be particularly cheap since the natural gas is right there although I don’t know whether you have processing plants to clean up the gas to get it ready to be compressed.

Frank Morehouse

That is the challenge that we faced especially right here in North Dakota. The gas stream here in North Dakota has fairly high content of ethane and the ethane has created some detonation difficulties when we’re try to utilize that as compressed natural gas as a transportation fuel. We do look to LNG as a very near viable option. Again some of that is infrastructure, there are not any liquefied natural gas liquefaction facilities here in North Dakota that time and one of those are the fairly costly facility.

The Intermountain Gas Company actually does have LNG plant and has offloading capability there. The difficulty portion of that is the transportation cost to get from Nampa, Idaho out to say the Williston area or Bakken area would be somewhat prohibitive to transport LNG that far.

Operator

Your next question comes from the line of Paul Ridzon with KeyBanc.

Paul Ridzon - KeyBanc

What percent of your construction services backlog is private?

Dave Goodin

A vast majority of its private. We do hardly any federal work. REAs would be an example on our outside but I’d say a large majority of it is private. Very little of our work is public.

Paul Ridzon - KeyBanc

And as a construction materials where it is private as a percentage of total work peak?

Dave Goodin

Well, the peak of Knife River was 2006 and the private work in 2006 was 40%.

Paul Ridzon - KeyBanc

40, four zero?

Dave Goodin

40% and as we mentioned earlier we finished the year at 18% this year. So, you can see, we got some room to grow but we think it’s going in the right trend.

Paul Ridzon - KeyBanc

And you currently have a $406 million of backlog at materials. How much of that will be completed within the year?

Dave Goodin

Let’s say a 30% to 40%.

Paul Ridzon - KeyBanc

Well, 30 to 40, okay. So, we should start to see a private really start sell here you think.

Dave Goodin

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Well, I mean the areas where we’re seeing the private pickup is particularly in North Dakota with the development in the Bakken and a lot of residential and private work in those areas. And we’re starting to see other pockets like we mentioned in the release of the housing confidence and the housing starts we’re starting with up. So, we’re starting to see other pockets of some of the market areas - in the Intermountain area we’re starting to see some pick up but we’re coming out of that. I said 18% a minute. That’s where we are at the third quarter. We were actually at 14% as we finished the year.

Paul Ridzon - KeyBanc

And then beginning in the call one of the topics discussed was kind of some disappointment around the exploration. Is that just around the sealing test right now?

Kent Wells

This is Kent, Paul. No, our disappointment was there was a number of different plays we chose to evaluate last year and they didn’t turn out to be the economic successes that we hope for. So that was really our disappointment until we’ve worked very hard at our explorations processes, we’ve made some adjustments and we’re approaching what we do on exploration basis going forward very differently.

Paul Ridzon - KeyBanc

And you have Niobrara where else is kind of disappointing?

Kent Wells

Niobrara, Central Texas in particular, the heat, the jury is still out because we are making profitable production out there but it’s not the play we wanted it to be and so we’re still doing some work there. The Niobrara, like I say, there is another play called Cordell that others are playing and that play might come back to us yet, but right now we don’t have anything to pursue from a development perspective there.

Paul Ridzon - KeyBanc

But you've gotten all your money back out of the Niobrara , correct.

Kent Wells

Well I think what you're referring is the transaction we actually did where we sold a 25% interest and I'll just say that we’re very pleased with the deal we made at that point in time.

Operator

Your next question comes from the line of Timm Schneider with Citigroup.

Timm Schneider - Citigroup

Its couple of follow-ups. In the Paradox Kent, what are your drilling and completion costs running out right now?

Kent Wells

Yes, so if we're drilling a first well out there in exploratory, its about $8 million and then follow on development wells are more in $5.5 million to $6 million range and the big difference in the cost is what we do for exploration and we ended up drilling a pilot hole first and when we get to the development wells, we can drill more like we drill them in the Bakken and the Paradox is only 7500 feet through vertical depth versus 10,000 in the Bakken. So that's you have lower the cost structure there.

Timm Schneider - Citigroup

Can you kind of walk us through structure that you can earn into? I think its 20,000 acres. Is that with another operator and what are the perimeters around that?

Kent Wells

Yes that's a block of acreage known as the hatch point unit and for every well we drilled we earned 5000 acres. So we have the option of just drilling one or drilling four and earn based on that percentage.

