Questar's CEO Discusses Q4 2011 Results - Earnings Call Transcript

| About: Questar Corporation (STR)

Questar (NYSE:STR)

Q4 2011 Earnings Call

February 15, 2012 9:30 am ET


Kevin W. Hadlock - Chief Financial Officer, Principal Accounting Officer and Executive Vice President

Ronald W. Jibson - Chief Executive Officer, President, Director, Chief Executive Officer of Questar Gas Company and President of Questar Gas Company

R. Allan Bradley - Executive Vice President, Chief Executive Officer of Questar Pipeline Company and President of Questar Pipeline Company

James R. Livsey - Executive Vice President and General Manager of Wexpro Company


Christopher P. Sighinolfi - UBS Investment Bank, Research Division

Danilo Juvane

Timm Schneider - Citigroup Inc, Research Division


Good morning. My name is Jessica, and I will be the conference operator today. At this time, I would like to welcome everyone to the fourth quarter year end 2011 earnings release conference call. [Operator Instructions] Kevin Hadlock, you may begin your conference.

Kevin W. Hadlock

Thank you, Jessica. Good morning, everyone, and thank you for joining us for Questar's Full Year 2011 Earnings Conference Call. I am Kevin Hadlock, Questar’s Chief Financial Officer. With me today are Ron Jibson, President and CEO of Questar Corporation; Jim Livsey, Executive Vice President of Wexpro; Allan Bradley, CEO of Questar Pipeline; and Craig Wagstaff, Senior Vice President of Questar Gas.

During this call, we will be referring to our 2011 earnings presentation that can be found on our website at

Moving to Slide 2. Before we begin, let me remind you that we will be making forward-looking statements during our call today and actual results could differ from our estimates for a variety of reasons that we describe in our SEC filings. Also, this call may reference non-GAAP financial measures. Our slides in the Appendix provide reconciliations to these measures.

Let's begin on Slide 4. Yesterday, we reported full year 2011 net income of $207.9 million or $1.16 per diluted share. This compares to income from continuing operation of $201.1 million or $1.13 per diluted share in 2010.

Operating cash flow was strong in 2011, totaling about $484 million, up more than 5% versus 2010. Overall, capital investment was $368 million, up almost 15% over 2010 levels.

Turning to Slide 5. All 3 business units showed earnings improvement in 2011 versus the prior year. Corporate was lower due to higher interest expense from the $250 million of debt issued in December of 2010. Overall, net income in 2011 increased by $6.8 million or $0.03 per diluted share over income from continuing operations in 2010.

Moving to Slide 6. Wexpro, our cost of service natural gas development company, grew EBITDA to $213.9 million, up $14.5 million or 7% compared to 2010. 2011 net income was up $7.1 million to $95.2 million, an increase of 8% over 2010. These results were driven largely by a higher average investment base, which saw year-over-year increase of $17.8 million or about 4.1%. Wexpro invested capital of $136.2 million in 2011 compared to $90.6 million in 2010.

Turning to Slide 7. Questar Pipeline, our interstate natural gas pipeline and storage business, delivered solid performance in 2011. Revenue was up slightly, driven primarily by additional transportation revenues from the Overthrust Loop Expansion. These results were essentially offset by lower revenues from natural gas liquid sales. Net income was $67.9 million, consistent with 2010's strong performance. Capital investment in 2011 was $16.5 million lower than 2010, driven by the completion of several key projects early in the year.

Moving to Slide 8. Questar Gas, our retail gas distribution utility, saw an increase in gross margin of $12.4 million. EBITDA and net income were both higher by $5 million and $2.2 million respectively. Questar Gas' capital investment in 2011 was $121.5 million, an increase of $12.9 million over 2010 levels.

Moving to Slide 9. With regard to costs, Questar's 2011 consolidated operating and maintenance costs were essentially flat versus 2010. Our general and administrative expenses were higher due to the absorption of expenses that were previously allocated to QEP Resources in 2010 prior to the spinoffs and slightly higher employee costs.

