AGL Resources' CEO Discusses Q2 2011 Results - Earnings Call Transcript

Aug. 3.11 | About: AGL Resources (GAS)

AGL Resources Inc. (AGL)

Q2 2011 Earnings Conference Call

Aug 2, 2011, 9:00 AM ET

Executives

John Somerhalder - Chairman, President and CEO

Andrew Evans - EVP and CFO

Hank Linginfelter - EVP, Utility Operations

Sarah Stashak - Director, Investor Relations

Peter Tumminello - President, Sequent Energy Management

Michael Braswell - President SouthStar Energy Services LLC

Analysts

Ted Durbin - Goldman Sachs & Co.

Craig Shere - Tuohy Brothers

Faisel Khan – Citigroup

Carl Kirst - BMO Capital Markets

Mark Barnett – Morningstar

Operator

Good day ladies and gentlemen and welcome to the Second Quarter 2011 AGL Resources Earnings Conference Call. My name is Alicia and I'll be your coordinator for today’s call. As a reminder, this conference call is being recorded for replay purposes. At this time, all participants are in listen-only mode. (Operator instructions). We will be facilitating a question-and-answer session following the presentation.

I’d now like to turn the presentation over to Ms. Sarah Stashak, Director of Investor Relations. Please proceed.

Sarah Stashak

Thank you, Alicia. Thanks everyone for joining us this morning to review our second quarter 2011 results. With me on the call today are John Somerhalder, our Chairman, President and CEO and Drew 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-Q filing are available on our website. To access these materials, please visit aglresources.com. 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-Q and 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 accompanying presentation as well as on our website. We'll begin the call with some prepared remarks before taking your questions.

Drew, I'll turn it over to you to begin.

Andrew Evans

Thanks, Sarah, and good morning everybody. Starting on Slide 3 of our accompanying presentation, you can see that we reported second quarter 2011 earnings of $0.23 per diluted share or $0.33 per share excluding the costs incurred during the quarter related to the Nicor merger we announced last December. The improvement in year-over-year earnings is largely reflective of strong performance in our utility business through a combination of reasonable rate case outcomes and infrastructure investment we have made to maintain and enhance the safety and reliability of our system.

For the first six months of the year, we reported diluted GAAP EPS of $1.82 or $1.96 excluding Nicor related expenses, $0.06 higher than the first six months of 2010. We remain on track to meet our earnings guidance range for the year of $3.10 to $3.20 per share. You can see the guidance range on our long-term EPS and dividend track record on Slide 4 of the presentation.

Moving on to Slide 5, you'll find a snapshot of EBIT by segment. On the top left, you can see our stable and consistent results across the business, looking back to 2006 and underneath that chart is a quarterly look at EBIT which gives you a good sense of the seasonality of our business.

You'll note that second quarter is not typically a strong earnings quarter for us due to lower heating and cooling demand. On the right, note that our Distribution business continues to be the largest operating segment contributor to EBIT, representing approximately 69% of total EBIT in the first half of 2011. Retail accounted for 22%, wholesale for 9% and energy investments for the remainder

I’ll cover some of the major segment variances starting with our Distribution business on Slide 6. Primarily as a result of the rate decisions and infrastructure programs at Atlanta Gas Light and Elizabethtown, EBIT was up $7 million or 10% compared to last year, mainly due to a $10 million improvement in operating margin. You may recall that the new rates for Atlanta Gas Light were effective in the fourth quarter of 2010 and we have infrastructure improvement riders in place in both Georgia and New Jersey.

Operating expenses in the distribution segment increased just 2% and that was mainly driven by higher payroll and benefit costs associated with hiring new customer service employees, consistent with our commitment we made during the Atlanta Gas Light rate case.

You can see that our average customer count for the second quarter was down just slightly from this time last year, but remains stable. Year-to-date our Distribution business reported EBIT of $217 million, up 6% versus last year. The same major drivers we saw in the quarter also are the factors driving the good performance for the first half of the year and these results put our utility business on track to have a strong year in 2011.

