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Executives

Dan Harrison - IR

John Gibson - President & CEO

Curtis Dinan - SVP & CFO

Terry Spencer - COO, ONEOK Partners

Rob Martinovich - COO, ONEOK

Analysts

John Tyson - Citi

Ted Durbin - Goldman Sachs

Andrew Gundlach - ASB

Xin Liu - JPMorgan

Mark Reichman - Madison Williams

Michael Blum - Wells Fargo

Helen Ryoo - Barclays Capital

Tim Schneider - Citigroup

Louis Shamie - Zimmer Lucas

ONEOK, Inc. (OKE) Q2 2010 Earnings Call August 4, 2010 11:00 AM ET

Operator

Good day ladies and gentlemen and welcome to your Second Quarter 2010 ONEOK and ONEOK Partners earnings call. At this time, all participants are in a listen only mode. Later we will conduct the question and answer session and instructions will follow at that time. (Operator Instructions) As a reminder, today's conference call is being recorded.

I would now like to introduce your host for today's conference call, Mr. Dan Harrison. You may begin, sir.

Dan Harrison

Thank you. Good morning and thanks to everyone for joining us. Any statements made during this call that might include ONEOK or ONEOK Partners expectations or predictions should be considered forward-looking statements and are covered by the Safe Harbor provision of the Securities Acts of 1933 and 1934. Please note that actual results could differ materially from those projected in any forward-looking statements. For a discussion of factors that could cause actual results to differ, please refer to our SEC filings.

And now, let me turn the call over to John Gibson, ONEOK President and CEO and ONEOK Partners Chairman, President and CEO. John?

John Gibson

Thanks Dan. Good morning. Thanks for joining us and for your continued interest and investment in ONEOK and ONEOK Partners. Joining me on the call today are Curtis Dinan, Chief Financial Officer for both ONEOK and ONEOK Partners; Terry Spencer, Chief Operating Officer of ONEOK Partners and Rob Martinovich, Chief Operating Officer of ONEOK.

ONEOK and ONEOK Partners again posted solid operating performances with all of our business segments performing well. We are reaffirming our 2010 earnings guidance for both entities and increasing ONEOK Partners 2010 capital expenditures to reflect our planned spending this year for the projects we've announced.

During the quarter we continued to deliver on our commitments. ONEOK Partners is benefitting from the growth projects we completed last year and will continue to grow and generate attractive returns from the investments we've just announced.

Our distribution segments, operating income and returns are the result of a very deliberate and innovative approach to rate making is paying off. Energy services continues to make progress on reducing its contracted storage and transportation capacity, reducing annual earnings volatility and with a renewed focus on its premium services customers who are the lynchpin of this very important business.

ONEOK's and ONEOK Partners' financial position is solid with the structure and flexibility to fund growth, either organically or through acquisitions and as Terry will discuss in a few minutes, we've taken the necessary steps to resolve the short term NGL bottlenecks that have limited our ability to capture additional NGL optimization margins. Now a lot has been written and concluded about Williams' decision to acquire 50% ownership of Overland Pass.

As we have said many times over the past several years, we do not expect Williams' increased ownership and potential operatorship to affect Overland Pass's ability to add new volumes and grow. Had we believed otherwise, we would not have agreed to the option. Agreeing to the option, with a recognized world class pipeline operator and company in exchange for barrels dedicated to Overland Pass was frankly a pretty good trade.

The ability for Williams' to increase its ownership in and potentially become operator of Overland Pass was willingly negotiated four years ago. We believe then as we do now that it was important that NGL take away capacity from the Rockies be built and that it would be built to our NGL infrastructure in the mid-continent.

Williams, willingness to be the anchor shipper of Overland Pass and to commit future barrels to the pipeline seal the deal and led to its construction and its continued success. Williams decision to increase it's over Overland Pass ownership I believe reinforces it's positive view and the long-term viability of their upstream assets connected to the pipeline and as a strong vote of confidence for Overland Pass's future growth.

Our announcement last week to expand Overland Pass to accommodate additional NGL volumes from our newly announced Bakken pipeline is a testament to our strong partnership with Williams and our shared commitment to grow and how well aligned we are and in a moment, Curtis will explain why the earnings impact is not significant.

So, at this time I will turn it over Curtis who will provide us with a financial highlight of ONEOK partners and then Terry will review the operating performance along with some industry dynamics. Curtis?

Curtis Dinan

Thanks John and good morning everyone. John has already provided a brief summary of the partnerships second quarter results and Terry will provide additional detail in a moment. My remarks will focus on the financial results and our expectations. In the second quarter ONEOK partners reported net income of $105 million or $0.75 per unit compared with last years second quarter net income of $98 million or $0.81 per unit.

In the second quarter, we had a 101.9 million units outstanding compared with 91.4 million units in the same period last year. Our two equity offerings in July 2009 and February 2010 added approximately 11 million additional units.

Distributable cash flow in the second quarter was a $140 million compared with $131 million in the second quarter 2009.

While the coverage ratio for the first six months was slightly below one time we continue to expect the annual coverage ratio will be in our targeted range of 1.05 to 1.15 times.

As Terry will describe in more detail we expect margins to improve in the second half of 2010 especially in the natural gas liquid segment where a significant frac only contract expires in the third quarter. The exploration of that contract will free up capacity at our Mont Belvieu fractionator which will be used to provide additional bundled services to our customers and we will create additional optimization opportunities.

For the second quarter 2010 the partnership increased the distribution one penny to $1.12 per unit representing an annualized rate of $4.48 per unit. This is the 15th distribution increase since ONEOK sole general partner and it represents accumulative 40% increase over that time.

Pending Board approval the partnership is on track to increase the distribution one penny per quarter for the remainder of the year.

We have reaffirmed the partnerships 2010 guidance and expect net income to be on the range of $450 million to $490 million for the year taking into account Williams decision to increase it's ownership in Overland Pass pipeline to 50%. Until the Overland Pass transaction with Williams closes, we will continue to record 99% of the earnings from Overland Pass. Once the transaction closes, we will deconsolidate ONEOK Partners and our financial statements and record future earnings as equity earnings from investments, similar to how we account for our 50% interest in Northern Border Pipeline.