Production and other taxes were $1.9 million higher due to property taxes on higher plant investment. Depreciation in 2011 was up $6.5 million compared to 2010 due to higher capital investment. Consolidated interest expense was $300,000 lower primarily due to lower interest rates, partially offset by corporate debt issued in December 2010.

Turning to Slide 10. The company continues to generate strong cash flow. For 2011, cash flow from continuing operations before working capital changes total about $484 million, a 5.4% increase over 2010. At December 31, Questar had net available liquidity of $281 million, with $219 million of commercial paper outstanding.

With that, let me turn the time over to Questar's President and CEO, Ron Jibson, to discuss operations and Questar's outlook.

Ronald W. Jibson

Good morning, everyone, and thanks Kevin for that summary. We appreciate all of you joining us today and I'll briefly comment on our full year 2011 results and update our long-term outlook. Let's begin on Slide 12.

With the end of the fourth quarter, we recognized a number of key milestones in 2011. First, we completed the first full calendar year as the New Questar, emerging as a well-balanced integrated natural gas company. Second, we celebrated the 30th anniversary of the signing of the Wexpro Agreement. And finally, we delivered record results in each of our business units: Questar Gas, Wexpro and Questar Pipeline.

We reported full year consolidated earnings of $1.16 per diluted share, which exceeded our revised guidance range of $1.11 to $1.14 per diluted share. Given the headwinds we faced coming into the year, I am very pleased with our employees' efforts to achieve these results. We have also delivered on our commitment to increase the dividend.

During 2011, we increased the annual dividend rate to $0.65 per share, an increase of more than 16%. Our payout ratio now stands at 56% based on 2011 earnings results. We expect to continue increasing the dividend, targeting a 60% payout ratio. This could allow us to increase the dividend faster than earnings growth over the early part of the 5-year plan.

Finally, during 2011, the Questar Board of Directors approved a $100 million share repurchase program, which will be effective through 2012. During 2011, we repurchase shares with a value of $4.9 million. We expect to accelerate the repurchase program in the early part of 2012 to manage the share count back to pre-spin levels.

Turning to Wexpro's results on Slide 13. Wexpro is a unique company that delivered record net income in 2011 of $95.2 million and produced a return on equity of 20.4%. Wexpro delivered low-cost production largely due to increasing drilling efficiencies in the Vermillion Basin. Drilling performance in this area continues to exceed expectations with drilling times of less than 5 days per well. This has resulted in average finding costs of less than the $1 per Mcfe for completed wells that Wexpro operates in Vermillion. Together with Wexpro's non-operated wells in Pinedale, our average full-year finding costs were $1.08 per Mcfe.

The accelerating pace of our drilling program allowed us to spend greater amounts of capital in 2011 than originally forecast. Wexpro's year-end investment base was $474.4 million, an increase of $17.8 million compared to the end of 2010. Wexpro experienced record cost of service natural gas production of 50.5 billion cubic feet to our utility Questar Gas.

In addition, Wexpro's proved reserves rose 3% to 790.7 billion cubic feet equivalent as it replaced a 144% of its 2011 cost of service production.

Wexpro expects to invest between $550 million and $700 million through 2016. We currently project capital investment of $130 million for 2012, slightly lower than our estimate last quarter. This capital program should compound annual earnings growth of 4% to 8% through the 5-year planning horizon.

Before I leave Wexpro, I want to comment on the dialogue concerning the potential for a Wexpro II agreement. The current Wexpro Agreement does not permit us to add new properties. Given the current low priced natural gas environment, we believe that Questar Gas customers and company shareholders could benefit by expanding the Wexpro Agreement to include some additional future assets. We would not expect that adding properties to the Wexpro Agreement would materially change our current 5-year drilling plan, but would accomplish our objective of extending the life of cost of service production.

Moving to Questar Pipeline on Slide 14. Questar Pipeline, our natural gas transportation and storage business, reported record net income of $67.9 million and earned a return on equity of 11.4% for 2011. Higher revenue was primarily driven by an incremental transportation revenues from the Overthrust Loop Expansion project that we completed in March of 2011, offset by lower revenues from natural gas liquids sales. We also completed other important projects during the year, including the main line 3 replacement and the main line 104 extension.

