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Executives

Sarah Stashak - Director, Investor Relations

John Somerhalder - Chairman, President and CEO

Andrew Evans - Executive Vice President and CFO

Peter Tumminello - President, Sequent Energy Management

Bryan Batson - Senior Vice President, Governmental and Regulatory Affairs

Hank Linginfelter - Executive Vice President, Utility Operations

Analysts

Carl Kirst - BMO Capital

Ted Durbin - Goldman Sachs

Faisel Khan - Citi

Craig Shere - Tuohy Brothers Investment Research

Chris Bassett - Decade Capital

Eric Beaumont - Copia Capital

AGL Resources (AGL) Q4 2010 Earnings Call February 9, 2011 9:00 AM ET

Operator

Good day ladies and gentlemen and welcome to the AGL Resources fourth quarter 2010 and year end earnings conference call. My name is Keisha and I’ll be your operator for today. At this time all participants are in listen only mode. We will conduct a question and answer session towards the end of this conference.

If at any time during the call you require assistance please press star, 0 and the operator will be happy to assist you. As a reminder, this conference is being recorded for replay purposes. I would now like to hand the conference over to Ms. Sarah Stashak, Director of Investor Relations. Please proceed.

Sarah Stashak

Thank you Keisha and good morning everyone. Thanks for joining us today to review our fourth quarter and 2010 earnings results. With me on the call today are John Somerhalder, our Chairman, President and CEO, Andrew Evans, our Executive Vice President and CFO. We also have several members of our management team here to answer your questions following our prepared remarks.

Our earnings release, earnings presentation and Form 10-K filing are now available on our Web site. If you do not have copies of those you can go to our Web site at aglresources.com to find them. Let me remind you today that we will be making some forward-looking statements and projections and our actual results could differ materially from those forward-looking statements. The factors that could cause such material differences are included in our earnings release and our 10-K.

We also describe our business using some non-GAAP measures such as operating margin, EBIT, adjusted net income and adjusted EPS. A reconciliation of those measures to the GAAP financials is available in the appendix of our company presentation as well as on our Web site. We’ll begin the call with some prepared remarks today before taking your questions. And with that I’ll turn it over to Drew.

Andrew Evans

Thanks Sarah and good morning everyone. Starting on Slide 3 of our company presentation you can see that we reported 2010 earnings of a record $3 per diluted share or $3.05 per share excluding costs related to the Nicor merger we announced in December. On an adjusted basis these results are up 17 cents or 6% from 2009. In addition, operating income was up by 5% year over year.

Our fourth quarter results were 81 cents per diluted share or 86 cents adjusted for Nicor related costs. This compares to fourth quarter 2009 EPS of 92 cents. On the whole, results for both the year and fourth quarter were at the upper end of our guidance range due in large part to an unusually cold December across much of the US. The strong finish to the year, the effect of new infrastructure investments and rate programs as well as ongoing expense discipline drove record results.

Turning to Slide 4, you can see our solid track record of EPS and dividend growth. We continue to expect earnings increases of about 4-6% per year going forward and we maintain our policy of increasing dividends while growing earnings. I’ll speak more to the specifics of our earnings guidance in a few minutes but you can see here that our guidance for 2011 is for diluted earnings per share of between $3.10-3.20 excluding any impacts from the Nicor transaction.

And I’m pleased to report that yesterday our board of directors approved the ninth dividend increase for AGL Resources’ shareholders since 2002. Our expected dividend for 2011 is now $1.80. Moving on to Slide 5 you’ll find a snapshot of earnings before interest and taxes by segment. On the left you can see that despite volatile conditions in the natural gas market over the past few years we’ve managed to produce stable and consistent results across the business.

And on the right, note that our distribution business continues to be the largest contributor to EBIT, representing 59% of total EBIT in 2010. Retail accounted for 20%, wholesale for 10% and energy investments for the remainder. I’ll cover some of the major segment variances starting on Slide 6. Just as a reminder, the revenue metric does not carry a particularly heavy weight for most of our business segments as it’s influenced by the price of natural gas, which is passed through to our customers in most instances.

Revenues will be driven by volume and price, to which we are largely agnostic. So beginning with our distribution business, it performed very well in 2010. EBIT was up $29 million compared to last year. The increase is principally due to the addition of earnings from the pipeline projects we put into service last year, Hampton Roads Crossing in Virginia and Magnolia Project in Georgia.