At Virginia Natural Gas we’re in the middle of a rate case, which we expect to be decided sometime during the first half of next year. Consistent with regulation in Virginia, we will put rates into effect on October 1st, subject to refund. The monthly rate increase will average approximately $6 per customer over the course of the year. This is the first rate increase for Virginia Natural Gas customers in 15 years as base rates have not changed there since 1996.

Turning to the retail segment, SouthStar on Slide 7, we recorded EBIT of $1 million for the second quarter of 2011, equal to our results for last year’s second quarter. Due to positive weather variance quarter-over-quarter, we experienced increased margin, but that was offset by the continued competitive environments in Georgia including customer migration toward lower margin plans.

SouthStar’s market share in Georgia is 32%, relatively flat quarter-over-quarter. Year-to-date, EBIT at SouthStar is down 8% compared to 2010, due mainly to warmer weather in the first quarter of 2011 versus 2010 and the migration of customers to lower margin pricing plans.

You will find second quarter 2011 results for our Wholesale Services segment on Slide 8. Sequent continues to face the challenges of lower market volatility and lower price differentials for storage and transportation, but our diversified approach continued to service well through the first half of the year. We saw modest improvement in commercial activity during the second quarter relative to the prior year period, but the main driver for Sequent’s year-over-year improvement was the fact that we had $8 million in hedge gains during this year’s second quarter associated with hedges on our storage and transportation positions.

Conversely, last year in the second quarter, we had $8 million of hedge losses, so the $16 million delta was the largest change in Sequent’s second quarter earnings year-over-year. Year-to-date, our wholesale services segment contributed EBIT of $28 million, a $5 million increase over the first half of 2010. Operating margin was higher by $8 million, largely driven by $17 million of higher commercial activity offset by lower hedge gains.

Looking at our current storage rollout schedule at the end of the second quarter, Sequent had $11 million of economic value, which is $14 million below last year at this same time. This reflects the lower volatility and reduced spreads we continue to see in the market, factors that we anticipate will continue to challenge Sequent’s business through the remainder of the year.

However, we expect to partially mitigate these impacts by continuing to grow our asset portfolio, build our fee-based services and maintain our focus on expense control as we support growth in these areas. The lower roll-out schedule also reflects in part the acceleration of value during the first half of this year that would otherwise have been realized later in the year.

Finally, as you think about third quarter results for the wholesale segment, just a reminder that Sequent recorded $30 million in combined transportation and storage hedge gains in the third quarter of 2010. We would not expect to repeat this under normal market conditions.

On Slide 9, you can see that our energy nvestment segment had a slight improvement during the quarter as compared to last year. The improvement was due to increased revenue at Golden Triangle Storage which we put into commercial operation in the third quarter of last year. Also, for comparative purposes just keep in mind that we sold our telecommunications business, AGL Networks in July of last year.

In the storage business during the quarter we added new contracts at both Golden Triangle Storage and Jefferson Island Storage & Hub. One of the contracts that GTS signed during the quarter was with Sequent and John will review the rationale behind the transaction with you. You can see here that our blended rate for our 6 Bcf at GTS Cavern 1 is $0.14 and at Jefferson Island it is $0.19. These rates are inclusive of contracts that Sequent has signed with the facility.

Some balance sheet highlights are noted on Slide 10. The main thing that I would point out here is that we have made substantial progress toward financing the cash consideration of the Nicor transaction. As we noted in our 10-Q, we are finalizing documentation with various institutional investors for $275 million in funding through the private placement market in five and seven-year tranches, which we expected to take care of the short-duration portion of the curve for our financing activity related to the Nicor merger.

Including the $200 million pre-funding we did early in this year as part of the March senior note series issuance, we have arranged approximately 50% of the expected cash financing necessary for closing. The private placement is a delayed draw and we will not incur interest expense until we move closer to the close of the transaction.

Interest expense was up $6 million for the second quarter and $7 million for the first half of the year versus last year, driven primarily by higher average long-term debt outstanding related to that senior note issuance we issued in March of this year, which is inclusive of the portion to pre-fund the Nicor transaction.

In summary, we had another good performance during the second, we had another much stronger performance during the second quarter and we remain on track with our 3.10 to 3.20 EPS estimate for the full year, excluding Nicor-related merger costs. We continue to look for new opportunities across each of our businesses, while ensuring that our culture of rigorous expense management remains in place.

