TC PipeLines, LP Q2 2010 Earnings Call Transcript

 |  About: TC PipeLines, LP (TCP)
by: SA Transcripts

TC PipeLines, LP (TCLP) Q2 2010 Earnings Call Transcript July 28, 2010 ET


Good day, ladies and gentlemen. Welcome to the TC Pipeline’s LP 2010 second quarter results conference call. I would now like to turn the meeting over to Mr. Terry Hook, Manager of Investor Relations. Please go ahead, Mr. Hook.

Terry Hook

Thank you, operator; and good day, everyone. I would like to welcome you to TC Pipeline’s second quarter 2010 conference call. With me today are Mark Zimmerman, President; Mr. Rob Jacobucci, Controller. We are pleased to provide you with an opportunity to discuss our second quarter results and other general developments regarding the partnership.

Before we begin, I would like to remind you that certain statements made during this conference call will be forward-looking, regarding future events and our future financial performance. Our forward-looking statements are based on our beliefs, as well as assumptions made by, and information currently available to us. These statements reflect our current views with respect to future events, and are subject to various risks, uncertainties and assumptions as discussed in detail in our 2009 10-K as well as our subsequent filings with the Securities and Exchange Commission. If one or more of these risks and uncertainties materialize, or if the underlying assumptions prove incorrect, actual results may differ materially from those described in the forward-looking statements.

Mark will begin today with the review of TC Pipeline’s recent cash distribution announcement, achievements in the quarter, and an update on the activities concerning the partnership and its general partner TransCanada Corporation. Rob will then review in detail the second quarter financial results.

Following the prepared remarks, we will ask the conference operator to coordinate your questions.

I will now turn the call over to our President, Mark Zimmerman.

Mark Zimmerman

Thanks, Jerry; and good day, everyone; and thank you for joining us today. Earlier this month, we announced our second quarter cap distribution of $0.73 per common unit or $2.92 on an annualized basis. This is the 45th consecutive quarter redistribution paid by the partnership. Looking forward, we believe TC Pipelines is well positioned to continue to deliver stable and growing cash distribution to our unit holders.

As outlined in today's news release, TC Pipelines reported a $9.1 million increase in second-quarter partnership cash flows to $46.2 million. Similarly, net income, prior to recast, increased $14 million in the second quarter of 2010 to $27.7 million. Our solid financial performance this quarter highlights the quality of our infrastructure assets, and the positive impact of the North Baja acquisition. Since this acquisition back on July 1, 2009, Northern Border has continued to enhance and diversify the partnership's earnings and cash flows.

Northern Border had an excellent quarter, and performed above our expectations. Although the second quarter is typically a shoulder season for Northern Border, it operated near full capacity. Volumes for the second quarter of 2010 were approximately 2.5 Bcf per day, compared to 1.7 Bcf per day for the same period last year. Northern Border's strong competitive position as a pipeline serving gas supplies from the WCSB, combined with the reduced supplies from other pipelines serving as market area, combined with warm temperatures, allowed Northern Border to sell most of its available capacity for the second quarter; and looking forward, Northern Border has now sold out its available capacity, true to October 2010.

Turning to Great Lakes, for the first time in over a year, Great Lakes this quarter has seen the utilization of its long-term contracts increase over utilization for the same period last year. Although challenged by the current North American gas picture, we have seen positive signs and remain optimistic about Great Lakes' long-term potential. The impact of the rate settlement on Great Lakes, which I will discuss in further detail shortly, was not material in the second quarter, and overall, is not expected to have a material impact on earnings and cash flow.

For our Northern Border and Great Lakes pipeline systems, the trend is continuing toward shorter term contracting, with legacy contracts rolling off, and sufficient transportation into the market demand centers, there is less of an incentive for customers to lock up access to these transportation paths for the long-term. However, given that the rates charged in our systems relative to the cost of the new build infrastructure are lower, we believe these systems remain a cost effective alternative for shippers to transport natural gas for consumption in the markets they serve. When this does create some uncertainty for the cash flow and earnings stream, we believe the demand for natural gas and the demand for transportation services on these systems will remain.