As I mentioned, we have reaffirmed the partnership's 2010 guidance taking into the account the Williams exercise. Although the effect of deconsolidating Overland Pass will change the individual line items in our guidance, the overall impact on net income is not significant.

The impact of the reduction in the partnership share of earnings from Overland Pass to 50% from 99% for the last three to four months of 2010 will be offset by lower interest expense from the receipt of $425 million which will reduce short term debt and eliminates a long term debt offering that was planned for later this year. Sometime after we complete this transaction we will update the various components of our 2010 guidance to reflect the deconsolidation of Overland Pass.

Capital expenditure guidance for the partnership has been increased $115 million to $477 million, comprised of 394 million in growth capital and 83 million in maintenance capital. The increase in growth capital relates to our recently announced capital projects.

We have hedges in place to lock in margins on our expected equity volumes in the partnership's natural gas gathering and processing segment which has the most sensitivity to commodity price changes. For the remainder of 2010, we have hedged 95% of our expected natural gas equity volumes at $5.55 per MMBtu and 63% of our expected NGL and condensate equity volumes at an average price of $1.24 per gallon.

For 2011, approximately 75% of or expected natural gas equity volumes are hedged at $5.72 per MMBtu and 13% of our expected NGL and condensate equity volumes are hedged at an average price of $1.65 per gallon. As is our practice, we continually monitor the commodity markets and replace additional hedges as conditions warrant to mitigate our overall risk.

At the end of the second quarter, the partnership had $680 million of debt outstanding and $320 million available under its $1 billion revolving credit agreement. The partnership's total debt to capital ratio was 52% and its debt to EBITDA ratio has improved to 4.3 from 4.5 at December 31st 2009. Following the closing of the Overland Pass transaction with Williams, our debt-to-capital ratio will be less than 50% and our debt to EBITDA ratio is expected to be less than 3.75.

In June, the partnership established a commercial paper program, providing for the issuance of up to $1 billion of unsecured commercial paper notes. Borrowings under the commercial paper program will reduce the borrowings available under the partnership's revolver.

In July, we repaid all amounts outstanding under the revolver through the issuance of commercial paper and effectively reduced our short term borrowing cost to approximately 25 basis points.

During the second quarter the partnership repaid $250 million of maturing long-term debt with available cash and short term borrowings. This repayment eliminated the ratings triggers that the partnership had in its debt covenants.

Our next long-term debt maturity is $225 million due in 2011. With the pending receipt of approximately $425 million from Williams for its increased share of Overland Pass.

The partnership does not anticipate any additional financing this year but we will continue to monitor the capital markets and take advantage of opportunities that are presented.

Now, Terry Spencer will provide you with an overview of the operating performance of the partnership.

Thanks Curtis and good morning.

Terry Spencer

Thanks Curtis and good morning. The partnership had a solid operating performance in the second quarter from all segments driven primarily by volume increases in both the natural gas and natural gas liquids business from our recently completed $2 billion plus growth capital program.

Similar to the first quarter the benefit of these higher natural gas liquids volumes was offset by lower optimization margins in the natural gas liquid segment as increasing NGL volumes from customers under fee-based contracts limited the fractionation and transportation capacity available for optimization activities.

We expect these margins to significantly improve in the near and long-term future for several reasons. First, there is a significantly NGL legacy frac only contract expiring in the third quarter of this year that will free up space at our Mont Belvieu fractionator and we will be used to serve optimization and bundled service fee-based contracts.

Second, additional fractionation capacity from the 60,000 barrels per day fractionation services agreement with Targa will become available on the second quarter of next year and thirdly we announced last week as 50,000 barrel per day expansion of our Sterling I NGL distribution pipeline which I will discuss in more detail later.

We were well aware of the concerns relating to our tightening fractionation and transportation capacity and how it will impact our earnings but the actions we are taking to free up capacity allow us to maintain our natural gas liquid segment guidance for the year.

I will now briefly discuss the operating performance of ONEOK Partners three segments. The gathering and processing segments, second quarter financial results were approximately 7% higher compared with the same period last year due primarily to higher net realized commodity prices and higher processed natural gas volumes. Offset somewhat by lower gathered volumes primarily in the Powder River basin in Wyoming.

Our process volumes continue to grow. In the second quarter process volumes were up 5% compared with the second quarter of last year and up nearly 4% compared with the first quarter of this year.

Processed volumes remain resilient due to our strong presence in the growing natural gas liquids rich Bakken Shale and North Dakota and the Woodford Shale in Oklahoma. Our gathered volumes were down in the second quarter of 2010 compared with the second quarter of 2009 due mainly to the lower Powder River volumes.

However, these volumes were relatively flat compared with the first quarter of this year. For the remainder of 2010 we expect our gathered volumes will be relatively flat to last year due to our Grasslands plant in the Williston Basin ramping up.

As well as from incremental volumes as a result of the system expansions in the Woodford Shale which we announced in April and will allow us to access available processing capacity by connecting our Western Oklahoma gathering system to our existing Maysville processing plant.

We are also maintaining our guidance for this segment with continued growth expected in processed volumes and more than 63% of our NGLs and condensate and 95% of our natural gas hedged for the remaining of 2010. We have placed additional hedges on for 2011, including 75% of our equity natural gas volumes and 13% of our NGLs and condensate.

Now moving to our natural gas pipeline segment, this segment had another solid quarter. The second quarter results were driven by increased contract transportation capacity from two growth projects completed in the last half of 2009. The mid-western gas transmission interconnection with the Rockies express pipeline and the Viking Gas Transmission go lateral.

For the second quarter our interstate and intrastate pipelines were approximately 84% subscribed under demand based rates, compared with 79% in the second quarter of 2009. Equity earnings from our 50% interest in Northern Border Pipeline for the second quarter were exceptional, doubling earnings from the second quarter in 2009 due to an increase in natural gas throughput. Northern Border Pipeline's subscribed capacity increased in the second quarter due to strong Midwest market demand and is fully subscribed through October of this year.