Timm Schneider - Citigroup

What's your total well plans or wells planned in the Paradox in 13?

Kent Wells

Well as I explained earlier, we're going to stay with a one rig program until such time as we think we should become more active. Wells were typically taking about a month and a half drill. Now we got that down more to like about 35 days. So we're going to be somewhere in seven to eight wells but perhaps a few more if we continue to improve upon our drill types.

Timm Schneider - Citigroup

Got it, in the Paradox is that all BLM lands?

Kent Wells

No there is a lot of federal acreage BLM lands but there also is some state as well.

Timm Schneider - Citigroup

How does your acreage break out on that on the percentage basis?

Kent Wells

I would say most of it is federal land and most of it in the Cane Creek unit. I just don't have a breakdown for you Timm on how much state and federal. We can get back to you on that.

Timm Schneider - Citigroup

Yes that's fine. And then switching real quick to the topping plant, is there anything embedded in 13 CapEx guidance at the pipeline segment for this project yet?

Steve Bietz

Yes it is, Timm. We've built in kind of our expected costs for '13 and at this point we've included $75 million for that.

Timm Schneider - Citigroup

75 in '13, so when do think you can actually break ground? Is that a kind of a second half '13 event or more '14.

Steve Bietz

It's really predicated on our air quality permit. We're not able to proceed with construction until we receive that. As you know that was out for public comment. That just closed yesterday. So things probably still wait on some of that but once we get our permit we would be in a position to move forward.

Timm Schneider - Citigroup

How long does that typically take?

Steve Bietz

I think it’s dependent on kind of just working through the process and the North Dakota Health Department really is in control of that. We plan to work closely with them to help continue to move that process forward and we do expect to break ground, or we're hopeful we break ground here this spring.

Timm Schneider - Citigroup

Got it, and then just the last question, it's kind of on the financing side I guess. So if I'm looking at the CapEx guidance, the dividend it's about $950 million of cash outflows in '13, to the extent this kind of is above your operating cash flow. How comfortable are you, this can be bridged you know, via debt? Is there any equity at all that's in that in '13 guidance and how do feel about if there were an opportunity maybe to pick up some more acreage at the E&P segment or around those parameters.

Doran Schwartz

This is Doran. Clearly cash is tighter as we enter 2013 versus when we came into 2012 but I think we really have a lot of options available to us as we think about our financing plans here going forward, and some of the growth that we've got in front of us, lot of it talked about already on the call.

Operating cash flows have been and will continue to be the primary source that we're taking a look at to fund ourselves as we go forward. We're viewing in our forecast that operating cash flows are going to improve off 2012 levels and again that's into a lower CapEx forecast for '13 versus '12, and remember too from a cash flow standpoint, we did pay five dividends in 2012 and we'll pay three in 2013, and really I guess as we take a look at our plan we're not targeting, trying to meet that plan. We want to exceed that plan.

That would obviously help cash flows as well. That's one source as we take a look at it. The balance sheet is strong to your point, that does give us flexibility in terms of using moderate levels of debt to finance ourselves. Clearly we want to maintain a strong balance sheet however, and as you saw on our Press Release too we did have in 2012 some asset sales. We don't put a whole bunch into our plan as we think about 2013. That certainly could be another source of cash for us.

And then Timm we are also evaluating the potential of establishing an equity drill program or an aftermarket program where we could issue equity in large part to fund the larger projects you have talked about. As it relates to the topping plan, our utility growth program, but really as a last resort, only if we need it.

And in two projects that would obviously be very accretive as we talked about the topping plant, and then investing at the utility with the allowed ROEs that we have there would be very creative and beneficial for the shareholders. So really we feel like, we’ve got a lot of options available to us as we think about financing for early ‘13 and ‘14 and beyond.

Timm Schneider - Citigroup

Okay got it. Then the last two questions are in the construction segment. So it looks like at the material segment it was pretty tough comps year-over-year. Was any function -- I don’t remember this off the top of my head of just an unseasonably strong Q4 11? Is that kind of what had happened there?

Doran Schwartz

Yes, we also remember the Minnesota government shut down which really had an impact, it pushed some of the work that we would have done actually in the second quarter and in the third quarter, it really pushed it into the fourth quarter, and we are fortunate that conditions were still good enough in the field to execute that work but that was the big driver and then we had a pickup of about $2.4 million after tax on some assets that we sold in the fourth quarter last year. So when you look at that and if you just take our the equipment sales, we’re down about $2 million quarter-over-quarter for Knife River in the fourth quarter.