Our new regulatory infrastructure and rate programs at Atlanta Gas Light and Elizabethtown also contributed to this increase. EBIT in the fourth quarter was up 12% versus fourth quarter of 2009 with similar drivers to our annual results. We continued our discipline in controlling costs throughout the year. Our operating expenses excluding the cost of gas in the distribution segment increased just 2%, which is primarily a function of expected higher payroll, compensation and benefits cost.

Turning to the retail segment Salstar on Slide 7, we recorded EBIT of $103 million for 2010, down just 2 million from last year. EBIT for the fourth quarter was also down $2 million versus fourth quarter of 2009. As was the case with most of our businesses, extremely cold conditions in first quarter and fourth quarter resulted in increased customer usage across our customer base. However, these favorable weather conditions were offset by the effect of continued strong competition for customers in the Georgia market and a continuing but slowing migration to fixed price plans, which generally produce lower margin.

While we consistently use EBIT as a key measure for each of our segments, at the retail business it’s important to point out that due to our increased stake in Salstar to 85% which went effective January 1st, net income was actually up $11 million year over year as we retained a greater percentage of net earnings. By utilizing marketing and customer retention programs, Salstar successfully maintained stable market share of 33% in Georgia in 2010 with our customer count remaining around 500,000.

Salstar continues to explore opportunities outside of Georgia to strengthen our offering and expand our customer base. You’ll find results from our wholesale services segment on Slide 8. Sequent performance was slightly impacted by cold weather in the first and fourth quarters as I mentioned earlier, as well as very low natural gas price volatility, which persisted throughout the year. We recorded 2010 EBIT of $49 million, a $2 million increase over 2009.

We have seen a $10 million improvement in year over year commercial activity and OEM expenses in this business have declined 12% or $7 million mainly as a result of lower incentive compensation costs. Sequent had a strong finish to the year with the cold December weather possibly impacting the asset values in our eastern US and Gulf Coast gas portfolios as pipeline constraints on several eastern pipelines increased the value of firm assets.

As a result, our wholesale services fourth quarter EBIT was $11 million, which is half of what it was in the previous quarter largely as a result of $3 million in mark to market losses during the fourth quarter versus $9 million of mark to market gains in the fourth quarter of 2009. The mark to market impact in 2010 resulted from changes in forward nimax prices, which impacted storage hedges and changes in forward basis differentials, which impacted transportation hedges.

As we head into 2011 we have $16 million in operating revenues embedded in the store roll out schedule for the year. This is consistent with our five-year average of about $15 million. 13 million is currently expected to be recognized in the first quarter but as we’ve noted, our withdrawal schedule can change depending on market conditions and changes in gas price. Moving quickly to our energy investment segment, which is detailed in Slide 9, you can see that our 2010 EBIT of $4 million was down significantly from the $12 million we recorded in 2009.

This is largely due to the sale of AGL Networks in July of this year. By way of reference, AGL Networks contributed roughly $8 million of EBIT in 2009 versus $3 million in 2010. We’ll be looking for an increased revenue contribution from Golden Triangle Storage Cavern 1 in 2011 as it came online in September of last year. Currently we have two BCF under contract and we’re looking to optimize the remaining four BCF as the year progresses.

Total remaining CapEx for this project is approximately $40 million. Some balance sheet highlights are noted on Slide 10. During 2010 we successfully completed nearly $1.2 billion of refinancing activity including the renewal of our $1 billion senior credit facility that supports our commercial paper program and refinancing of $161 million in credit facilities backing our outstanding revenue bonds.

As a result, we continue to maintain a strong balance sheet, ample liquidity and good access to the capital markets. In addition to our basic business refinancing activities we successfully established and syndicated a $1.05 billion bridge facility to support the proposed Nicor transaction that will be replaced with long-term debt financing prior to closing the acquisition. Interest expense for 2010 was up $8 million over the prior year, which was mainly a function of higher average debt balances, which were driven by the issuance of $300 million of long-term debt in August of 2009.