Now let's move to our natural gas liquid segment. As I discussed earlier, the natural gas liquid segment benefited from higher NGL volumes gathered, fractionated, marketed and transported, primarily as a result of the completion of the Arbuckle Pipeline and the lateral pipelines on Overland Pass.

NGLs fractionated during the second quarter increased to 524,000 barrels per day, 9% higher than last year's second quarter and almost 7% higher than the first quarter, further emphasizing that fractionation capacity continues to be tight.

NGLs transported on our gathering lines were up 32% to 480,000 barrels per day, compared with 364,000 barrels per day for the same period last year. NGLs transported on our distribution lines increased 5% to 482,000 barrels per day.

Overland Pass pipeline volumes averaged almost 130,000 barrels per day during the quarter, nearing its current capacity of 140,000 barrels per day and necessitating continued expansions such as those announced last week.

Arbuckle volumes averaged nearly 72,000 barrels per day during the quarter, in line with our expectations and is well positioned to accommodate Rockies, mid-continent and Barnett Shale production growth in particular. As we increase our access to more fractionation capacity in Mont Belvieu.

The average price differential for ethane between the Conway and Mont Belvieu market centers was $0.16 per gallon during the quarter, compared with $0.12 for the same period in 2009. A Midwest ethylene cracker, down for maintenance, impacted market dynamics, especially the Conway to Mont Belvieu ethane differentials.

Since June, ethane differentials had narrowed from a high of over $0.25 but we expect these differentials to remain relatively wide from a historical perspective for the rest of this year. As petrochemical demand remains robust and NGL supplies continue to grow. As I mentioned earlier this wider differentials did not translate into high optimization margins as capacity for optimization was limited. Again, we expect this capacity constraints to be resolved as we move throughout the year and next.

Now, some additional color on the NGL markets. As the feedstock to the stock to the petrochemical industry, ethane is expected to continue to be economically attractive over the heavier oil based feeds, such as NAFTA, driven primarily by wide crude oil to natural gas price ratios.

Petchem demand remained strong and coupled with the price advantages of ethane expected to continue, this creates a strong incentive for crackers to utilize ethane and continue their efforts to convert to NGL feedstocks. We still believe there are more than 100,000 barrels per day of additional ethane demand related to the conversion of heavy end crackers to ethane and another 100,000 barrels per day of excess ethane cracking capacity available in Canada.

There's been a lot written about the potential for a glut of NGLs specifically ethane. In our view, we believe that ethane supply and demand will remain relatively balanced over the next couple of years, especially when you consider that first according to the production data we have studied, decline rates in many NGL producing areas are much steeper, certainly in the double digits per year and have matched by the increase in production from Shale development.

We believe that the decline in existing production combined with demand growth will absorb much of the new supplies coming on line.

Secondly, petchems are stepping forward, not only in converting their crackers to lighter and feeds but are also seriously considering demothballing existing plans, thus creating incremental demand for NGL.

Third, a large petrochemical company has noted that ethylene demand growth is occurring in South America as its economy improves. Canadian demand for ethane is also strengthening, as projects are emerging that would enable U.S. ethane suppliers to serve available cracking capacity in Canada.

While NGL supply demand will continue to be the subject of discussion and debate within our industry, we will remain focused on our customers, providing them with reliable and valuable nondiscretionary fee-based services.

With increased natural gas and natural gas liquids production from the Shale plays, more specifically in the Bakken Shale, there's an increase need for NGL takeaway capacity. Producers continue to aggressively develop NGL-rich natural gas from crude oil-producing wells in the Bakken and Three Forks formations, which led us to announce several new projects.

First, the Bakken NGL Pipeline at 600-mile pipeline with capacity to transport up to 60,000 barrels per day of unfractionated NGLs from North Dakota to the Overland Pass Pipeline near Cheyenne, Wyoming. Supply commitments are anchored by NGL production from our own natural gas processing plants, including the Grasslands plants and the new Garden Creek processing facility is also well-positioned to serve new developments in the Niobrara Shale emerging in Eastern Wyoming and Northern Colorado.

We also planned to expand Overland Pass Pipeline to 255,000 barrels per day, from 140,000 barrels per day and as well expand our NGL fractionation capacity in Bushton, Kansas to 210,000 barrels per day from 150,000 barrels per day. We also announced plans to expand our existing Sterling I NGL distribution pipeline, increasing its capacity by 15,000 barrels per day, which will be supplied by the partnerships Mid-Continent NGL infrastructure enabling us to transport additional NGL purity products for our customers under fee-based contracts and increase the capacity available for our optimization activities.

The Sterling I expansion will begin later this year and is expected to be completed in the second half of 2011. We also continue to evaluate additional expansion of our Mid-Continent to Gulf Coast NGL distribution pipeline capacity, based upon demand for our services.

As Curtis discussed, we have increased our capital expenditure guidance by 115 million to 477 million for 2010. As these newly announced projects progress and the material purchase schedules become finalized as well as announcing additional new projects, we may adjust these estimates later in the year.

Finally, a few comments on Williams exercising its option to increase its ownership of Overland Pass Pipeline to 50%. As John mentioned, we have a strong partnership with Williams and we are both committed to growing Overland Pass. Upon closing the transaction and acquiring 50% ownership, Williams has the option to become operator and may very well elect to do so. That's okay with us. Williams, like ONEOK, is an excellent pipeline operator.

John, that concludes my remark.

John Gibson

Thank you Terry and congratulations on another good quarter. Now Curtis will review ONEOK's financial performance and then turn it over to Rob who will then review ONEOK's operating performance. Curtis?

Curtis Dinan

Thanks, John. ONEOK's net income for the second quarter was $41.7 million or $0.39 per diluted share unchanged from second quarter 2009. Consistent with our guidance, ONEOK increased the dividend $0.02 to $0.46 per share for the second quarter 2010. This is the ninth dividend increase since January 2006 and it represents a cumulative 64% increase over that time. We remain committed to our targeted long-term dividend payout ratio of 60-70% of recurring earnings.