Also during the year, we received authorization to increase Clay Basin storage capacity by 2.7 billion cubic feet. Even with the completion of these important projects, Questar Pipeline's 2011 O&M and G&A costs were essentially flat when compared to 2010. Lower interest expense in 2011 was offset by higher depreciation expenses and other taxes.

We continue to look for opportunities to provide value-added services to producers. Market dynamics, including the current low natural gas price environment, are presenting fewer growth opportunities. Consequently, we are expecting Questar Pipeline's earnings to essentially be flat over the 5-year planning horizon.

On the positive side, however, we are projecting cumulative free cash flow of approximately $350 million over the 5-year plan.

Turning to Questar Gas on Slide 15. Questar Gas turned in a very strong year, earning net income of $46.1 million and a return on equity of 10.6% on a financial basis. This is the seventh consecutive year that Questar Gas has earned its allowed return. Questa Gas' results benefited from customer growth in the service area, slightly higher rates stemming from the full-year benefit of the 2010 general rate case settlement and recover of feeder-line replacement costs. Over the past 12 months, Questar Gas added nearly 10,000 new customers, an increase of about 1%, outpacing the national average. We also maintained a strong focus on customer satisfaction, which remains at an all-time high.

Turning to our outlook for Questar Gas. We are projecting compound annual earnings growth of 7% to 9% over the 5-year planning horizon. This growth rate reflects softer customer growth expectations for 2012 of 1% increasing to 2% over the 5-year plan. Recently, Utah repeated its Forbes Magazine's Best State for Business and Careers in its sixth annual look at the business climates of the 50 states. Given the recent economic forecast for the state of Utah, our customer growth estimates could prove conservative.

Our earnings growth rate is also supported by the multi-year infrastructure replacement program. The feeder-line tracker allows us to earn a return as we've placed the new facilities into service. This cost tracker is extremely important for Questar Gas, our customers and certainly our shareholders. Everyone benefits as necessary improvements are made to the distribution system without the need to file general rate cases to add to the investment to rate base. Questar Gas is expected to spend about $55 million in 2012 on our feeder-line and infrastructure replacement program.

Turning to Slide 16. Questar's return on equity continues to be industry-leading. For the full year 2011, we saw a consolidated return on equity of 20.1%. This superior return is supported by Wexpro, which provided an ROE of 20.4%. Questar Pipeline delivered on ROE of 11.4%, which is near its authorized return.

On a financial basis, Questar Gas' return on equity was 10.6%, which included a $20 million equity contribution made in 2011.

Moving to Slide 17. Looking at 2012, we see some additional headwinds including lower natural gas prices and higher pension and interest expense. However, we remain comfortable that net income could range from $1.15 to $1.19 per diluted share. Considering the impact of bonus depreciation, Wexpro's investment base and earnings should continue to grow. Questar Gas expects to grow its rate base through its multi-year feeder-line replacement program and modest customer growth. Questar Pipeline expects higher transportation revenues to offset lower NGL revenues.

Finally, Wexpro and Questar Pipeline's continued strong cash flow generation will help support Questar's capital requirements and dividend growth.

Wrapping up on Slide 18. Let me conclude by emphasizing the unique strengths of Questar's business model. We have strong integrated operations that span across the entire natural gas value chain from wellhead to burner tip. Each business is supported by constructive regulatory relationships and produces a superior risk-adjusted return. We have excellent organic growth opportunities at Questar Gas and Wexpro, supported by strong cash flow generation at Questar Pipeline.

Finally, we manage a conservative balance sheet with ample cash flow and liquidity that not only supports our earnings growth but also an increasing dividend and our $100 million share repurchase program.

And with that, we would be happy to take your questions. Operator?

Question-and-Answer Session


[Operator Instructions] Your first question comes the line of Chris Sighinolfi from UBS.