Now moving to Tuscarora, like North Baja, Tuscarora continues to provide secure, consistent earnings and cash flow. Both of these pipelines are situated in unique geographic locations, and their long-term contracts allow for these secure consistent earnings and cash flows from quarter to quarter, and as such are generally unaffected by shifting natural gas supply and demand fundamentals.

In summary, we believe our pipelines are critical North American infrastructure in the markets that they serve, and will continue to represent solid investments for TC Pipelines.

I would now like to turn to some of the other developments in the quarter. To begin with, we are pleased with the resolution of the Great Lakes Section 5 rate proceeding. Following extensive negotiations, a settlement was reached between Great Lakes, FERC staff, and shippers related to the Section 5 rate proceeding that was initiated by the FERC last November. This settlement was filed on May 21, 2010. On July 15, 2010, the FERC approved the settlement without modification. As approved, the settlement applies to all current and future shippers on the Great Lakes system. As I mentioned earlier, we do not expect the settlement to have a material effect on the partnership.

Under the terms of the settlement, maximum reservation rates on Great Lakes pipeline systems were reduced by 8% effective May 1, 2010. In addition, depreciation expense for Great Lakes transmission plant decreased from 2.75% to 1.48% per year. The settlement rates will remain in effect through at least November 30, 2011. The settlement includes a moratorium on participants and customers filing any Natural Gas Act Section 5 rate case to place new rates into effect prior to November 1, 2012. The results of a moratorium on Great Lakes filing a general Natural Gas Act rate case prior to June 1, 2011 to place new rates into effect prior to December 1, 2011. In addition, the settlement requires Great Lakes to file a Natural Gas Act Section 4 general rate case no later than November 1, 2013.

I would now like to take a few minutes to update you on some of the broader strategic developments and opportunities at the TransCanada sponsorship level that may have a positive impact on the volume throughput, cash flow, earnings, and growth prospects of the partnership going forward.

As mentioned in previous calls, TransCanada continues to develop and advance pipeline projects to connect new, unconventional natural gas supply to this expansive network of pipelines in North America to offset the decline in conventional production in the WCSB. Of importance to TC Pipelines is the construction of the 30-inch Bison pipeline out of the US Rockies; and secondly, the extension of TransCanada's Alberta System into two major North American shale plays in Northeast British Colombia, specifically the Horn River and Montney shale plays.

First, development of the Bison natural gas continues on schedule for our fourth quarter 2010 in service date. In July 2010, TransCanada received final approval to proceed with construction of the majority of the Bison natural gas pipeline project. Construction activities commenced this month, and approvals for the remainder of the pipeline are expected during the third quarter of 2010. The Bison pipeline will bring gas from Powder River Basin in Wyoming and interconnect with Northern Border. Bison shippers have executed 10-year downstream contracts on Northern Border's system for approximately 400 million cubic feet per day from Port of Morgan, Montana to Ventura, Iowa. These contracts will strengthen Northern Border's contract portfolio, diversify its natural gas supply, and provide another transportation solution for shippers exporting natural gas supplies from the Rockies Basin.

In addition to the Bison project, TransCanada continues to advance two significant pipelines in Canada in Northeastern British Colombia, which are expected to connect into its Alberta system, approximately 1.6 billion cubic feet per day of new shale gas under development in the Montney and Horn River shale plays. In addition, the 1.6 Bcf per day of committed volumes received to date, TransCanada has expressions of interest from producers for at least another 1 Bcf per day of transportation services from these developing shale plays. TransCanada expects to start construction on the Groundbirch pipeline in August 2010, and pay financial services in November 2010. Groundbirch will connect the Montney shale gas formation. This project has firm transportation contracts that will reach 1.1 Bcf a day by 2014. TransCanada Horn River project will connect Horn River shale gas. The project has commitment for 0.5 cubic feet per day, and the project is expected to be operational in the second quarter 2012.