We have reaffirmed our 2010 financial guidance and continue to expect net income to be on the range of $300 million to $335 million for the year. Rob will provide more details on the drivers of this financial performance in a few minutes. We currently estimate standalone cash flow before changes in working capital to exceed capital expenditures and dividends by $215 million to $250 million.

By virtue of ONEOK's general partner interest and significant ownership position, ONEOK received $76 million in distributions from the partnership during the second quarter, a 10% increase from the second quarter of 2009. At the partnerships estimated distribution level as detailed in the 2010 guidance, ONEOK expects to receive approximately $304 million in distributions for 2010, a 9% increase over 2009.

At the end of the second quarter and on a standalone basis, ONEOK had no short-term debt outstanding $1.2 billion available on our credit facility, $100 million in cash and cash equivalence and approximately $340 million of natural gas in storage. ONEOK stand alone debt to equity remains 39% below our 50-50 debt to equity target. We currently project short term borrowings to remain below $300 million for the remainder of the year.

Our next scheduled debt maturity is not until 2011 when $400 million comes due. ONEOK significant free cash flow and financial flexibility provide us with opportunities to make acquisitions, increase our investment at ONEOK partners, increase future dividends or repurchase shares.

Now Rob Martinovich will provide an update on ONEOK's operating performance.

Rob Martinovich

Thanks Curtis and good morning everyone, lets start with our distribution segment. Second quarter results were significantly higher compared with the second quarter of 2009, improved margins were driven primarily by increased revenues and our new rate structures approved in our 2009 Oklahoma rate case. By design, this new rate structure reduces volumetric sensitivity by increasing fixed fees, which increases revenues in the warmer months.

Successful rate activity in all three states generated additional revenues. Expenses decreased due to lower employee related cost, but were mostly offset by previously deferred integrity management cost that are now recovered in base rates. We continue our efforts to grow our rate base by efficiently investing capital in projects that provide benefits to our customers and our shareholders.

To that end our largest efficiency project is progressing well, we are about 50% complete on our $31 million automated meter installation program for our residential customers in Tulsa and Oklahoma City. With completion expected during the fourth quarter.

These meters will enable quicker, safer and more efficient meter reading and provide a net reduction in expenses, while allowing us to earn a return on these investments under our new performance based rate structure, creating a win-win for customers and the company.

With that I'll discuses the latest regulatory updates in our states beginning in Oklahoma. The late January we filed and application requesting recovery at $15.7 million in integrity management program cost that were differed in 2009 and in May filed supplemental testimony increasing this amount to $16.7 million. On June 30th, the Oklahoma Corporation Commission approved our application and billings of the new rates begin July 1st.

The recovery of these integrity management program cost will have no impact on earnings as they are fully offset by increased revenues. In May, Kansas gas service withdrew its application with the Kansas Corporation Commission to become an efficiency Kansas utility partner. Due to a wide discrepancy between all parties involved as well as the lack of participation in the program that's designed to promote energy conservation. We continue a dialog with the convention seeking a resolution that works for all parties.

In Texas, we filed an appeal with the Railroad Commission of Texas on May 12th to increase rates by $5.3 million in our El Paso Service Area after the El Paso City Council denied our rate request. Hearings begin in late August and the commission has until mid-November to make a decision. Any new rates would likely go into effect within 20 days of receiving the new rate order if a motion for rehearing is not filed.

Eight costs of service of adjustments were filed throughout our Texas jurisdictions, with an expected total annual impact earnings of approximately $1.7 million. The 2010 impact was previously incorporated into our guidance. Finally there has been active interest by the Railroad Commission of Texas to initiatives a rule making procedure proposing the replacement of steel, natural gas service lines.

We agree that replacing aging infrastructure is important but believe that replacing bare steel service lines as opposed to coated steel service lines should be the focus. A small percentage of Texas gas service lines are bare steel pipe.

This proposal is still in the development stages by the Railroad Commission of Texas and any capital expenditure impact associated with replacing lines would be recovered through the regulatory process.

For 2010, we remain confident in our $223 million operating income guidance for our distribution segment. Now let's turn to energy services.

Our second quarter results were as expected driven primarily by lower transportation margins due to tighter mid-continent to Gulf coast location differentials and lower realized seasonal storage differentials and marketing margins.

In addition, energy services had a decrease in premium services revenues while the volumetric level of contracted premium services was about the same as last year revenues were lower due to flat forward commodity prices and reduced market volatility.

Our natural gas and storage at the end of the second quarter was about 50 bcf down from last year 69 bcf due primarily to the year-over-year reduction of leased storage capacity.

We currently have 75 bcf of storage capacity under leased compared with 83 bcf at the end of the second quarter of 2009. On July 30, 2010 we had approximately 55 bcf of gas and storage.

As part of our ongoing realignment of storage and transportation capacity to meet the requirements of our premium services customers. We are on track to reduce our storage capacity to 71 bcf by the end of this year and to 65 bcf by the end f 2011.

We expect our long-term transportation to be at 1.3 bcf per day by the end of 2010 and approximately 1 bcf per day by the end of 2012 compared with our current long-term transportation capacity of 1.4 bcf per day.

This capacity reduction effort targets those assets with lower unit margins. Our 2010 earnings pattern is returning to a more normal pattern of higher first and fourth quarter earnings driven by the sale of natural gas related to wind or weather which follows the load trial profile of our core customers the LDCs.

Looking at the second half of the year we continue to expect the balance of the summer to be challenging with tighter natural gas location differentials and limited optimization opportunities as a result of reduced market volatility.

For the fourth quarter we expect tighter seasonal storage differentials compared with 2009 and reduced premium services revenues as a result of flat forward commodity prices and reduced market volatility. Seasonal storage differentials have tightened over the past few months as a result of the extreme heat that is limiting storage injections due to the increased natural gas demand for cooling.

Storage balances will be more than adequate to meet winter demand but storage has not filled up as quickly as anticipated thus limiting downward pressure on summer prices which has resulted in the tightening of the seasonal differential.