Our capital expenditures for 2010 were up $34 million over the prior year, which primarily reflected the additional spending related Golden Triangle Storage facility, the Strive projects in Georgia and the utility infrastructure programs in New Jersey. Our base business utility spend was just slightly above our depreciation for the year and of the remaining CapEx nearly 55% was for regulatory infrastructure programs covered under riders where we accelerated recovery of the spend.

For 2011 we expect to deploy about $440 million of capital and a slightly higher percentage of the total will be covered under rider based or similar programs. I’ll wrap up on Slide 11 with our 2011 guidance. Our diluted EPS guidance range for 2011 is $3.10-3.20 per share. And to be clear, this does not include Nicor transaction related costs and also excludes any post merger impact should we close some time in the second half of the year as expected. The assumptions underlying our guidance are listed here on the slide. Thanks for your time today and I’ll turn the call over to John.

John Somerhalder

Thank you Drew and good morning. First I’d like to reiterate that we achieved record earnings per share in 2010. This is quite an accomplishment and we have our dedicated employees to thank for these results. AGL Resources continues to be a leader among its LDC peers by many measures including safety, efficiency, low cost of service and stable financial results regardless of economic conditions.

Turning to Slide 12 I will review some of our major operational accomplishments for last year and will then address our priorities for 2011 including an update on the Nicor merger before moving into the Q&A session. Safety is always the top priority at AGL Resources and we had an outstanding year from this perspective. For the fourth year in a row we were in the top quartile of the American Gas Association’s occupational safety ratings.

During 2010 we also completed two rate cases, one at Atlanta Gas Light and one at Chattanooga Gas. The $27 million increase at Atlanta Gas Light marked the first rate increase for the business since 1993. The new rates have been in effect for about three months now and we’ll continue to see benefits in terms of both financial results and operational improvements for our customers.

Utility rate cases are increasingly complex and require significant amounts of time and energy from our staff. We have one of the most responsive and experienced regulatory groups in the industry and the fair outcomes achieved in our rate cases are a direct reflection of their work. We also saw good results at both Salstar and Sequent as Drew mentioned. Let me go a little deeper on the industry fundamentals that are driving low gas price volatility and impacting our businesses as well as many of our industry peers.

Production is at unprecedented levels primarily as a result of shale gas reserves that have been discovered across the US and advancements of technology to extract gas from these reserves. Though the EIA reports somewhat increased withdrawals over the last two weeks due to colder than normal temperatures, storage levels remain at relatively high historical levels for this type of year.

If this combination of robust production and high storage inventories persist it likely means continued low volatility and lower margins in terms of optimizing our storage and pipeline assets. While these factors admittedly present some headwinds, there are also tailwinds on the horizon. The economy is improving, which should lead to increased customer demand particularly among commercial and industrial customers. The vast shale gas reserves mean that natural gas prices should stay low for the foreseeable future relative to coal and crude oil, making it more likely that power generation will rely increasingly on natural gas.

When you factor in the environmental benefits of natural gas generation that likelihood is even greater. And we are starting to look at innovative uses for natural gas such as the LNG for transportation program we have announced in connection with El Paso. We’re still in the early stages but it’s a potentially exciting opportunity long term. At our storage business as most of you know, Cavern 1 at Golden Triangle began initial operations on schedule in September of last year and we’ve been serving a 2BCF contract.

We successfully completed dewatering Cavern 1 prior to the end of the year and we are currently removing the gas that we use for the dewatering process. The facility is operating very well. The remaining four BCF of space in Cavern 1 will be available prior to April. This should work well for us from a timing standpoint with April marking the start of the injection season. Further, though prices for storage are lower than they were when we initiated construction on the project due to many of the supply and demand factors that we’ve discussed earlier, when combined with our existing 2BCF contract our all in blended rate will be higher than prevailing market rates.

Turning to Slide 13 you’ll find our priorities for the year. Naturally, one of the top priorities will be closing the Nicor transaction and I’ll provide an update on that in just a moment. We’re often asked about our continuing views on M&A. This Nicor deal is transformational for AGL Resources, significantly increasing our scale and diversifying both our regulated and non-utility businesses. So we’ll remain focused on the important work of integrating our companies as we move forward in 2011.

At the distribution business as always, safe, efficient operations is our number one priority. You’ll see that on our list year in and year out. We also filed a rate case at Virginia Natural Gas yesterday and will be working to complete that case later in the year. The main component of our filing is a requested increase of $25 billion with a mitigation plan to phase in the new rates over three years.