Timm Schneider - Citigroup

Yes, then reading through the news here, there was a news flash that came out, highway bill signed on Monday, $720 million immediately available for road kind of improvements. What does it do for you guys? How much of that do you think you can capture? I think they were saying bidding starts as early as February 15. Are you guys actively part of this?

Doran Schwartz

Yes, you are talking about the fast-track bill that was signed by the governor here in North Dakota.

Timm Schneider - Citigroup

Yes, I think it came out Monday, or something like that.

Doran Schwartz

Yes, I looked at the Press Release. We were excited. We looked at it. They got a list of the bid lettings, and lot of those areas are in our sweet spot. As you know, not only we have the materials but we also put out some satellites last year with ready-mix facilities in different pockets of the Bakken play and in North Dakota. So we like our chances not only on the bid-day of winning some of that work but also one of our strategies going forward is we actually want to be a customer to some of our competitors.

And what I mean by that, Timm, is being able to sell materials if we’re at the right location with the right price, we’ve got to be able to have an opportunity to sell something. Just because we’re not successful say at a bid-letting on DOT-work, we got to reach out to our competition and if we can provide good quality rock on a good price and good delivery that’s an area where we can grow and improve our margins because we know that we need to continue to improve on our margins both in the construction and materials but this is good news.

If you look at the Governor’s plan here in North Dakota, it’s increasing by $1 billion. It was 1.7 billion, it’s going for 2.7. This fast-track bill that went through the legislature very fast which was signed on Monday, is just an acceleration of the needs that are out there and again we are in a very good position, it’s in our backyard and we’ve got good skilled workforce, we’ve got people in place, we’ve got the housing in place, we have the infrastructure in place to execute.

Timm Schneider - Citigroup

Okay got it and then actually I lied, I have one more on the E&P. The two vertical wells you guys tested in Sioux County anything on those?

Dave Goodin

I think as we mentioned before Timm on previous calls, we are not saying much about what’s going on in Nebraska just because the competitive nature there. We do expect despite the horizontal well within a month’s time and then at some point in the future we’ll talk about the results and what action we’re going to take going forward.

Operator

Your next question comes from the line of James Heckler with Levin Capital Strategies.

James Heckler - Levin Capital Strategies

There has been a suggestion that the considerable value in your groups of businesses that you own that might not be reflected fully in the stock price and I know you’ve been an integrated company for a long time. In that content I was wondering if you can talk the value in being an intergraded company, what you see currently and going forward?

Dave Goodin

Yes, I will take that one James. Certainly aware of reports that you’re referencing. I think when I look at our company as an opportunity here to take the helm, I think one needs to think about our abilities that we have across all of our business units and certainly one of the key themes and initiatives that really got started last year and we’re really accelerating on that is working across our business units and really leveraging skills and talents and we’ve already talked about some specific projects that I think we’ll start to highlight out or marquee that.

But clearly what are other monitor is we need to execute on the projects in front of us and I think when you take a look at our guidance that we provided just today for the coming year seeing some growth there, when you take a look at some of the projects that are very tangible projects and kind of moving along, ones we’ve talked about already today, signs of the economy, clearly we need to demonstrate that value among our business units. I think we will do that and at the same time we’re cognizant of what others think about our various lines of business but it’s incumbent on us as leaders in this corporation to really leverage that.

I guess our skills and our strength across our business units and so that’s a long way saying. I’ve looked at those reports, I think it’s interesting to kind of contemplate that. Currently uncomfortable with where we add on our current business mix but it’s incumbent on our leaders that we have in the room here to execute on the projects we have.

Operator

(Operator Instructions). This call will be available for replay beginning at 2:00 p.m. Eastern today through to 11:59 p.m. Eastern on February 19th. The Conference ID number for the replay is 85150168. Again, the Conference ID number for the replay is 85150168.

Dave Goodin

We appreciate everybody’s participation on our call today. We certainly will keep you updated as we move throughout this year. Our Annual Analyst Seminar will be held in New York on March 14th, so we hope to see you there or have the opportunity to visit and speak with you again soon. Again, thank you very much for your interest in MDU Resources.

Operator

This concludes today’s MDU Resources Group Conference Call. Thank you for your participation. You may now disconnect.

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