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Executives

Steven Cave - Managing Director, IR

John Somerhalder - Chairman, President and CEO

Andrew Evans - EVP and CFO

Doug Schantz - President of Sequent Energy Management

Hank Linginfelter - EVP of Utility Operations

Analysts

Michael Mazar - BMO Capital

Barry Klein - Citigroup

AGL Resources Inc., (AGL) Q2 2009 Earnings Call July 30, 2009 9:00 AM ET

Operator

Welcome to the AGL Resources second quarter 2009 earning conference call. My name is Brandi and I will be your operator for today. At this time all attendees are in a listen-only mode. We will conduct a Q&A session towards the end of this conference. (Operator Instructions) I would turn the call over to your host for today, Mr. Steven Cave. Please proceed sir.

Steven Cave

All right, thank you, Brandi, and good afternoon, everyone. Thanks for joining us today to review second quarter 2009 results. The speakers on the call today will be John Somerhalder, our Chairman, President and CEO, Andrew Evans, our Executive Vice President and CFO. We have several other members of our management team here with us today to answer questions following the prepared remarks.

As you know, we issued our earnings release and filed our Form 10-Q this morning, before the market opened. If you don't have copies of those documents, you can get them those on our website.

Before we move to the prepared remarks, let me just remind you that our discussion today may contain forward-looking statements and that our actual results could differ materially from those projected in the forward-looking statements. The factors that could cause such a material difference are included in our press release and in our 10-Q and are more fully described in our most recent 10-K filing.

We also used some non-GAAP measures in describing our business and a reconciliation of those measures to the GAAP financial measures is available in the earnings release and SEC filings, as well as on our Web site.

So we will begin today's call with some prepared remarks, and then we will open the line to take your questions.

And with that I'll turn it over to John.

John Somerhalder

Thanks Steve and good morning. Today we reported second quarter earnings of $0.26 per diluted share, compared with a $0.15 per share loss during the second quarter last year. On a year-to-date basis we have earned a $1.81 per diluted share compared to a $1.01 per diluted share for the same period of 2008.

Drew will cover the financial drivers in more detail, but first I want to update you on a number of recent events.

This morning we issued a joint announcement with Piedmont Natural Gas, that we have reached an agreement that resolves an issue related to our buyout option on the SouthStar partnership. Under the terms of that agreement, we will purchase half of Piedmont's ownership share of the business for $57.5 million. As a result, once over, we will own 85% of the joint venture and will receive 85% of the annual earnings, while Piedmont will own 15% of the joint venture.

The effective date of the agreement is January 1, 2010. Both companies have received approval of this transaction from our respective Boards of Directors. And we will now need to get final approval from the Georgia Public Service Commission.

We have a longstanding partnership and relationship with Piedmont and they have been very good partners and we look forward to continuing that partnership. This transaction puts more certainty around the partnership structure. Importantly, it will provide immediate value to our shareholders and is a solution that works very well for both companies. The agreement will also result in the dismissal of the outstanding lawsuit that Piedmont filed in the Delaware courts earlier this year.

Now turning to our regulatory strategy; as you know, we filed a request with the Georgia PSC in June for approval of a program that will significantly enhance our pipeline infrastructure, particularly in the outlying areas of Metro Atlanta. That program, which we call STRIDE or Strategic Infrastructure Development Enhancement would be a ten-year program and the request we have filed with the Commission is for the initial three-year period and for approximately $176 million in capital expenditures.

Our proposed recovery mechanism for the STRIDE program is essentially the same as our pipeline replacement program, which uses a monthly rider on customer bills to recover costs rather than these costs being embedded in our base rates.

The PSC issued a procedural schedule in July and we expect a decision on the program in early October. That leads me to the Georgia rate case and our recently announced decision to delay filing that case until early next year. As you know we have planned to file the case in November, as required under the rate case order issued by the PSC in 2005. We will now focus first on working with the Commission evaluate and implement the STRIDE program and then we plan to file our Georgia rate case in the second quarter of 2010.

We have made and continue to make prudent investment in our Georgia business and fully intend to seek recovery of those investments. We remain cognizant of the impact of base rate increases on our customers particularly during challenging economic times. The good news is that the impact of lower natural gas prices should more that offset potential base rate increases.