The heat has kept summer prices strong while winter prices have fallen as the market place has become comfortable that the combined capabilities of gas and storage and flowing gas will cover winter load requirements.

For the November and December withdrawal period approximately 86% of our storage margins are hedged. In addition, approximately 78% of our transportation margins are hedged for the balance of the year.

We'll complete our storage hedges for 2010 as we inject gas into storage or financially, if spreads significantly widen. For transportation, we'll continue to be opportunistic. If differentials widen in the remaining summer months we will put additional hedges in place. If they don't we will optimize our position in the daily marketplace.

For 2011 we have hedged approximately 35% of our transportation margins for the year and approximately 71% of our storage margins for the first quarter. We expect to energy services to achieve its 2010 earnings guidance of $107 million in operating income.

John, this concludes my remarks.

John Gibson

Thank you Rob. Congratulations to you and Pierce, Chuck, Pat on a good quarter. Obviously we're very optimistic about our future. Not only have we delivered on our past promises, we've also developed new and exiting growth projects. Earlier in the year, our 300 to $500 million annual growth spending lacked specificity, at least publically. At midyear, our $1.1 billion in announced projects are well developed, well funded and backed by commitments from key customers.

We also continue to be active on the mergers and acquisitions front. If you know our history, you know that almost all of our growth between 1999 and 2005 was the result of acquiring assets allowing us to develop the capability to acquire, integrate and operate those assets along with the disciplines and not overpay for them while taking into account the embedded and sometimes unseen growth potential that many acquisitions present.

While we have not completed any transactions lately, we remain active, evaluating most of the assets that come to market and many that don't, looking for the right ones that will create long term value for our customers, our investors and our employees and finally on that point I'd like to thank our more than 4,700 employees whose continued contributions create value for our investors and our customers and I'd like to thank all of them for their commitment, their continued dedication and hardwork.

And with that operator, we're now ready to answer any questions.

Question-and-Answer Session

(Operator Instructions) Our first question comes from John Tyson with Citi.

John Tyson - Citi

Good morning gentlemen.

John Gibson

Good morning John.

John Tyson - Citi

Terry, I guess this question is for you. In the NGL segment, at OKs, volumes on for fractionation have continued to be strong, steadily growing over the last few quarters. However if you look at NGL sales and NGLs transported over distribution lines, out of this segment, out of the NGL segment, they've been a little bit more variable where a strong enough fourth quarter kind of came down in the first quarter and then made a rebound back up in the second quarter. Can you just kind of give us some color as to what's going on there and what's kind of driving that variability?

Terry Spencer

Sure John. We have our mid-continent infrastructure connected to these distribution pipelines okay, like our Sterling pipeline system for example. And we have, what we call our North system pipes where products will move into the Conway market area through those lines to our Sterling pipelines we'll move product into the Mont Belvieu area. But we have another pipe called our North System which is the pipeline system we acquired from Kinder Morgan couple of years back where we moved products to the Midwest. Okay and we move normal butanes and we move propane and so that pipeline is creating some of that variability that you're seeing.

John Tyson - Citi

When you look at NGL sales out of this segment, what is -- because it's pretty clear on the gathering and processing side when NGL sales are related to but I guess in this system it's a little bit different, can you describe what you're actually doing for NGL sales, is that more related to the optimization or is that the basis differentials that you're able to take advantage of in Mid-Continent to Mont Belvieu, or is that strictly just selling NGLs into petrochemical companies?

John Gibson

It's actually a combination of both. The primary, the lion share that volume is from our plant tailgate purchases, if you will, from the processing plants that are connected to our supply infrastructure. We'll purchase those barrels on an index basis if you will or in opus basis less the fee that's -- and then in turn sell those barrels after we purchase them. So, you'll see that volume fluctuate from time to time as the production lose up and down.

John Tyson - Citi

Will that go up and down if you are putting NGL in the storage and taking them out of storage, will that have an impact at all?

John Gibson

Yeah, it could have some impact, I mean, you have, when we do and calculate our supply WACOG. We will factor in barrels that we withdraw, it will be valued at a WACOG and that does affect our cost of goods sold and obviously affect what we reflect in terms of sales.

John Tyson - Citi

And then lastly, when this, I guess, legacy fractionation contract rolls off in the third quarter, would we expect those NGL sales and NGL-fractionated volumes to go up or just mainly NGL sales?

John Gibson

Well, since it's not our, it is not fractionation capacity that we operate, okay, that will not be reflected as an increase in fractionation volume, okay. Where you will see the impact, you'll see it in the sales and you'll see it in the gathering or transportation throughput, you'll see an increase there. What we intend to do is to move more barrels down our Arbuckle Pipeline to fill this capacity. So, you'll see that increase in volume reflected there.

John Tyson - Citi

Which is the reason why you pointed out as a frac-only contract, there's no transportation or gathering associated with those barrels currently.

John Gibson

That's correct.

John Tyson - Citi

Got it. That helps, thanks guys.

John Gibson

Let me make sure. Let me just clarify one thing. When this contract, I just want to make sure I'm clear on this, when this contract expires, okay, you will not see a net increase in fractionation volume because we're basically replaced in it, okay. So, you'll see it in these other places that I indicated earlier. Just want to make sure we're all clear on that.

John Tyson - Citi

No, that's clear. Got it, thank you.

Operator

Our next question comes from Ted Durbin with Goldman Sachs.

Ted Durbin - Goldman Sachs

Hi guys.

Rob Martinovich

Hey Ted.

Ted Durbin - Goldman Sachs

Just want to turn to the Bakken projects, can you give us a little sense of the counter parties, what kind of contracts you have there, maybe talk about what the volumes are right now, where you see them going, we have heard about another pipeline that's will take the liquids to the North, either in the volume that's above?

Rob Martinovich

I think Terry is in the best position to really address both of the results -- questions.