We remain optimistic that volumes produced the next quarter out of the WCSB will stabilize in the near-term, and start to increase over time, as the potential of the Horn River and Montney shale plays are developed and brought on stream. From a geologic perspective, there is every indication that the Canadian shale plays can grow and perform at least as well as any other in North America. As well, the Alberta government has recently taken steps to prominently lower royalties for shale gas wells, coal bed methane wells, and horizontal oil and gas wells, and made permanent the deep-drilling credit. This development is expected to further stimulate activity, and we are starting to see some leading indicators, such as record pricing on land sales in potential gas producing regions of the province.

As I close off today, I would like to emphasize that we continue to work on several initiatives to continue to deliver strong results from our existing assets. With a strong balance sheet, we will look for opportunities to grow our business in a disciplined and sustainable way over the long-term. In addition to the evolving acquisition market, such growth opportunities may also include an acquisition from our sponsor, who is in the midst of financing a large $22 billion capital program.

That concludes my prepared remarks; and I would now like to turn the call over to Rob Jacobucci, who will provide a more detailed discussion on our second quarter financial results. Rob?

Rob Jacobucci

Thanks, Mark. Good afternoon, everyone. As Mark mentioned, earlier today we released our second quarter results.

Partnership cash flows increased $9.1 million to $46.2 million in the second quarter 2010, compared to $37.1 million for the same period last year. This increase was due to $9.2 million of cash flows provided by North Baja’s operating activities in the second quarter of 2010; a decrease of $2.5 million from in general partner distributions, resulting from the restructuring of incentive distribution rates, or IDRs in 2009; as well as a decrease of $2.1 million in partnership, general and administrative costs, due to costs incurred in the second quarter of 2009 relating to the North Baja acquisition and IDR restructuring.

These positive factors were partially offset by decreased gas distributions from Great Lakes and Northern Border of $3.7 million and $1.0 million respectively. The partnership paid distributions of $34.4 million in the second quarter 2010, which was an increase of $6.6 million compared to the same period last year, due to an increase in the number of common units outstanding, and increase in the quarterly per common unit distribution for month and decreased general partner distributions resulting from the restructuring of the IDRs on July 1, 2009.

As you know, on July 1, 2009, the partnership acquired North Baja from a wholly-owned subsidiary of TransCanada Corporation. The acquisition of North Baja from TransCanada was accounted for as a transaction under common control, similar to a pooling of interests, whereby the partnership's historical financial information was recast to include the net income of North Baja for all periods presented, which included income that did not accrue to the partnership's general partner interest or the partnership's common units, but rather accrued to North Baja's former parent.

As a result, the partnership uses the non-GAAP financial measure, net income prior to recast, as a financial performance measure. Net income prior to recast excludes North Baja's net income for periods prior to the day on which the partnership acquired North Baja. The partnership's net income prior to recast increased by $14.0 million to $27.7 million in the second quarter 2010, compared to the same period in 2009. This increase was primarily due to higher equity income from Northern Border, net income from North Baja, and lower general and administrative costs at the partnership level.

I will now turn to a discussion on net income for each of our pipeline investments. Equity income from Northern Border increased $6.8 million to $12.2 million in second quarter 2010, compared to the same period in 2009. The increase in equity income was primarily due to increased transmission revenues, and reduced financial charges. At the Northern Border level, net income increased $13.5 million, mainly due to increased demand for transportation services on Northern Border in the second quarter of 2010. This was the result of reduced deliveries on natural gas to Midwest markets from other supply sources and decreased financial charges due to lower effective interest rates and average debt outstanding.

Equity income from Great Lakes increased $0.2 million to $13.1 million in the second quarter of 2010, compared to the same period last year. This increase in equity income was primarily due to depreciation reproductions from the Great Lakes rate proceedings settlement and lower operating expenses, partially offset by decreased transmission revenues. At Great Lakes, net income increased $0.4 million, mainly due to lower depreciation and maintenance costs, partially offset by decreased revenues due to lower transportation values and decreased demand for short-term transportation, and the impact of the settlement rates on long-term revenues.

The Great Lakes rate proceedings settlement was effective May 1, 2010, and the impact to net income for the two months in second quarter 2010 was a reduction in long-term revenues of $1.5 million and a reduction in depreciation expense of $4.1 million. The settlement had no impact on partnership cash flows in second quarter 2010, and there is a one quarter lag between the earnings of Great Lakes and the distribution for the partnership from Great Lakes.