Thanks for your time today, and I'll turn the call over to John.

John Somerhalder

Thank you, Drew and good morning. Now that we have been through the financial details for the second quarter, let me update you on a few of our other major initiatives, including the Nicor merger approval process which is outlined on Slide 11. With the exception of the Illinois Commerce Commission, we secured all major approvals that we will need to close the Nicor transaction, including shareholder approvals which we received in June.

We continued to make progress towards ICC approval. After several rounds of filed testimony, we participated in evidentiary hearings in Illinois two weeks ago. Our witnesses presented a strong case for merger approval, and we have considerably narrowed the list of issues we need to resolve with the ICC staff. We continue to work for resolution of those issues.

We remain on track for closing the transaction by year end and our integration planning efforts are focused on ensuring we are operationally ready in the event that we are granted expedited approval. As a reminder, we have asked for expedited approval by October 1, but the current Illinois procedural schedule runs through December 16th.

Yesterday, our Board of Directors approved recommendations from Nicor for four new appointees to the AGL Resources' Board of Directors. The nominees are Norman Bobins, Brenda Gaines, Armando Olivera and John Rau and they will join the 12 existing AGL Resources' Board members. Norman, Brenda, Armando and John bring a wealth of experience and diverse backgrounds and we look forward to welcoming them officially when the merger closes.

Turning to Slide 12, you can see our 2011 priorities that we laid out at the beginning of the year. As Drew mentioned, overall we remain on target to meet our guidance of $3.10 to $3.20 per share. The distribution business performed quite well during the first half relative to expectations and we anticipate that this trend will continue through the remainder of the year. Our utilities experienced very little impact from low volatility as they are largely insulated from price fluctuations through riders and weather normalization programs.

The businesses that are impacted more substantially by tight spreads and low volatility are our non-utility businesses. While abundant supply has positive long-term implications for our industry and business, abundant storage combined with historically low spreads creates a challenging environment in the short-term.

At SouthStar, our results year-to-date have fallen slightly below our expectations. We’ve done well (inaudible) a stable customer base and our Georgia market share has been trending mostly upward this year, but we are seeing a continuation of the trend of customers migrating towards lower margin plans. Further impacting that business has been average warmer temperatures and lower volatility.

Sequent has produced strong results today despite a tough environment for wholesale and asset optimization businesses. However, our storage rollout position for the remainder of the year is now lower than it was at this time last year. The positive of this result is that we had strong commercial activity during the first half of the year and affectively monetized many of our positions. The downside is that it also means we have a somewhat weaker position for the remainder of the year assuming low volatility persists. We’ve been diversifying Sequent’s business by focusing on fee-based services, power generation supply and producer services among other initiatives, which should help us mitigate the impacts of low volatility on the business.

Drew mentioned the transaction between Sequent and Golden Triangle Storage and I’ll provide you with a bit more detail. During the second quarter, Sequent executed a 2 Bcf storage agreement with GTS Cavern 1, effective June 1, 2011 for a five-year term. Sequent continues to focus on servicing the core gas-fire generation market as well as expanding its other customer business in Texas. So acquiring well located Texas storage capacity makes sense.

This new GTS storage lease along with Sequent’s other contractual assets in Texas will allow Sequent to continue to grow this business. Further, Sequent adds to the reputable customer portfolio that GTS is cultivating and that it’s an active participant providing gas supply services to the wholesale market. In addition to the Sequent contract, we’ve signed third-party contracts such that GTS Cavern 1 is now fully contracted at a blended rate of approximately $0.14 and that includes the Sequent transaction. Jefferson Island is 93% contracted with an average subscription rate of $0.19 and that also includes an existing contract with Sequent which has been in place since 2007.

On the construction and development front, we continue to make good progress on the second Cavern at Golden Triangle Storage and remain on track to have it in service in early 2012. The preliminary process for expansion at Jefferson Island is also ongoing, although further capital spending on storage projects will depend on storage market conditions.

As most of you know, third and fourth quarters are always important ones for Sequent, SouthStar and Pivotal. So Pete, Mike, Dana and their teams will be executing on the core business strategies while looking for market opportunities to generate additional economic value.