Christopher P. Sighinolfi - UBS Investment Bank, Research Division

Just a couple of questions. I guess first actually for Allan, NGL sales, obviously, we knew they were going to be softer in '11 versus '10, given some of the third-party process that came on for their upstream. The fourth quarter dipped down pretty materially versus third quarter, I'm just curious if there was something -- I know QEP brought on their black support 2 [ph] plan. I was just curious as to what are your expectation for '12? Is fourth quarter run rate sort of the new normal or should we be thinking more along the lines of what was achieved in the first 9 months of the year?

R. Allan Bradley

First, you hit the nail on the head with the upstream processing, the black support prio [ph] that QEP brought on. We were also doing some work at Skull Creek in December. So we weren't as efficient at Skull Creek as we might have been in the earlier quarters. So I would expect the fourth quarter to be a little lower than our typical run rate for 2012.

Christopher P. Sighinolfi - UBS Investment Bank, Research Division

Okay, that's helpful. And then I guess the share repurchase, I know you guys were sort of off to a very slow start with that in the third quarter. It didn't look to me like there was a whole lot in the way of repurchases in the fourth quarter. But, I was just curious the extent of what remains for the $100 million.

Ronald W. Jibson

Good question. Kevin, will you?

Kevin W. Hadlock

Sure. In the fourth quarter we -- I should say, for the full year, we repurchased about 4.9 million shares in aggregate. Because of the strong share price in the fourth quarter relative to peers, we by and large stayed out of the market. As we look at this year we do expect that that share repurchase will accelerate after we come out of our blackout period following earnings and filing of the K later in the first quarter.

Christopher P. Sighinolfi - UBS Investment Bank, Research Division

Okay. Kevin, is that just sort of thought process-wise, is that how you look at it? You look at your performance relative to the rest of the group when you make that decision? You sort of mentioned it.

Kevin W. Hadlock

Well, sort of we look at both market tone as well as how the stock price is performing relative to our peer group. We certainly don't want to be chasing our stock price up, so we are cautious and we will be relatively careful as we go in not to materially affect the stock price. Let me just clarify one thing for you, that $4.9 million that I mentioned was dollars, not shares, [indiscernible] $4.9 million of value of shares in the full year.

Christopher P. Sighinolfi - UBS Investment Bank, Research Division

Okay, great. And now I guess the final question before I just turn it back over to the rest of the group. I don't want to assume we're going to have a little bit more detail around your conversations with the regulators regarding Wexpro at your upcoming Analyst Day, but can I just ask Ron, Jim, how you guys think about the -- and since your last call, we've seen roughly almost a 30% decline in the 2012 strip price. I think you guys, at that point, were expecting to spend about $135 million in '12 on Wexpro development. I'm just curious, it didn't look like any of those numbers had changed but I was sort of interested given the price decline. I guess, what your current thoughts are around Wexpro's near-term development plan.

Ronald W. Jibson

Yes, Chris. We can address -- I've got a couple of questions there. First of all, kind of where we're at with our Wexpro II or expansion with Wexpro. Maybe what I'll have is ask Jim to, first of all, talk about the drilling plans for this year and the second part of your question, and then we'll come back to the status of the Wexpro II. Jim?

James R. Livsey

Yes. The drilling program, as you noted, we're still at the $130 million range. And the good news is with our program in the Vermillion Basin with Canyon Creek and the Trail fields that we've spoken off before coupled with Pinedale, we're still able to deliver cost of service that's competitive with a 5-year forward curve even in the slower gas price environment. So we're proceeding with that program and we're watching the results. But we feel comfortable that we're going to -- that we are competitive even in this lower price environment given the results that we have from the wells that are drilled in those 3 fields.