However, the $1.5 million reduction in revenues in the second quarter of 2010 will be proportionately reflected in the partnership's cash flows in third-quarter 2010. The settlement is not expected to have a material impact to partnership earnings or cash flows, and Great Lakes is expected to continue to discount its transportation capacity as needed to optimize revenue.

Net income prior to recast from other pipes, which includes results from North Baja and Tuscarora, increased $4.9 million to $9.0 million in the second quarter 2010, compared to the same period in 2009. This increase was primarily due to the acquisition of North Baja in July 2009, which contributed $5.0 million to net income in the second quarter 2010.

Costs at the partnership level decreased $2.1 million to $6.6 million, compared to second quarter 2009, due to lower general and administrative costs, primarily due to costs incurred in the second quarter of 2009, relating to the North Baja acquisition and IDR restructuring.

Turning now to our liquidity and capital resources. At June 30, 2010, the outstanding balance on our revolving credit facility was $7.0 million, with $243 million available for future borrowings. The average interest rate on the credit facility was 4.2% for the three months ended June 30, 2010, which includes the impact of interest-rate hedging activity. TC Pipelines will continue to maintain a proven approach to cash flow management, directing our free cash flow to maintaining appropriate debt levels, investing in ongoing operations, throwing distributions to unit holders, and positioning for further growth opportunities.

That concludes my prepared remarks on the second quarter 2010 financial results. I will now turn the call back to Terry.

Terry Hook

Thanks, Rob. Now, at this time, we would like to open the call to any questions that you may have. Operator, if you could please go ahead.

Question-and-Answer Session


Thank you. We will now take questions from the telephone lines. (Operator Instructions) Our first question is from Michael Cerasoli from Goldman Sachs. Please go ahead.

Michael Cerasoli – Goldman Sachs

Thanks. Can we get a little more granularity on Northern Border's strong volumes, in terms of how much was weather-driven, and also if you had any insights as to why the other supply sources reduced their deliveries?

Mark Zimmerman

So, I don't really have the – the system really doesn't have the ability to delineate, you know, what was weather, what was the other supply sources, et cetera, because, you know, as you know, the big driver here is the differentials that we see between A coal pricing out of the WCSB and the pricing in the downstream markets. What I would observe is there was a number of impacts that were coming into play. One, we did have a much higher heat or cooling degree days, if you will, the weather was in our favor.

I think there continues to be restrictions with the interconnect on Northern Natural and TransWestern that has reduced some of the supply on Northern Natural that could get into the Ventura area. We have also seen that with Rex Phase 3 moving further east into Ohio, and much higher deliveries there, that has helped to abate the competing supply, both in Ventura and Chicago. And I guess the final point is we have seen A coal pricing itself fade off a bit relative to other markets in North America, and so we have seen very, very strong differentials, and hence higher netbacks for many of the producers in the WCSB, encouraging that flow to come down Northern Border.

Michael Cerasoli – Goldman Sachs

That is helpful. Okay, switching to Bison. Given producer focus on the liquid-rich plaza, how does the team view volumes out of the Powder River, given, you know, the drier nature of that play?

Mark Zimmerman

I guess, you know, for me, much of that volume is volume that is currently in production, and was just seeking an alternate source to market relative to the other options they had in the gas-on-gas competition that you are seeing within the Rockies itself. So this is existing production, and because it is coal bed methane production, as you know, that is not the sort of production that you turn off and have it water on yourself, once you have got it up and running, you just let it keep producing. So, I guess, I am more of the level that we are seeing, we would see as, likely sustainable going forward. It is more the potential for expansions in the Rockies Basin relative to other producing areas in North America that might have the liquids economic advantage, if you will, that may encourage both to be produced first.

Michael Cerasoli – Goldman Sachs

Okay. And just, my final question is, the MLP sector has, you know, been very strong lately. I was wondering if TCLP's improved cost of capital may have changed the potential for drops in TransCanada, if you could just, you know, give us some insight there.