Our request brings a portion of the Hampton Roads Crossing facility into rate base and also includes increases in base rates for maintenance and improvements of the distribution system. You may recall that we spent roughly $150 million to construct Hampton Roads and we have been allowed to capitalize the cost of carry. But we have not yet rolled VNG customer related portion into the rate base.

Since we have been recognizing the cost of carry, the impact of the rate case is not expected to be material to our earnings. VNG customers have not seen an increase in their approved base rate since 1996. Given my earlier words on the natural gas environment, we’ll be looking to pursue responsible growth opportunities at our retail and wholesale businesses. And as I mentioned, we’ll be looking to contract more Cavern 1 at Golden Triangle as well as to continue the build out of Cavern 2, which is expected to be operational in 2012.

Finally, and this is another one that you’ll always hear from the AGL Resources management team, we’ll be focused on controlling expenses and maintaining capital discipline in each of our business segments. Before closing I’ll give you a brief update on the Nicor transaction. AGL Resources and Nicor filed jointly for merger approval with the Illinois Commerce Commission on January 18, 2011 and we are seeking expedited approval by October 1, 2011.

We also filed our S4 registration statement on Friday of last week. We will keep you posted on timing for our Hart-Scott-Rodino filing as well as shareholder meetings in the coming weeks and months. From an operational perspective we have already formed a transition team that is chaired by Drew with leadership from senior executives of both companies. The teams encompass all functions of the company and transition plans are well underway.

We are pleased with our progress to date and remain on track for a second half close. Wrapping up our prepared remarks today, the natural gas industry is poised for growth as the economy recovers and as we turn more towards clean burning domestic fuels. With our distribution, retail, wholesale and storage assets, we are well positioned to take advantage of these trends. Beyond our existing business, 2011 is shaping up to be a transformational year for AGL Resources with the Nicor merger and our continued drive to remain an industry leader.

Again I want to thank our employees for their dedicated and hard work as well as our shareholders and customers for your support of the company. Thanks for your time today and your interest in AGL Resources. Operator, I’ll turn the call back over to you to begin the Q&A session.

Question and Answer Session

Operator

Ladies and gentlemen, if you have a question please press star, 1. If your question has been answered or you with to withdraw from the queue simply press star, 2. Questions will be taken in the order received. Please stand by for your first question. Your first question comes from the line of Carl Kirst with BMO Capital. Please proceed.

Carl Kirst

Thanks. Good morning everybody. Maybe if I could start on the guidance, the 3.10-3.20 and understanding that you guys typically don’t delve into the segment details until the annual analyst meeting but you know, there was commentary understandably so about where we are in the gas market, the headwinds if you will with respect to Sequent and the volatility.

By the same token we did have a good December and clearly we had some cold down here in the south in January. And so I don’t know if there’s maybe more color with respect to the 3.10-3.20 that maybe you could put around Sequent, which does tend to be kind of the more variable part of the equation if we should be thinking that 2011 is going to on the whole look more like 2010 or if the headwinds you were referring to that maybe we’ll see an even more conservative number as far as what’s baked into that guidance.

John Somerhalder

Yeah. Carl, let me start out and then I’ll turn it over to Pete Tumminello. But as you indicated, what we have seen even though we’ve seen lower volatility and that presents some challenge, we’ve also seen that we’ve been able to position all of our business in a very favorable way. People talk about the fact that we’re doing more deals that are fixed fee type arrangements and that’s help stabilize our earnings.

As Drew mentioned, we have a $16 million roll out scheduled over a longer time period that’s been slightly less than that. So we’re starting the year with a good roll out schedule. If we look how we’re positioned on some of our transportation portfolio compared to just a year ago, that’s favorable. We view that as favorable. So we really do see even with the fundamentals and that’s one thing I mentioned earlier.

Even when we see industry fundamentals are a little bit more difficult, because of the way we’ve positioned our business we see stable earnings out of that business. And so we do see a number pretty much in line with what we’ve traditionally talked to you about, the trajectory for Sequent. So we don’t expect a materially different number than the type of trajectory we’ve seen in the past because of the way Pete and the team have stabilized that business. And I’ll turn it over to Pete to add anything else to that.