Now turning to our major capital projects; we continue to make very good progress on both our regulated and our unregulated pipeline and storage projects. Both Hampton Roads Crossing in Virginia, and Magnolia project here in Georgia are on schedule to be completed and in service by the end of this year. The Golden Triangular Storage project in Texas remains on schedule for the first cavern to be placed into initial commercial operation in service in the third or potentially fourth quarter of 2010.

With that I will turn it to Drew for the financial discussions.

Andrew Evans

Thanks, John. Good morning, everybody. I will cover a few of the major earnings progress for the quarter in the year and then we can go to your questions.

We have had good improvement in distribution operations for the quarter and year-to-date relative to last year, with a $6 million and $13 million EBIT increase for those periods respectively. The improvement was largely a function of higher margins at Atlanta Gas Light, from carrying charges we receive for storing natural gas on behalf of marketers and Georgia, and higher revenues resulting from more investment in pipeline replacement and improvement.

Operating expenses are running slightly higher than last year mainly because of higher depreciation, pension and environmental liability expenses, and slightly higher bad debt expense. In this area we are seeing about a $1.5 million increase relative to an expectation of about $15 million full year, so important for capital to be material for the total. Overall the earnings improvements in the distribution business is a good result, given the fact that we remain challenged from a customer growth perspective.

I pointed this out in our last earnings call but should probably reiterate the point that we have variable sensitivity to downturn in the industrial sector, as only about 5% of our total utility margin is generated from industrial customers across our six utilities.

I know this is trend that is impacting some other companies in our space and I wanted to make sure you understand how limited our exposure is in this area. Just to put it in perspective our top 20 utility customers represents less than 2% of our total utility receivables exposure.

In the retail segment, second quarter typically is not a big driver for us. SouthStar's results were fairly flat year-over-year and on a year-to-date basis are equal to last year. We had higher margins from the management of transportation storage assets during the quarter, but those gains were offset by lower customer count and higher numbers of customers moving to low margin fixed price contracts.

Those same trends largely drove the year-to-date results as well in addition to the impact of $6 million lower cost to market inventory adjustment in the first quarter of this year, as a result of declining natural gas prices. If you recall, we did not record a similar adjustment in the retail segment in the first half of 2008.

The wholesale segment is clearly the largest year-over-year driver Sequent had an EBIT loss of $11 million for the second quarter, compared to a loss of $65 million during last year's second quarter. The significant difference there is that we had $55 million in hedge losses that we recorded in last year's second quarter as a result of increases in natural gas prices and the widening of transportation basis spreads.

This year, we saw declining gas prices and narrowing transportation spreads, which resulted in $13 million worth of hedge gains. We also saw lower commercial activity during the quarter relative to the prior year period as a result of lower market volatility. However, during the quarter, we were able to build up storage inventory and create economic value that will be recognized later in the year and early next year. You can now see our inventory rollup schedule in the queue, which describes about $14 million of value not yet recognized in this year and some into 2010.

Year-to-date Sequent EBIT of $27 million compares with the loss $64 million for the same period in 2008 and again the differential reflects changes in natural gas prices transportation basis spreads and the relative hedge movements that I just described.

Its important to know that the hedge loses we recorded in Sequent in the second quarter last year, were substantially recovered in last year's third quarter as we saw a significant decline in NYMEX prices. So if you model out the rest of the year, you should keep this issue in mind as it will impact the comparability of quarterly results year-over-year.

We reported $0.85 of earnings in the third quarter of 2008 on normal its much closer to the mid to high teens that assumes static price to variability, its still reasonable to expect in 2009.

In the Energy Investments segment, keep in mind that last year in the second quarter we had $7 million in operating revenues associated with AGL networks Phoenix expansion, a sale that's largely a one-time gain and we do not have at this year. So that is why you see relatively large variance quarter-over-quarter.

Just one other item to note and that's liquidity; we have benefited significantly from this year from lower natural gas prices and their impact on working capital requirements. You may recall last year that we built nearly $1 billion worth of inventory at its peak when natural gas prices were in the $10 to $12 range.

This year we have seen a significant improvement in working capital as a result of lower gas prices that are in the $3 to $4 range and taken the opportunity to built significantly more inventory at this point in the summer than last year. We're about 90% full relative to a 75% build at this time last year. These percentages are estimates of our total but are representative of our [fill].