Wrapping up our prepared remarks today, we’ve had a good start to the year in terms of operating and financial performance. We remain on track with the Nicor merger approval process and we look forward to providing additional updates as they become available. On behalf of our employees at AGL Resources, we would like to thank each of you for your continued interest in and support of our Company.

Operator, I’ll turn the call back over to you to begin the Q&A session.

Question-And-Answer Session

Operator

Thank you. (Operator instructions). Your first question comes from the line of Ted Durbin from Goldman Sachs. Please proceed.

Ted Durbin - Goldman Sachs & Co.

Thanks. My first question is just in terms of, you are sort of halfway through the year here. Could you just give us some update on how you're tracking relative to your guidance range, both overall? Do you sort of see yourself closer to the high end or the low end of the range on an EPS basis and then on a segment basis, on an EBIT basis, kind of the higher end or the lower end of the range there?

John Somerhalder

Yeah Ted, this is John Somerhalder. I'll start out and then ask Drew to add a little bit more to that, but in total we believe we're tracking very near the middle of our range. Business unit by business unit, it's slightly different, although not by much. We've seen slightly positive results relative to our guidance in Distribution operations for the reasons Drew mentioned earlier, and we've seen a little bit more pressure on the SouthStar business because of weather and the migration of customers to some lower margin plans, but not by a larger amount. So in some businesses, slightly below. In distribution operations a little above, but in total very much down the middle so far after six months. And Drew if you want to add to that?

Andrew Evans

I don't think I'd characterize it differently, with very tight plan and not a lot of variance across the segments relative to the plan.

Ted Durbin - Goldman Sachs & Co.

Okay, that’s helpful. Thanks and then if I could ask about, just coming back to Sequent, I know you're trying to build more of a fee-based business. Maybe talk about some of the kind of rates and margins you're seeing on those new contracts? And then are you still really aggressively trying to grow, I think you had said 8% to 10% growth in kind of your transportation contract, but we're seeing still very tight basis differentials. Are you still kind of aggressively trying to grow on the volume side there, or have you changed at all since the Analyst Day?

John Somerhalder

Pete's here. I'll turn it over to him.

Peter Tumminello

Yeah Ted, we've really been able to find some significant opportunities on the transportation side of the business. There is an awful lot of transportation contracts that are expiring really throughout the country and Sequent has been very active working with pipelines and securing additional term transportation to diversify our portfolio in really all regions of the country, not just East but in the Midwest and the West as well. So that business is continuing to grow volumetrically and as you stated the margins are definitely tight and spreads through most regions are tight.

However, we are able to re-contract at much lower values which certainly is in line with those tighter spreads. Your other question related to the fee-based business, that is continuing to grow. We’re seeing significant growth in our producer services group that is working primarily with shale producers, be it in the Marcellus, Eagle Ford, Haynesville and in some of the new shales that we are seeing and we are able to secure production that fits well with our transportation and asset management portfolio there. So that continues to grow in line with what we’ve described in prior meetings and then our gas supply for power generation is also just an anchor for what we are trying to do.

That business is one of our better margin businesses. It does connect very well with the storage positions we take with the asset management transactions that we have in our portfolio and allows us to serve the power plants on the multi-cycle needs and the high service demands that power generators have.

Ted Durbin - Goldman Sachs & Co.

Okay, thanks. That’s helpful and last one from me. Nice results there at the utility. I just wanted to double check, the $8 million increase from Atlanta Gas Light, was that all attributable to the rate case or is some of that, some of the infrastructure replacement and then if you could also just talk to, talking about cost controls, do you have a target for how much cost inflation you expect on a year-over-year basis? Is it 2%, 3%? Maybe talk a little bit about that.

John Somerhalder

The last question is a little harder to be that specific on, but on the first point, it is a combination both of a rate case that works well for our customers, but also work well for the company and continued investment in infrastructure. I think it’s somewhat equally split, but Hank is here and he can answer that in a little bit more detail. As far as cost control, we are not quite that precise on an exact target.

What we attempt to do though is it’s very important to make sure that we pay our employees and reward them and recognize them in the appropriate way. So we do know we’ll have cost increases related to benefits and pay. However, what we try to do is make sure that in all other areas we find efficiencies to do the best job to offset those cost increases and we’ve been fairly successful in that range and I’ll turn it over to Hank for more detail.