Peter Tumminello

Yeah. Thanks John. Carl, this is Pete Tumminello and I’ll just add that we have grown our producer services business, which is more of a fee and service based group with all the Marcellus and Haynesville and other shale plays that fit well into our transportation portfolio. We have also grown significantly our gas for fuel to power generators.

We have seen significant increases in the power generation demands from gas and the storage and transport portfolio that we have is growing in that area. We have also seen some growth in our commercial and industrial businesses as well so that has so far planned in ’11 offset some of the headwinds of lower volatility in the business.

Carl Kirst

Great. And then just one other question if I could with respect to GTS as we get closer here to full commercial in service and understanding this is a bit of a dance here from a marketing standpoint. But should we be expecting to see contracts on that or is that something maybe because you have that first 2BCF at prior market rates, that gives you some comfort that you can maybe wade into 2012 or whenever to see if storage rates perhaps strengthen?

John Somerhalder

Carl, that’s a good point. We do see that the best approach would be to find parties that are willing to contract for that facility. And as we’ve talked about, because of the low volatility, high storage levels, high flowing gas, now is not the best time to enter into long-term contracts. But certainly we’ll consider that. We’ll consider shorter term contracts but we also have the ability with our own team through services like park and loans and other ways to optimize that asset to make sure that we get the results in 2011 that we have talked about within this guidance range.

So we’ll consider those different opportunities but clearly now given that unique set of circumstances of the shale production, very high storage levels, it is a more challenging time to contract for that. But our base expectation would be and the good news is we have the time period we’ve talked about between now and April 1, which is a very good time to contract for it. We have the time to find the right way to move forward on either contracting for that facility or optimizing it under one of these other scenarios. But the base plan would be to find more contracts for the next 4BCF of capacity.

Carl Kirst

Okay. And John, just to be clear then, it sounds like within this guidance for instance, the 3.10-3.20 what is baked in on the uncontracted portion is indeed just kind of current market based rates.

John Somerhalder

Yes. I mean we clearly have a view that just like we’ve seen in the past storage rates have always been cyclical and we’ve seen them go to lower levels and come out. But in general, yes, when we look at the range in total we have taken into account that storage rates in this time period are lower than they have been historically. That’s correct Carl.

Carl Kirst

Great. Thanks for your time guys.

Operator

Your next question comes from the line of Ted Durbin with Goldman Sachs. Please proceed.

Ted Durbin

Hey guys. Maybe we can - if I can just ask about and I realize you just filed three weeks ago but what are you hearing so far in terms of the initial reaction from the Illinois Commerce Commission? What kind of benefits are they going to be looking for from this merger? Is it lower rates? Are they going to be looking for a stay out clause? Kind of what’s the initial reaction that you’re hearing so far on the merger?

John Somerhalder

Ted, we before we filed had conversations at the staff level and at the commission level and what we had heard at that time is consistent with what we talked about when we announced the merger and that is they are very interested in probably three factors. One is Nicor has provided high quality, reliable service and they want to make sure that everything we do shows that we can continue to provide that service.

The same thing we had to do in New Jersey and we were successful in showing we can do that so we’re confident around that. But Nicor is a very good operator of the facilities so we have to show that quality of service for the customers. Second thing that’s clearly important not only in Illinois but the other states are jobs. And so the commitments we made around jobs, there was a strong interest in making sure they understood how we move forward on that.

And the good news from a cost standpoint is Nicor is traditionally and continues to be a very low cost operator. And they do see the benefits longer term so I think just making sure that they see that we’re going to continue over the long term to be a low cost, prudent operator, I think that’s what’s important. So I think the good news is it’s been positioned well up front consistent with what they have told us they wanted.

Bryan Batson is here and Hank Linginfelter is here. They talked as well with the individuals and I think they have a consistent view if there is anything you two want to add.

Bryan Batson

Yeah John, this is Bryan. I think what John says is right down the pike in that we have made our filing, we’re trying to be cooperative and work with the staff. It’s a long process. We would expect somewhere from 1000-2000 data requests to go through the process but I don’t see anything that would keep the deal from happening.

We will go through the process with the commission and make sure they’re comfortable with that transaction and then we’ll move forward.