Ronald W. Jibson

Thanks, Jim. And then regarding our discussions with the regulators, as you know, we've got many years of development remaining in the existing properties, even without considering future developments. But to the tune of over a Tcf of gas yet to develop in Wexpro and about $1.4 billion in investment. But I think what's important is that as we continue to dialogue with the regulators that we are not doing anything that would upset or interfere the existing Wexpro Agreement or the existing properties. We've had -- currently, we've had some active and positive discussions with both the Utah and Wyoming regulators. We continue to move down this road. We've had a good discussions as far as the agreement in principle at this point, and essentially laying out an outline of what the agreement would look like. And again continued dialogue over the last couple of months with that. We are anticipating that very soon, literally within days or a week or so, that we'll be ready to submit a draft of an agreement that could be distributed among all those that are involved in this decision. And certainly, with the regulators from both states. And so we're on track, we're on schedule, we're optimistic that this is something that will be very good for our shareholders and very good for our customers. And we've had a very positive dialogue with the regulators at this point. We'll continue that effort. This is a high-priority for us and hopefully as you've stated, Chris, at our Analyst Day, we will do a deeper dive on that.


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

Danilo Juvane

It's actually Danilo filling in for Carl. One quick question for you guys. I understand that the Pipeline segment is not expected to grow significantly in 12. Any thoughts on M&A in the Rockies area?

Ronald W. Jibson

I'm going to ask Allan Bradley if he would address that.

R. Allan Bradley

I can only assume you're talking about sort of the trend in the industry with energy transfer, southern union. There's a lot of focus on the Kinder Morgan-El Paso transaction. While I don't have anything that's not reported publicly, obviously, we're watching that whether to be a strategic asset that kind of fit our footprint, obviously we'd take a look at it. But you're not going to see us really step out beyond our Rockies footprint with a major pipeline acquisition. Hopefully that answered your question.


[Operator Instructions] Your next question comes the line of Timm Schneider from Citigroup.

Timm Schneider - Citigroup Inc, Research Division

I just want to dig a little deeper on Wexpro. Obviously, given the gas price weakness and service costs sometimes tend to be a bit sticky. Where are you guys seeing with respect to kind of cost increases, decreases in your service territories there, and what opportunities does Wexpro have to become more efficient in this kind of low gas price environment over the next 12, 24 months or so?

Ronald W. Jibson

Yes, Tim, as you know, I think our Wexpro team has done a phenomenal job this last year of driving down those costs, winning us in a very competitive nature. I'll ask Jim Livsey if he would give a little more color on that.

James R. Livsey

We are in an environment where there is some cost pressure primarily due to all the oil developments going on in the region, particularly in the Bakken and also the Niobrara. So even though we're drilling for gas, we are subject to some of that cost pressure. But by staying with a continuous drilling program, using the same rig, same crews, really having a manufacturing approach, we've been able to offset some of that cost pressure with the efficiencies. And literally, we're able to drill the same amount of wells with one rig now that we could -- that took us 2 rigs a couple of years ago. So just staying with the program and keeping the same crews for completion, as well as drilling has allowed to stop the cost pressure. And we're cautiously optimistic we're going to be able to do that going forward.

Timm Schneider - Citigroup Inc, Research Division

Got it. And I think in the past you said you make your -- including your after-tax rate of return, you make at around just sub-$4 gas with some of your newer wells. Is that still the case or has that number trended down at all?

James R. Livsey

Yes, we're still in that lower $4 range which again, if you look at the 5-year curve, keeps us competitive, even in this lower gas price environment. And I think the other thing to acknowledge is what we're really doing is putting in a cost of service for the customer for 30 to 40 years. So even though we have a mind on an eye towards the next 5 years for the curve, this price, this cost of service in the low $4 range is going to be available for decades for the wells that we're drilling this year.


There are no further questions at this time. I will turn the call back over to Mr. Hadlock.

Ronald W. Jibson

Hey, this is Ron. I do appreciate everyone being on this morning. We want to remind you of our Analyst Day coming up on March 15. We've got, I think, a very productive day planned, doing a deeper dive on our business units and looking forward to this opportunity. It's been a while since we did one of these, so we're looking forward to it. If any of you have not received an invitation and would like to get one, if you'll contact Tony Ivins or any of us, we'll make sure that that invitation gets out to you. Again, thanks for your time today and we look forward to visiting with you in the near future.


This concludes today's conference call. You may now disconnect.

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