Hank Linginfelter

Ted, thanks for the question. I think John’s characterization is right on. The improvement year-over-year it’s a lot rate case and a lot other infrastructure programs, not just Atlanta Gas Light, but in New Jersey as we mentioned in the prepared remarks and so we’re seeing opportunities for infrastructure investment across the enterprise that have mechanisms tied to them and we think that trend will continue and so we find it to be encouraging that we can expand our system, serve new loads and replace old parts of the system and have mechanisms to deal with that.

We just got an approval yesterday at the Georgia Commission for additional expansion in Georgia as part of our STRIDE program to serve new territories. And then on cost controls, just as John said, we’re tracking about where we think we should be, but broadly and not just inside the utility, but service providers in AGL that provide services to utility are all managing costs very effectively and it’s really helping the performance for the year.

Andrew Evans

I mean if you look at it, maybe our expectation around cost inflations is typically closer to 3% a year and we’re running maybe a little bit closer to 2. If I look at the variance relative to expectation, margin is pretty easy for us to estimate based on rate cases and capital deployment and expenses really although we’ve created more of the positive variance relative to plan.

John Somerhalder

I agree. That’s fair.

Ted Durbin - Goldman Sachs & Co.

That’s it for me. Thanks guys.

Operator

Your next question comes from the line of Craig Shere fromTuohy Brothers. Please proceed.

Craig Shere - Tuohy Brothers

Morning guys. Two questions. First one maybe a little quicker for Pete and maybe second one, I don’t know if John or Pete want to talk a little about, but Pete, can you quantify how much built-in costs might be rolling off in the coming two or three years as your legacy of Sequent contracts roll off for storage and transport capacity and you're able to re-up that at lower market rates? And then second question, a peer that has a lot of gas storage capacity had at least on that side a big miss this morning, although the MLP did very well and clearly we’re seeing lower contracted rates at GTS.

I guess, since the storage build out used to be a couple years ago the longer-term growth driver plan for the business, my big picture question is, what are the longer-term drivers, what are the opportunities looking past the great situation with the Nicor merger? But in terms of organic growth in the business, if gas storage never comes back, are we talking about low turn storage, depleted reservoir? Are we talking about transport fuels? What are we talking about to grow the business longer term?

Peter Tumminello

Craig, I'll go ahead and answer your first question related to Sequent’s portfolio and the demand cost kind of roll-off over the next several years. I'll say this, we are seeing probably over the next two to three years an approximate 40% to 50% reduction, say three years from now of our transportation and storage demand cost roll-off from where we are now. However, with our growth, we are replacing those with the lower cost contracts and we're doing significantly larger volume. So, I do expect over time that our full demand charge, portfolio storage and transport to be fairly constant over that time period. It will just be replaced with more market sensitive price contracts. So I think that categorizes that piece for you and I'll turn it over to John on the other question.

John Somerhalder

Craig, the other question is the question we focus on the most heavily and that is that related to storage, I mean to start out with, we're very happy with the portfolio of contracts we now have with Jefferson Island and Golden Triangle. We think that's a very nice balance between contracts we entered into in the past, recent contracts we've entered into, how much capacity Sequent holds and manages, but you are right. If the storage market continues to show the commercial values we're seeing right now, we plan to be very disciplined and only spend what we need to, to keep our opportunities to expand at Jefferson Island and at Golden Triangle well positioned, but not to allocate capital to that until the market improves.

So what that does mean is that we will have to focus on other growth drivers. The good news is like you've pointed out, we have a good opportunity around the Nicor merger and integration. As Hank pointed out, what we’ve really seen as positive in the utility business is good opportunity to continue to invest. We have invested in infrastructure both from a safety standpoint and reinforcing our system in Atlanta for pressures. Hank pointed out some projects to extend our system.

We have invested in pipeline projects like HRS. We see opportunities to continue to invest in our regulated business and those take a high, those are a high priority. We also back on storage as you pointed out, another good thing about the Nicor businesses is the projects that they have looked at and or have opportunities around are more in the category of lower turn reservoir storage. And even though the market is depressed now, we see a better opportunity to potentially move some of those projects for us.