Ted Durbin

That’s very helpful. Thank you for all that. And then if I can just follow up with a separate one on the VNG rate case filing, it sounds like this is mostly a filing just to recover the cost of Hampton Roads. But I think you said there is also some other spending. Can you kind of give us a sense of how much of the 25 million is Hampton versus other things really? You haven’t had a rate case since ’96.

Hank Linginfelter

Ted, this is Hank. About $15 million of the case is for Hampton Roads Crossing Pipeline and the balance, about another 10, is just other investments and capital and operating costs that go into the base rate case. So it’s a pretty even split around that.

Ted Durbin

Okay. Those are my questions. Thanks. That’s helpful.

Operator

Your next question comes from the line of Faisel Khan with Citi. Please proceed.

Faisel Khan

Thanks. Good morning. It’s Faisel. How are you doing? On your guidance that you put out for 2011 here I just want to kind of understand how your guidance now differs from the estimates you guys laid out or that were laid out in the S4 for 2011. Kind of looking at those numbers it looks like in the S4 you had 2011 numbers of 3.07 and today you guys are giving guidance of up to 3.20. So what’s changed since then?

Andrew Evans

Faisel, it’s Drew. You’re absolutely correct that the guidance is above the plan that we had in place. I think it’s because of our comfort around a strengthening economy. In distribution in particular the customer loss in 2010 was much mitigated to what our initial expectations were. The pro forma that we provided in the S4 is consistent with the data that we’ve provided to Nicor for their valuation purposes and leaves out a number of factors we think are accretive to earnings but were consistent with the way we were doing a five-year plan for our part and thought it was the most prudent and practical projection to provide for Nicor. But you’re exactly right, we do feel strength versus that five-year plan for 2011 in particular.

Faisel Khan

Okay. And then following up on that, if I look at kind of the accretion dilution numbers that have been laid out in the S4, did those numbers include synergies or expected synergies in the transaction?

Andrew Evans

No. What we’re doing is following SEC requirements for the combination and I think what we used is full year 2009 for each company and then included our initial estimates of transaction costs for the two. The only other real material change in there is a preliminary estimate of purchase price allocation and the resulting amortizations that would occur. And so I think the best way to use that is to look at the amortizations, look at the balance sheet implications and look at our expected costs for merger related costs for the two and you could apply those to any forward projection. That’s the best way to estimate what the combined entity would look like.

Faisel Khan

Okay. Understood. And then if I could just follow up with another question on the wholesale business, in the fourth quarter I guess you guys mentioned that December was definitely colder than normal and that helped you generate a significant amount of operating margin in the month. Can you be a little more specific in terms of how you guys did that or what drove that significant up tick in margin?

Peter Tumminello

Faisel, this is Pete. In the fourth quarter and in particular in December, December was about 9 degrees colder than normal in the mid-Atlantic and upper southeast and some of the northeast and that’s where the largest portion of Sequent’s portfolio is. We do have a diverse portfolio into the Midwest and the west as well but the largest transport and storage portfolio that we have is in the east.

And with that cold weather it brought tremendous volatility and we have a lot of optionality in those assets to bring gas to our various customers off of multiple pipelines. We had the ability to accelerate some storage withdrawals and sell into a higher priced market. We also had some of our large power generation customers burn significant volumes in December and we served a lot of that volume on a daily as well as intra-day market. So all of those more extreme volatile conditions allowed our asset position in the east to play quite well into that colder weather.

Faisel Khan

Okay. Then is it fair to say that given some of the extreme weather we’ve seen in January that some of that could persist in February for that matter too?

Peter Tumminello

Generally speaking that when there is extreme cold weather in the regions where we have assets, generally that’s favorable for our asset positions.

Faisel Khan

Okay. Great. Thanks for the time. I appreciate it.

Operator

Your next question comes from the line of Craig Shere with Tuohy Brothers Investment Research. Please proceed.

Craig Shere

Hi guys. Good quarter.

John Somerhalder

Thanks Craig.

Craig Shere

Just two questions - one, Pete, I guess following up a little on Carl’s initial question on Sequent and also Faisel, we’re getting a short-term bump up on the weather that you talked about but I guess the question is are we doing better than what you had described previously as kind of a half step back to maybe an 8-10% growth rate annually off the ’07 base of 34 million?