Terry Spencer

Well, I think, clearly the potential is there to fill both pipelines relatively quickly. And when I say quickly, I am talking over the next two, three, four years. It's very possible these two pipelines could be filled. When we look at our contracts and the nature of the parties that we are dealing with, we are dealing with the mix. A lot of them are independents; some of them are large independents, some of them had a very extensive acreage position in the Bakken for many, many years. Some of them are new entrants into the play. Okay, so, we've got a mix -- they are actually some, what I would classify, major independents or in there as well.

Our contracts are primarily percent of proceeds contracts. They are on dedicated acreage to us and we have a very sizeable dedication position. That's what's making all this possible for us. The contracts will be a mix of term. Some will be long-term, well beyond 10 years. Some will be shorter-term; depending upon what fits the producer. But they will predominantly percent of proceeds contracts.

Rob Martinovich

A lot of the Bakken throughput will be from our own facilities.

Terry Spencer

Yes. In excess of 30% of the throughput we've indicated, that 600,000 barrels a day will be from our own partnership control facilities.

Ted Durbin - Goldman Sachs

Got it.

Terry Spencer

Or operated facilities.

Ted Durbin - Goldman Sachs

Got you. That's really helpful. Thank you. And then, let me just ask one more question in terms of, you've talked about the chemical demand in some of the ethylene cracker outages. Where do you see the industry able to run in terms of the utilization rates? How hard can they run as we feel this extra supply coming on from the extra liquid fuel in?

John Gibson

You know, today if we you look through 2010 year-to-date, you're averaging about 88%. That's your petrochemical utilization rate. We've been, at periods of time, well above 95%. Not for a very long periods of time. The question is whether that's sustainable? So, you could see significant demand coming from just increased utilization. Okay?

I think there are other places as I indicated in my comments, we're really seeing a potential pop are in Canada and South America, which are markets that we have an advantage or at least at our petrochemical businesses have an advantage at serving. So, as we see that project, that was indicated earlier, out of the Bakken that goes north to sort of petrochemical facilities in Canada is a great example of petrochemical facilities needing more product and we're going to step up and make commitments necessary to do that.

Ted Durbin - Goldman Sachs

Okay. Thanks a lot. Those were my questions.

Operator

Our next question comes from Andrew Gundlach with ASB.

Andrew Gundlach - ASB

Good morning. These are all impressive projects. And I am just curious if you could comment John on what you think the rate of return on $713 million at the higher end might achieve.

John Gibson

Andrew, we see this, as we've indicated in our releases, been in the 5 to 7 times EBITDA, typical and consistent with some of our past projects as well.

Andrew Gundlach - ASB

And then with respect to the Sterling and your comments on the potential difficulties to your optimization business, is there pressure to close the Mont Belvieu-Conway gap in the sense that, if you don't do it quickly enough a competitor will do it and make your strategic and business life a little bit more challenging.

Rob Martinovich

Always, that's an indication of a widening -- consistently wide bases is an indications that infrastructure needs to be built, service needs to be provided, so that's -- if you look at every pipeline that we've build and particularly as it relates to the NGLPs, that's exactly what we've done and why we've done it, so not only were we looking into expanding -- heavily announced that we were expanding Sterling but we continue to look at our existing infrastructure.

Between those two points and opportunities to expand because we are the -- best situated to provide that expansion in industry.

Andrew Gundlach - ASB

I would agree with that and that's why I found Sterling to be small, relative to the potential market, I guess you could even imagine 50 or even a 100,000 type of expansion. I don't know, I guess the question here is how much -- If you look over the next three to five years, how much capacity is needed to narrow that differential to a more normal -- to a level that's acceptable from the producers.

John Gibson

Right, so part of this - part of the answer gets to the point Terry was making about, this NGL glut, this perception of a NGL glut, not taking to account the decline rates that we're seeing, but Terry probably can provide a bit more color to that.

Terry Spencer

The 15,000 barrels-a-day is just one of the low hanging fruit projects that we have to create more capacity. If you look at Arbuckle, when we built Arbuckle and that's a 160,000 barrel-a-day and we're moving about 70 to 72,000 barrels down it right now, in effect is -- it's a north-south pipe, it's just moving raw feed and as opposed to purity products, so we have a considerable amount of capacity that we've not been not been able to utilize in out Arbuckle because we've been limited in terms of frac capacity at Mont Belvieu. So you follow me?

Andrew Gundlach - ASB

Yes I do, so that will change with -- okay that problem will take care of itself.

John Gibson

That problem is setup to take care of itself with a contract exploration and a 60,000 barrel a day contract with target and we will also take care of part of that problem when we expand the Bushton fractionator, so the unique position is of course having the gathering, the fractionation and the transportation, whether it be on raw or whether it's on finished product and balancing all those pieces together, that's what gives us the advantage of finding the most economical way to expand the system to provide the best service at the lowest cost to the producer.

Andrew Gundlach - ASB

I understand, let me just make sure I do understand this, so that 60 that will be available of additional fractionation capacity, will be in effect of volumes that you back out of Conway, use Arbuckle to take down to the Gulf Coast and that will then free up Bushton and Sterling expansion in a sense that there is some double counting so to speak is that am I understanding it correctly? We can do it offline if you want it.

John Gibson

What it obviously does is also us to frac more barrels in Belvieu that we are frac at Conway which puts more finished product to Belvieu than at Conway which should reduce the basis.

Andrew Gundlach - ASB

I understand and how long do you think it takes before that basis gets to a more normal level, two years?

Curtis Dinan

I mean historically we have actually seen it move pretty quick in months. My guess is that I will say that it will would take sometime probably six months to a year probably to see for that impact and the marketplace to settle out. So, 6 to 12 months but you could see some impact immediately.

Terry Spencer

I guess my estimation would be once the infrastructure is in place and you can rest assured we are doing everything we can to get it in place as quickly as we can. I think it will narrow or it will tighten I don't know what the right word is, sooner rather than later.

John Gibson

I would agree.

Andrew Gundlach - ASB

Great. Thanks for the comments.

Operator

Our next question comes from Xin Liu with JPMorgan.

Xin Liu - JPMorgan

Good morning guys.

John Gibson

Good morning Xin. How are you?