So we'll be very disciplined about that, but that gives us an opportunity as well. As well as Nicor has had success with their retail business around warranty products and some of those things which we very much believe in. So it really is not any one item that will replace if we don’t have investment in storage. It really is a balance between our utility business and these other opportunities that I've talked about, but you are also right about the one last item and I am making this probably too long of an answer, but we do continue to see a trend towards interest in using natural gas for transportation and whether that’s using some of our liquefied natural gas infrastructure to supply on-road and off-road heavy-to-heavy transportation or larger engines, or even a trend towards using more for personal vehicles, it really has shown positive signs, although it’s too early to allocate a lot of our attention and resources and growth plans to that, although it’s something we’re following very closely.

We think that can be successful, so we’re focused on it, but we’re really looking at those things I mentioned first as the drivers of growth if we don’t have the return to a normal level of volatility that we’ve seen in the past on storage and by the way, we still feel very good when the market is back and balanced. It’s very oversupplied now with storage and flowing gas. We feel there will be an opportunity over the long run to expand Jefferson Island and Golden Triangle.

Ted Durbin - Goldman Sachs & Co.

Great, thank you very much.

Operator

Your next question comes from the line of Faisel Khan from Citigroup.

Faisel Khan – Citigroup

Yeah, it’s Faisel from Citi. On the gas storage business, I just want to understand a little bit more about the contracting here. So to the overall subscription rate on GTS is $0.14 and on GIS was $0.19. What’s the tenure of those contracts and if you could kind of give us an idea of kind of where the market is now? Are we, I mean do these contracts represent kind of better rates than we’ve seen in the past or are things kind of bottoming out, kind of give us an idea of kind of how this process took place?

John Somerhalder

Yeah Faisel, at GTS we have three contracts in place and they range from two years to five years. In fact, two of the three are five-year contracts and one is roughly a two-year contract. I think it may have been some months slightly less than that, but roughly a two-year contract and so the rate you see there really is a balance between rates that we’ve seen over a longer time period because we did not all contract for that recently, but the rates today are lower than that, on average.

So we would see moving forward if things do not improve that we have downward pressure on those average rates as we re-contract. Now again, we see with a more balanced market the opportunity for us to move back in a positive direction, but today that has not been the case. Essentially what we’ve seen so far this year, even though things aren’t getting lower from the standpoint of the value of storage services, they have leveled out at a low level and they’ve really not shown much improvement, even though we’ve had cold weather this winter and we’ve had some hot weather so far mixed in, in the summer.

We’ve seen enough gas in storage and enough flowing gas that the volatility has been limited. Pete and Sequent have been able to capture some value on that especially in certain areas where we uniquely hold transportation portfolios, like in upper mid-Atlantic and further up in the East, but it’s been somewhat limited. At Jefferson Island we have a range of contracts there and the terms have been anywhere from one to five years. On average, it’s closer to two-year term right now, two and a half year term. And again that represents contracts that were entered into four, five years ago as well as recent contracts. Again, we’re very happy with that $0.19 rate. If we had to re-contract it all today, it would be at a lower rate.

Andrew Evans

The only thing I think I'd add is that if you were to extract the Sequent contract from the GTS calculation, the average would actually go up.

John Somerhalder

Not material.

Andrew Evans

Not much, but it's, to say that contract is just slightly below the average. So it's not supporting the number that we report to you.

Faisel Khan – Citigroup

I got you. Okay and then is, so you would say that the rate of decline and the market rates for these two assets has bottomed out. We’re not seeing any more deterioration in contracting rates, are we?

John Somerhalder

In general, we look at some models and then obviously are out in the market. I'd characterize it the other way. It really has not gotten any better over the last three or four months.

Andrew Evans

But there is not really a negative. We don't really see a large negative trend either.

Faisel Khan – Citigroup

Okay, got you. Thanks guys.

Operator

Your next question comes from the line of Carl Kirst from BMO Capital. Please proceed.