It seems like the lower volatility was pushing us back a half step but continuing steady growth from there. But perhaps now we’re seeing slightly better results. I’m trying to get a sense if that’s for ’10 and ’11 more of one-time items or you’re starting to see a little more favorable traction in your fundamental business going forward.

Peter Tumminello

I think that’s a very, very good question and I believe the answer is we are seeing some favorable movement upward in the business and really it’s due to I think a very good focus of taking the assets to the producers on one end of the pipeline and to the power generators on the other end of the pipeline as well as the commercial and industrial markets and some success in those fee and service based businesses that are less volatility dependent. And I think we’ve seen some more favorable support from those businesses.

John Somerhalder

One of the other things Craig - this is John Somerhalder again - one of the other things we’re seeing is that when we went from a time period where there was greater volatility, some of the asset management arrangements and other deals we had in place were negotiated in a time period when there was more volatility. What we have been able to do as we headed towards a less volatile time is some of those rates for services and other arrangements have more reflected this condition.

So we really do see the business better positioned now heading into the future for a lower volatility type environment. So all the things Pete mentioned plus the group’s ability to reposition those contracts and those positions in storage and transportation has provided the ability to stay on that trajectory and you talked about growth in that business.

Craig Shere

Great. So it sounds like we’re building a firmer, more consistent base with upside from any return to volatility.

Peter Tumminello

I think that’s fair to say and I think it really is due to the extreme focus of the team we have at Sequent on dealing with this lower volatility environment for the last couple of years and putting in place many programs to acquire some assets while prices were lower as John mentioned, as well as getting the assets into these more valuable market segments over the last couple of years.

Craig Shere

Great. And one more question - John, I don’t know how much you want the team to have some ability to talk about synergies with the merger. But if possible, Drew or Pete, can you speak? I mean initially it seemed like there was good upside with synergies from the combination with storage. But there is a little more kind of uncertain but potential upside on the Sequent side. And I guess as now you’re a little further in the process I wonder if you could put any more color around that if it’s a little more opportunity there than initially might have been thought?

John Somerhalder

I would say the opportunity we see now for synergies in all of our business units are very consistent with what we had planned at the time. And that’s very good from our standpoint. That’s a very good indication but longer term synergies and distribution operations to keep costs lower long term, the opportunities look promising to make sure that we can avoid future rate increases and that our customers will over the long term feel the benefit.

Pete can talk a little bit about how well their wholesale business could fit or does fit with ours, where their expertise is and synergies on back office systems and some of those things. The synergies between their storage business, which is more depleted aquifer and reservoir background and expertise there and ours is more salt dome but bringing that together and having more opportunities to expand under the right conditions and have different type facilities to expand.

All of that makes sense. Our retail business is more commodity focused. Theirs is more focused on other products for retail and customer so that gives us geographic overlay. The expertise in those different geographies that we think will be beneficial. And then clearly at the holding company level, those synergies look very much in line. So the good news is that at this point we’ve done enough work to continue to gain confidence that the types of synergies that we saw up front, that they will be achievable. And I’ll let Drew or Peter or others add to that.

Andrew Evans

You know, I’d just say that synergy tends to be a dirty word and we think of it really as synergies and efficiencies. And John described what will be reduction in redundant expenses but also we think a good catalyst for growth particularly around our retail offering. We really don’t have much overlap there and that gives us a good opportunity to try different products and services against a relatively large customer base.

Craig Shere

Hast the ICC expressed any positive interest in the relationship Sequent has had favorable for rate payers in other jurisdictions with the regulated assets there?

John Somerhalder

What you’re talking about is clearly we provided benefit back to our customers through efficiently managing assets. That’s something we’ve shown in the other states. That’s not something we have discussed or something we have pursued in Illinois at this point.

Craig Shere

Okay. Thanks again.

Operator

Your next question comes from the line of Chris Bassett with Decade Capital. Please proceed.

Chris Bassett

Yeah. Hi there. Just going into the S4 a little bit more, taking a look at the management financial projections, it looks like on 2012 and ’13 you guys need about 100 million of pre-tax synergies to break even to consensus EPS. Can you expand a bit on your previous comments on synergies and do those come from the regulated versus unregulated ops and are they OEM or more top line items?