Xin Liu - JPMorgan

Good, so, for the frac contract that's roading off, what is the capacity we're talking about?

John Gibson

I would not release that and we don't intend to.

Xin Liu - JPMorgan

Okay and you mentioned that you are gaining some incremental margins from bundled services and option for optimization and can you break down like what percent you think you get from bundled services versus optimization?

Terry Spencer

We have not disclosed that information either what I can say is that at least initially most of that capacity will be optimization but over the long-term it will move towards a mix of optimization and the bundled fee-based service contracts.

Xin Liu - JPMorgan

Okay and just a question on Overland Pass, I looked at your guidance you sold 50% and the earnings impacted just offsetting the interest expense. It looks the earnings it looks rather low and can you comment on that?

Curtis Dinan

If you are saying the earnings on Overland Pass are low.

Xin Liu - JPMorgan

Yeah you sold 50% and that last earnings is just offset.

John Gibson

Yeah right, those link back to my comments about wanting to make sure those incremental barrels in the Rockies came to our infrastructure in the mid-continent so it should not and the reason we wanted that is as those are our 100% owned assets so yes the money we make off of Overland Pass is less than the money make off of our fractionation gathering and transportation.

Xin Liu - JPMorgan

Okay that's helpful. Thanks.

Terry Spencer

Thank you.

Operator

Our next question comes from Mark Reichman with Madison Williams.

Mark Reichman - Madison Williams

Hi good morning. Most of my questions have been answered but with respect to ONEOK Partners, I think Cary alluded to some of the sources of a stronger second half but I was wondering, could you just reconcile net income for the first six months with say like the low end or mid point of your full year 2010 net income guidance, just highlighting the sources of the positive changes?

Curtis Dinan

Mark, there are several things going in. One of the bigger items is what Terry's comments and what my comments were focused on which is the additional capacity that we'll have at Mont Belvieu from this frac only contract that is expiring.

That will give us the opportunity to capture some of these wider differentials that we've seen between Conway and Belvieu, which we call our optimization activities and then further down the line, as Terry was describing, we'll see more bundled type of services between our pipelines such as Arbuckle and then volumes going through that frac plan, through that frac at a more current market rate associated with hose volumes.

As we described last quarter, this contract was an old legacy contract that was put in place several years ago and was out of market with rates that we're seeing today.

John Gibson

Yeah, Curtis, I think the only thing I would add to that, which I think you really kind of already touched on is in our gathering and processing segment for our volumes, particularly in the Bakken Shale and in the Woodford Shale in Oklahoma. Those volumes continue to ramp up. So we have an expectation to realize some significant volume growth in the second half.

Mark Reichman - Madison Williams

Okay and most of the positive impact I guess from that expiring contract will be in the fourth quarter?

Curtis Dinan

Of Bakken?

Mark Reichman - Madison Williams

Right, okay. Great, thank you very much.

John Gibson

Yes, sir.

Operator

Our next question comes from Michael Blum with Wells Fargo.

Michael Blum - Wells Fargo

Hey, good morning everyone.

John Gibson

Good morning.

Michael Blum - Wells Fargo

Another questions on the NGLs. Can you just help me think about, on all these NGL expansion projects, Overland Pass, the Bushton fractionator, the Sterling expansion, how should I think about, what percent of that new capacity that you'll have will you use for your own account for lack of a better word versus leasing that to third parties.

Terry Spencer

Well I think a vast majority of it will be used for our own account.

John Gibson

It starts this year. It starts with the answer about; on the Bakken pipeline more than 50% of those barrels headed to Overland Pass are going to be barrels that come out of our own 100% owned processing plants.

Michael Blum - Wells Fargo

Okay. And then, as I think about the capacity that you're going to gain, so you're going to gain this initial capacity, sometime in the third quarter and then there will be another kind of step changing capacity beginning in the third quarter of '11. Is that the right way to think about it?

John Gibson

No, we've not announced anything with respect to frac, building a frac or expanding a frac next year.

Michael Blum - Wells Fargo

Okay, I'm sorry. What I meant was…

John Gibson

Hang on a second, other than target.

Michael Blum - Wells Fargo

Right, that's what I was referring to, target.

John Gibson

'11 target, that's in the second quarter of 2011, not third.

Michael Blum - Wells Fargo

Okay, got it. And then, just to your comments Terry about the supply-demand for ethane, when the Bushton fractionator expansion comes on, where will those, what's the end market for those? Where do those find a home, ethane, propane etcetera?

John Gibson

Well, it's going to go into a number of places. Let me just start at the top of the list. Obviously, some barrels will go into the Conway marketplace and be consumed. Some barrels will windup in the upper Midwest through our North System. And then some of the barrels will windup going through our purity products pipelines after their fractionated down to the Gulf Coast and then some of the barrels then again will move down the raw feed some of it will move in raw feed again our Arbuckle Pipeline to access the Gulf Coast. So it's going to be twin placed in a number of places, not any one particular spot.

Michael Blum - Wells Fargo

Okay. And then last question, just switching over the natural gas, you mentioned in the Powder River Basin you're still seeing basically a pretty weak environment. Can you just give a little more detail in terms of what type of drilling activity you're seeing there, what the magnitudes of the declines are, etcetera?

John Gibson

Well, it's coal bed methane gas, which once it gets established, once you get in the out years, it goes relatively flat but until you get to that point in time you will see some fairly steep declines early. Drilling activity has been very mild and it's primarily the gas net back, after you net back all costs. You're below a level that producers are still comfortable drilling in that region. There's no btu bump up, there's no processing. A gas is -- actually there is some it below that a [1000] btu per cubic foot. So there's not a whole lot of extra Gs like we have in these NGL-rich Shale plays.

Michael Blum - Wells Fargo

Okay, thank you very much.

Curtis Dinan

Thank you, Michael.

Operator

Our next question comes from Helen Ryoo with Barclays Capital.

Helen Ryoo - Barclays Capital

Yes, good morning. My first question is related to the Sterling expansion. The 15,000 barrels per day addition, what does that represent in terms of existing capacity addition expansion on the Sterling 1 and 2? Is it roughly about 10% expansion?