Our short-term debt is down nearly 20% relative to the last year and we continue to have good access to the commercial paper markets. We have also no outstanding borrowings under out $1 billion credit facility, and the supplemental $140 million facility. One thing I would like to note is that the $140 million facility expires in September of this year and we don’t anticipate needing to renew that facility. Those were the major drivers and for the quarter and for the year.

So, with that we will move on to your questions.

Question-and-Answer Session

Operator

(Operator Instructions). And your first question comes from Carl Kirst with BMO Capital. Please proceed.

[Michael Mazar - BMO Capital]

Hey, guys. This is actually [Michael]. Sorry about that, I was on mute. Had a question on the SouthStar deal. Can you tell us if there is any long-term debt sitting on SouthStar?

John Somerhalder

No, there is not.

Michael Mazar - BMO Capital

There is none? Okay. And then also, I know there is the $75 million facility that was fully drawn in at the end of 2008. Is that just normal for working capital purposes?

Andrew Evans

Yes, this is generally consistent with inventory build. We don’t have any outstanding under that facility today, because SouthStar is part of our money pool. So, any inventory built for them would be reflected in short-term balances at corporate, but, we haven’t had any need too, because of declining gas prices.

Michael Mazar - BMO Capital

I guess the next want to be on Sequent. Recognizing there is kind of a lot of noise going on there. Generally speaking, when we look at the business, we say after you normalize for all of the mark-to-market impact. It’s a business that’s going to run around $45 million on a core EBIT basis each year and with summer normally being around breakeven. So, we were looking at this most recent quarter and you back into and we normalize, and it looks like there might be a little bit of a hole. Is there anything else going on there, that we should be aware of?

Doug Schantz

Michael, this is Doug Schantz. Basically, the quarter, I mean, second quarter is shoulder month for us. Weather was weak. April was mild, June was mild, and so obviously, we feed on weather and volatility around our utilization of transport storage assets. So, that’s what you have to monitor going forth.

Michael Mazar - BMO Capital

Okay.

John Somerhalder

And this is John Somerhalder. I think you could see as far as commercial activity an ability to capture those types of spreads in the second quarter. So, there was a small hole. However, we did see an opportunity because of very solid storage spreads. We did see an opportunity there.

So, what we saw was that the negative on the one front was made up for by the positive related to storage and the inventory rollout schedule. So net, net we did not see a hole from our view.

Michael Mazar - BMO Capital

Okay. And then, just in that number. I think, there was a small [deferred] penalty imposed last month of $5 million. Is that in Sequent this quarter for 2Q?

Andrew Evans

This is Drew. It was largely captured in reserves in the fourth quarter of 2008 and the first quarter of 2009.

Michael Mazar - BMO Capital

Okay. And then, the last question I guess would be on Golden Triangle. Can you just give us an update as far as, what you are seeing from market rates? I can't remember how much you actually have contracted out on the first cavern, but we just want to see what market rates were going for in the storage right now?

John Somerhalder

Of the 6 BCF on the first cavern, we have sold 2 BCF. So, we still have 4 BCF to sell and the plan would be sell that a little bit closer to commercial line service. So, we will be going out and working with our customers to sell that between now and the time we talked about which is third quarter of next year. What we have seen, especially a year ago, when we saw storage spreads.

We did see those rates come down at least lower than what we saw for that first 2 BCF that we sold. We've now seen storage spreads strengthen. So we think the fundamentals have improved but we have not yet tested the market to the point where we can show that. So we see some positive trends but because of the lower and tighter storage spreads that it was as little lower than what we saw at the first 2 BCF.

Operator

(Operator Instructions) The next question comes from Barry Klein with Citigroup. Please proceed.

Barry Klein - Citigroup

That $176 million capital program, I think, I forget the name of the program, STRIDE program I think.

John Somerhalder

Right.

Barry Klein - Citigroup

What's the ROE you're going to be getting on that?

Hank Linginfelter

Hey Barry, this is Hank Linginfelter. We assume an ROE that's consistent with what we have approved in current rates at the Georgia Public Service Commission, which is 10.9% ROE.

Barry Klein - Citigroup

Okay, all right, that's it, thanks a lot.

Operator

At this time, there are no further questions in queue.

John Somerhalder

All right, well thank you very much for joining today and give us the call if there's any follow-up questions. Have a good day.

Operator

Thank you for joining today's conference. This concludes the presentation. You may now disconnect and have a good day.

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Source: AGL Resources Inc., Q2 2009 Earnings Call Transcript
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