John Somerhalder

Yes. I’ll give it a try. I think your math is a bit different than ours. No question about it and it seems a bit high in total. The synergies that we discussed I think on our earlier calls were in the range of sort of 4-5% of combined non-fuel OEM. I think what we talked about before is that 1/3 of those or some portion of those will come from general holding company overlap and the balance comes from either consolidation reduction expense in unregulated operations or improved margin related to the overlay of businesses that we discussed a lot I think in sort of the last question.

But those are really the areas that we’re focused on to return to accretion versus the consensus. I’m not sure consensus is probably all that practical. You know, you’ve got some projection in the S4 but most analysts don’t reach us that much past about 2011 or 2012.

Chris Bassett

Okay. Yes. That’s probably the difference there is I think your projections in the S4 were probably a little bit lower than consensus. But obviously some upside today in guidance relative to the S4. So you guys are seeing some upside there. One other thing that I was struggling with a little bit was just based on Nicor management estimates. It looks like you guys are buying it at 22 times 2011 EPS.

It’s a little confusing to me given where you guys trade. Can you help me think a little bit more through the kind of strategic rationale in terms of doing this deal? What kind of propelled you into this deal? Was there any kind of one set of particulars?

John Somerhalder

Sure. I do want to answer your question fully but I will say we need to focus a bit on the earnings for 2010. But this is an obvious set of questions given what’s in front of us. We look at transactions on the basis of accretion to shareholder value and also accretion to cash generation for business. And we think that in this instance we bought a business at a very nice multiple of cash flow in particular.

The depreciation in these businesses is largely determined by regulatory fiat. In Illinois they choose a higher depreciation rate, which means a more rapid return of cash flow to the corporation and they had good investment opportunities in their existing rate base and that was the principal driver for the acquisition. We also felt like the unregulated businesses had really significant parity in the type of businesses that they were in but really core overlap in the services that they provided that I think gives us a lot of opportunity and a good catalyst to begin growing the retail offering again.

But I think those factors are pretty consistent with the rationale that we laid out. With bonus depreciation and the other regulatory incentives we have to deploy capital in our regulated businesses, we think that this business gives us increased opportunity to invest in the regulated realm and that’s our principal focus.

Andrew Evans

And let me also add it was not only the strength of their cash flow and how we looked at that and multiples of that but also the strength of their balance sheet that allowed us to move forward in a way that was favorable to their shareholders and our shareholders.

Chris Bassett

Okay. Got you. That’s helpful on the cash angle. I appreciate it guys.

Operator

Your next question comes from the line of Eric Beaumont with Copia Capital. Please proceed.

Eric Beaumont

Good morning guys. Real quick I mean getting back to the S4 again, the one thing is it looks like you took your bid down a good bit after exploring the PDR allegations just that have been dragging on forever. Should we expect that you’re expecting to get this resolved or Nicor can expect to get this resolved with some type of fine in the 50-100 million associated with staff?

Hank Linginfelter

Yeah Eric. This is Hank Linginfelter. It is an item that has been as you mentioned, unresolved for many years. And we are pretty sure it will not be resolved as part of the transaction approval. But that’s not to say it couldn’t be but at the moment we don’t anticipate that it will be.

Eric Beaumont

Okay. And then I guess lastly, you know the projections for 2011 and the historical for Nicor were much below where the Street is again and I guess obviously you’re privy in talking to the company. But when you had previously talked about accretion dilution I guess it was based on these numbers that you’re seeing and talking about and they were published in the S4 as opposed to where consensus had been for Nicor’s earnings. Is that fair?

John Somerhalder

That’s exactly right. The projections that are in the S4 are the basis for our valuation of the business.

Eric Beaumont

Okay. And let’s see - and I guess that answers my questions for now. Thanks guys.

John Somerhalder

One of the things you have to focus on too is that and Nicor has discussed it. We’re probably buying with the lowest content of tropic shipping earnings in the EPS calculation. And we have I think now a much more robust understanding of the market drivers in that business. And if you look at just general trade statistics there is no question that that’s challenged in the near term. But we’re comfortable with particularly the regulatory content of the earnings that are described there.

Eric Beaumont

Okay. Great. Thank you.

Operator

There are no further questions in queue at this time. I would now like to hand the call back over to Ms. Sarah Stashak for any closing comments.

Sarah Stashak

Thank you again for joining us today. We’ll be available after the call to address any follow up questions that you may have. Thanks.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect your lines. Good day.

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