Carl Kirst - BMO Capital Markets

Thanks, good morning everybody. Maybe just following up on Faisel’s because he kind of hit one of the things I wanted to touch on, but with just maybe having a lower weighted average contract duration. As we begin to see more contracts rolled, does this signal sort of Sequent's appetite basically to continue taking those contracts as they roll? I mean how should we think about that?

John Somerhalder

Well, as one example, Carl, we're contracted essentially at the level we want to be today at Jefferson Island through basically spring of next year, and we have about 3 Bcf that rolls off spring of next year. 2 of the 3 happens to be the Sequent contract that we referenced to in the prepared remarks and that would be something that Pete and team would look very closely. I think that contract works very well for them. If they can work out the right rate with our pivotal group, I think they would be interested in continuing that. So I’ll turn it over to Pete to kind of talk about his view on re-contracting in that area as well as other areas.

Peter Tumminello

Yeah Carl, Dish as well as other storages are very integral to our integrated approach of serving customers and primarily storage in particular facilities, soft cabin facilities are instrumental in helping to balance the intra-day needs of power generation load. So to the extent we continue to have the success that we’re having acquiring new contracts on the power generation side, we will continue to need currently the base of contracts we have and likely a growing base of storage contracts to help support the customer side of our business.

Carl Kirst - BMO Capital Markets

Okay now, I appreciate the color. One question maybe if I could on SouthStar and the issue of sort of the migration of customers to fixed price plans. I assume that’s a lower margin plan we are referring to. This climate has been sort of an on again, off again dynamic seems like maybe for last 18 months, 2 years and maybe you could refresh my memory just how much of those plans make up the total composition. Is it something we’re with 20% mark still or are we at the 40% mark and I guess trying to gauge if this doesn’t stop and we kind of continue to get a little bit of some water torture here. Exactly how much margin, future margin threat is this?

Michael Braswell

This is Mike Braswell with SouthStar. In terms of the migration of customers to lower margin price plans and probably the majority of those plans are fixed rate plans. I would say it’s been a migration since probably 2007-2008. That’s really when it started it was 2008 when the economy turned and consumers started focusing more in the retail sector on value propositions and like I’ve said this occurred in our retail sectors, not just energy or natural gas specifically, so it’s pretty broad.

If you get to percentages, it’s I would say on fixed price plans. Again I probably won’t give you an exact number, I’ll say maybe roughly a third and then if you get to, how do we view that as a business issue for SouthStar? Really what we’re doing is looking at what new products and services we can offer that add value to the consumer that are beyond the fixed price. As an example we just launched a price protection guarantee plan and what it does, it has the advantage of protection of locking in your price if prices go up, but you also get the advantage if prices drop and those kind of price plans have a little better margin than a fixed, but there is also more value for the consumer.

Again, they get upside protection like a fixed priced plan as well as they get the benefit when prices drop. So, what we’re looking at is how do we create new products, new pricing plans that offer incremental value to the consumer and also provide us more value as well. So I would say at a high level, again it’s been a trend since ’08. The rate is declining. If you look at the rate from ‘09 to ‘10 and now ‘10 to ‘11 that rate is declining year-over-year, so we are seeing that moderate. As I said earlier in the year and again what we’re focused on is how do we provide better services to customers, new products. We're also focused at the call center in terms of how do we have a better experience with the customer and make sure that the CSRs have all the appropriate information to provide the best plan for each customer.

John Somerhalder

Yeah and Carl let me add just a little bit. As Mike indicated that the trend has gone in a positive, not a positive direction, but it’s leveled off the migration to those lower margin plans has moderated and in some classes of customers, you see some natural limits of how much you would expect. So there are some natural limits but I think the success we’ve had has also been the addition of these new programs that work very well for our customer, but that still is a risk. Even though we have a good trend, we’ve offered other products and we’ve reached some natural limits in some of the categories of customers. It still was a risk we’re focused on and that’s really one of Mike’s bigger priorities is to keep that stabilized.

Carl Kirst - BMO Capital Markets

I appreciate that and I guess maybe as we sort of look out at the market and keep our fingers crossed on the economy and maybe we don’t have this sort of trend to reaccelerate I guess. Is there any way to quantify what a sensitivity would be? Like say for instance if we’re roughly now at one-third of the mix. If it went say for instance up to one half. Is this something that is 2 million, 3 million of annual EBIT or is this something that’s like 10 million, 15 million of annual EBIT? I don’t know if there is any way to put that in perspective?