John Gibson

Helen, we've not disclosed that, the capacities on the pipes and we can't do it now.

Helen Ryoo - Barclays Capital

Okay. Then could you say whether the 1 and 2, both lines are just product lines or one of them is a light weight line?

John Gibson

They're both -- 1 and 2 are both purity products pipeline.

Helen Ryoo - Barclays Capital

Okay, got it. Thank you and then another question, just a clarification on the Bakken Pipeline, the NGL takeaway Pipeline, you said less then 50% of the volume will come from third-party but do you need to secure third-party commitment to start the construction or is this something you could do it without a secure commitment?

John Gibson

I would say -- Helen, I would say that we were in various stages in negotiations with these third-parties. I would say we don't have to; we do not have to get all of them secured in order to move forward with this project.

Helen Ryoo - Barclays Capital

Okay, and then the two years, it's going to come online first quarter -- I guess first half 2013. So it's about two plus years of construction and permitting process. Is it-- does the -- how long does the construction itself take place?

John Gibson

The construction itself will take place in less than a year.

Helen Ryoo - Barclays Capital

Okay.

John Gibson

The part that takes the longest is the fermenting.

Helen Ryoo - Barclays Capital

Okay

Terry Spencer

This particular pipeline relative to some of the other pipelines we've built, I think from a regulatory perspective, is going to be in pretty good shape. We'll be dealing mostly with wildlife departments. We won't have to do with the Bureau of Land Management like we did on our Overland Pass pipeline which will help us from a timing standpoint.

Helen Ryoo - Barclays Capital

Okay.

John Gibson

Just a point of clarification, Helen on your first question, from an economic standpoint we can proceed based on our own; we have, as a company not made a decision whether to take -- to do that or not. We still want to see what other shippers are willing to do.

Helen Ryoo - Barclays Capital

Right. And I guess, currently you're selling your Bakken production, Bakken NGL locally. And if so, going forward, would you say once this mine is filled you will be taking all your barrels out on this pipeline, or you would still be selling some locally as now?

Terry Spencer

No, we would continue to sell barrels locally. The market is saturated. The local market is relatively saturated. So, we certainly have to move the excess barrels out of there. But we expect for local sales to continue.

Helen Ryoo - Barclays Capital

Okay, great. Thank you very much.

John Gibson

Thank you, Helen.

Helen Ryoo - Barclays Capital

Next question.

Operator

Our next question comes from Tim Schneider with Citigroup.

Tim Schneider - Citigroup

Hey guys, quick question on the distribution business. So, I think the net rate case at Oklahoma that was approved in December; you guys said it was 26 million or it was going to be the net impact for the whole year, right? So, how much -- that 17.2 million that showed up in Q2, how should we think about the remainder of the year? Is that 17.2 million? Out of that 26 million showed up in Q2 and the rest shows up in Q3 and 4?

Rob Martinovich

That's correct. And maybe just a quick correction. The 17 excluded any of the integrity management cost that you net off of that. So, 25 would include -- is a net number.

Tim Schneider - Citigroup

Okay. And do you know what those costs were?

Rob Martinovich

Well, I do. Yes. But what we release publicly will be right around 26 million and so for practical purposes; you can assume a similar amount in the third quarter.

Tim Schneider - Citigroup

Okay. Got it. And then how much did the fixed fee per customer go up?

Rob Martinovich

It varied depending upon the class of customer. For our smaller customers, plan A, it went up $2.20 and for plan B customers it went up about -- just a little bit under $7.

Tim Schneider - Citigroup

Okay. Thank you.

Operator

Our next question comes from Louis Shamie with Zimmer Lucas.

Louis Shamie - Zimmer Lucas

Hi, great quarter. I had a couple questions. First off, just kind of housekeeping, what was the volume mix between your different contracts in the G&P segments for this quarter?

John Gibson

It will be in the -- I think a plant table. Does anybody have that close by?

Terry Spencer

It's going to be around 60 to 64% fee-based and 33% pop and the balance people.

Louis Shamie - Zimmer Lucas

Okay, great.

Terry Spencer

Louis, that's on a volume basis.

Louis Shamie - Zimmer Lucas

You're right. That's what I was asking. And then in terms of the optimization business, how should we look at it? With this frac-only contract throwing off, will that bring you back to kind of the same capacity for that business as you had lets say in 2009 or how should we look a this?

John Gibson

You mean for optimization?

Louis Shamie - Zimmer Lucas

Yeah, I mean the same ability that capture that basis spread.

Terry Spencer

Actually we'll enhance it considerably

Louis Shamie - Zimmer Lucas

Oh, okay.

Terry Spencer

Because we will be using that Arbuckle pipe as an optimization pipe.

Louis Shamie - Zimmer Lucas

Right.

Terry Spencer

And if you recall that Arbuckle (inaudible).

Louis Shamie - Zimmer Lucas

So currently the raw feed that you aren't able to move down Arbuckle because of the lack of frac capacity, where is that coming? Is that being fractionated in the mid-continents on your system or?

John Gibson

It's being fractionated and there are also volumes yet to come. That is, volumes that are being connected to our system in the interim period.

Louis Shamie - Zimmer Lucas

Great.

John Gibson

Supply growth and volumes that are being fractionated in the mid-continents.

Louis Shamie - Zimmer Lucas

Perfect, thank you very much guys.

Dan Harris

Okay, well thank you all. This concludes the ONEOK and ONEOK Partners call. As a reminder our quiet period for the third quarter will start when we close our books in early October and will extend until earnings are released after the market closes on November 2nd.

Our third quarter conference all is scheduled for November 3rd and we'll provide additional third quarter conference call information at a later date. The Annual ONEOK, ONEOK Partners investor day is scheduled for Tuesday, October 5th in New York. Save the date notice went out last week and we'll be following up with additional information, times and meeting locations in the next month or so.

Andrew, Zyla and I will be available throughout the day to answer your follow-up questions. Thank you for joining us.

Operator

Ladies and gentlemen, this does conclude today's presentation. You many now disconnect.

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