Mark Zimmerman

Absolutely. I mean, it is absolutely helpful. I think, you know, as we have indicated in the past, TransCanada is in the middle of a very large program, and they do have needs to finance that program, as it does exceed their internally-generated. They have a number of alternatives that are available to them, and indeed, you have seen them in the markets in Canada on the pref share side. That being said, as we go down the road to the extent we have a competitive cost to capital, the viability only increases for us, if you will, as they then consider what their alternatives are at the point in time that they need to do that next tranche.

Michael Cerasoli – Goldman Sachs

Great, thanks.

Mark Zimmerman

Thanks, Michael.


Thank you. Our next question is from Gabe Moreen from Banc of America. Please go ahead.

Gabe Moreen – Banc of America

Hey, Mark, how are you? Not to beat the Northern Border horse, but I will do it. Question on the contract levels for the third quarter, I think you mentioned it was similar level capacity-wise. Can you talk about discounting-wise, is it also similar to what you had in the second quarter, and then just maybe if you can speak to beyond the third quarter, what you are seeing in terms of contracts, how much is contracted and kind of how you are thinking about that?

Mark Zimmerman

Sure. You know, as you can imagine, much of this contracting activity is a whole series of individual negotiations, if you will. I think directionally, we are seeing the same sort of trends going into the third quarter as we had seen in the second. And indeed, most of that capacity have been contracted. You know, I mentioned to Michael, when you look at the differentials between A coal, Ventura, and Chicago, it is very, very supportive of the total that we are seeing at Northern Border; and indeed, it is very much in the money, and I think that is what drove much of the contracting behavior that we are seeing.

As you get out in that forward curve, historically, we have always seen that the pricing advantage dissipates somewhat the longer out you go, but to the extent we see the same market fundamentals out there, we are hopeful that we will see that contracting either continue as we get into the winter months going forward. I think the same dynamics are going to be at play here though, and that is with respect to competing supply, how the two factors of the Northern Natural system and Rex unfold as we get into the winter months and the big driver here is weather, do we see it remaining favorable for our business as we go forward.

Gabe Moreen – Banc of America

Thanks for that color and it is safe to say, I guess, that most of the people stepping up for capacity, sort of on a quarter-by-quarter basis, on the marketing side of things, we are actually seeing, you know, some direct producer activity here, where maybe you can maybe translate some of that into longer-term deals?

Mark Zimmerman

You know, it is kind of a – I would observe, I think it is a good potpourri of a variety of players, if you will, between marketers, LDCs, securing up their demand needs from alternate sources, and producers looking to exit market. We are also seeing storage very high in Alberta, so I think that can be another contributing factor, as some of that storage wants to find its way into downstream storage in preparation for the winter months. So I think that is also a contributing factor here.

Gabe Moreen – Banc of America

Okay, thanks for your help so much.

Mark Zimmerman

Thanks, Gabe.


Thank you. Our next question is from David Fleischer from Chickasaw Capital. Please go ahead.

David Fleischer – Chickasaw Capital

Well, Mark, I think you answered my question already. I was trying to withdraw, but I was asking since you had chosen to mention the capital program, the TransCanada, you know, whether such a transaction might be more likely than before. And I think you probably said as much as you can, but that was the interesting comment I was looking for from you before, thanks.

Mark Zimmerman

That is perfect. It is always good to hear your voice, David.

David Fleischer – Chickasaw Capital

See you at UBS.

Mark Zimmerman

Sounds good.


Thank you. (Operator Instructions) Our next question is from James Jampel from HITE. Please go ahead.

James Jampel – HITE

Hi, guys. I was going to just again ask more detail about how pleasantly surprised you are about Northern Border, but everything has been asked.

Mark Zimmerman

Excellent. Well, we like to have pleasant surprises. Thank you for your interest, though.


Thank you. We have no more questions at this time.

Terry Hook

Great, thanks. I would like to thank all of you for taking the time today to listen into this call. We appreciate your interest in TC Pipelines and look forward to talking to you soon. Bye for now.


Thank you. The conference has now ended. Please disconnect your lines at this time, and we thank you for your participation.

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