Andrew Evans

It’s probably something we should do some more detailed analysis on but for throwing a number out there is my only concern.

Hank Linginfelter

Right. Yeah, I’m not really ready to throw a number out there and the difficulty is it’s not that straightforward of an analysis where I could just say, if so many customers move, what it would be because there is a variation of margins among customers than when some customers move, there is not much degradation at all.

John Somerhalder

Yeah. It depends and there is a commercial sector to it and in the commercial sector again there is a lot of various pricing margins. So unfortunately it’s not that straightforward and simple, but I can give you one metric and I’ll probably get in trouble with the metric. I can give you one, I will. One metric would be if you just look at last year compared to this year and the trend that’s occurred. We talked about being down in the first half of the year and that’s really the important time period to measure this all along. We were down about 6 million and that was, that had both weather impact and this risk somewhat in balanced proportion. So that’s, the first number you quoted is more what we’ve seen year-over-year because of migration, not the larger number.

Carl Kirst - BMO Capital Markets

Okay, now that’s helpful and then maybe last question if I could, and actually kind of going back to Ted’s opening question just on the guidance and not to read too much into the tea leaves so to speak, but when you read the press release and understanding, guidance is always sort of caveated on normal weather and I think the text even says normal volatility and of course we’re not in a normal volatile kind of market right now. So I guess, just to reaffirm that even with sort of I would say the ongoing challenges of Sequent here in the second half of this year, you’re reaffirming your comfort with the guidance.

John Somerhalder

That is correct. There is, we do see though two risks that we’re focused on, and that would be our businesses, both SouthStar’s business and Sequent’s business, and even distribution operations to a very limited extent. If we had a mild start to the winter that can impact those businesses in a way, that’s probably the issue we’ll focus on the most. On the volatility question, that’s a little bit more difficult because as Pete indicated and as Drew indicated, the roll-out schedule is less than it was last year, although if you look historically, it’s not as different as it is compared to last year.

We had a very strong roll-out scheduled this time than last year and we have the situation that volatility is low, but as Pete indicated he’s been able to get new transportation storage, redo asset management deals with better rates. We have more agreements in place with producers and with power plants that we think can mitigate that. So we think we have a chance in a lower volatility environment to still have good results at Sequent for the year and meet our guidance, but obviously even lower volatility or any other business conditions that would be negative.

We still have some risk at Sequent in meeting our guidance range. So that was a less precise answer on the second one, but yes, we factored in some, we’re not counting on returning to the type of volatility that we’ve seen on average over the last five years. We certainly could be impacted though if the volatility stays as lower than it is even today.

Carl Kirst - BMO Capital Markets

Fair enough, I appreciate the comments. Thanks guys.

Operator

Your next question comes from the line of Mark Barnett from Morningstar. Please proceed.

Mark Barnett – Morningstar

Hey good morning guys. Sorry, I knew you had given a little bit of detail on the producer services segment earlier, but I was jumping between calls. So I’m just wondering there, with the progress that you’re making, are those mostly existing customers that you’ve had relationships with? You had spoken to some of that in last quarter’s call or are you actually out there getting some new customers and sort of how that’s developing?

Peter Tumminello

Yeah Mark, this is Pete. It’s really a combination of both. As some of our co-existing customers are expanding their reach and growing their volumes, we’re working to continue to keep our preferred supplier-provider position in place with them and grow our volumes with them as they’re growing. But we are also adding many new customers, many new producers to the mix as some more small-to-mid size independents are expanding their volumes in primarily the shale plays. But all over, but primarily shale we are growing volumes with new customers as well. So it’s a combination of both.

Mark Barnett – Morningstar

Alright, thanks for that. It’s been a long call, I’ll keep it to that.

Operator

At this time, you have no further questions in the queue.

Sarah Stashak

Thank you for joining us today. We’ll be available the rest of the day, and if you have questions once you’ve made it through the 10-Q and looked at our materials in more detail. Thank you.

Operator

Ladies and gentlemen, that concludes today’s conference. Thank you for your participation. You may now disconnect. Have a great day.

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