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Northwest Natural Gas Company, dba NW Natural (NYSE:NWN)

May 2, 2008 11:00 a.m.

Executives

Bob Hess – Director of Investor Relations

Mark Dodson – Chief Executive Officer

David Anderson – Senior Vice President and Chief Financial Officer

Gregg Kantor – President and Chief Operating Officer

Margaret Kirkpatrick – General Counsel

Stephen Feltz – Treasurer and Controller

Analysts

Dan Fidell – Brean, Murray, Carret & Company

Elvira Scotto – Banc of America Securities

Brooke Glen-Mullin – J.P. Morgan

Operator

Good day and welcome to the Northwest Natural Gas first quarter earnings conference call. All participants will be in a listen-only mode. There will be an opportunity for you to ask questions at the end of today’s presentation. (Operator Instructions) Now I would like to turn the conference over to Bob Hess. Mr. Hess, the floor is yours, sir.

Bob Hess

Thank you, Mike. Good morning and welcome to the First Quarter 2008 Earnings Teleconference Call for Northwest Natural. As a reminder, some of the things that will be said this morning contain forward-looking statements, they are based on management’s assumptions, which may or may not come true.

And you should refer to the language at the end of our news release for appropriate cautionary statements and also our SEC filings for additional information. We are planning to file our first quarter 10Q later today as well. As a reminder, this call is being recorded as noted and will be available on our website later today.

Speaking this morning are Mark Dodson, Chief Executive Officer of Northwest Natural, and David Anderson, our Senior Vice President and Chief Financial Officer. Mark and David have some opening remarks and then will be available to answer your questions. Also joining us today are Gregg Kantor, President and Chief Operating Officer, Margaret Kirkpatrick, our General Counsel, Steve Feltz, Treasurer and Controller, and other members of our executive team.

We look forward to seeing many of you listening on the call at the AGA Financial Forum over the weekend and early next week. Our presentation is scheduled for Monday morning starting at about 11:00, and the presentation will be posted to our website before then. In addition if you haven’t set up a meeting time yet with management, you can still do so by giving me a call or by e-mail, as we still have a few remaining openings left on Sunday and Tuesday.

With that, let me turn you over to Mark.

Mark Dodson

Thanks, Bob. Good morning, everyone. I’m glad you could join us today for our 2008 First Quarter Earnings Report. In a few moments I’ll be turning the microphone over to David Anderson, who will fill you in on the quarter details. Right now I’d like to spend a few minutes talking generally about the first three months of 2008.

As you know, last year’s first quarter and full-year results reflected record gas cost savings. With higher gas prices and much colder than normal weather for this quarter, we experienced a small gas commodity loss in the period. However, continued customer growth, gains from storage and effective cost management more than offset these losses and drove solid first quarter results.

Despite a slower housing market nationally, we finished the quarter with a 2.5% customer growth rate, more than twice the national average. As we’ve discussed before, our new construction starts have moderated, but we continue to see a positive trend in conversion activity from our restructured sales team.

We also continue to manage our costs well. O&M was down 1% from the same period last year. This was largely due to the major operational changes we rolled out in 2007. Today our operations are more streamlined and efficient than ever before.

We have more automated and integrated technology systems, and we’re relying more on outsourced contractors for new service installations. These changes have put us in a better position to quickly respond to the ups and downs of the housing market without adding or reducing regular employees.

And, finally, in March we filed for a 4.8% general rate increase in Washington where about 10% of our customers are located. This is the first proposed Washington rate increase since 2003, and it’s needed to cover increased operating costs and investments in our distribution system.

We’re also proposing a decoupling mechanism that’s similar to the one we’ve had in Oregon since 2003. As our nation contemplates the impact of energy use on climate change, we believe a rate structure that breaks the link between utility earnings and the quantity of gas used by customers only makes sense.

Overall, our first quarter results were on target with our expectations. Our business development initiatives are also progressing, and I’ll expand on that after David gives you our first quarter financial details. David?

David Anderson

Thank you, Mark, and good morning, everybody. I will review our financial results for the first quarter and then comment on earnings guidance for the year.

Results for the first quarter ended March 31st reflect earnings per share of $1.63. This compares to $1.76 per share in the first quarter of 2007. As a reminder, last year’s results included over $0.25 of gains from our gas purchasing activities, which I will discuss further in a moment.

Utility operations, our largest segment, earned $41 million for the quarter compared to $46 million last year. Total gas deliveries in the first quarter, excluding deliveries of gas stored for others, were 449 million therms, and that’s up 9% from 412 million therms last year. That increase is due mainly to residential and commercial customer growth and colder than average weather in the period.

Utility margin in the quarter was $127 million. That’s down 6% from $136 million last year, and that’s due mainly to record commodity cost savings last year versus a small loss this period.

Sales to residential and commercial customers in the first quarter were more than 289 million therms, and that’s up 11% from last year’s 260 million therms, due primarily to customer growth and, again, weather that was 5% colder than average and 7% colder than last year. Residential and commercial sales contributed $122 million to margin in the quarter compared to $113 million last year.

Due mainly to colder weather in the period, our weather and decoupling mechanisms reduced margin by $6 million in the quarter. That compares to a contribution to margin of $1.2 million last year.

Gas deliveries to industrial sales and transportation customers in the quarter were 160 million therms. That compares to 153 million therms in 2007. Margin for the quarter was $8.3 million, which was down slightly, due to higher volumes in lower-margin rate schedules.

As we have noted in the past, commodity cost-sharing benefits under Oregon’s Purchased Gas Adjustment mechanism are not included in the company’s earnings guidance. In the first quarter of 2008, due to prolonged colder than average weather and gas prices paid that were consistently above levels in our PGA, we experienced a small pre-tax loss in the unhedged portion of our portfolio of about $325,000. This compares to a record contribution to margin of $9.8 million in the same period last year.

Last year’s record results were outstanding but unusual due to the large drop in prices below amounts set in our PGA mechanism. Currently, prices are higher than amounts set in the PGA, and weather has been much colder than normal, which caused us to draw down inventory levels quicker than planned.

We will continue to work with the Oregon Public Utility Commission in their review of the PGA sharing mechanism to ensure the customer and shareholder interests are appropriately aligned in the future. In Washington where we have about 10% of our customers, all gas costs are passed through to customers.

Under Oregon’s utility income tax legislation, better known as Senate Bill 408, we recognized a $1.1 million of additional margin from a regulatory adjustment for income taxes paid in the quarter. In addition to utility operations, the company earned $2.4 million from our gas storage segment, up from $1.8 million last year. That’s a 31% increase in results.

O&M expense for the first quarter of 2008 decreased 1% compared to a 2% increase in the same period last year. The expense decrease in the first quarter of 2008 was largely due to lower payroll expenses. In addition we continued to keep our eye on bad debt expense, which remained well below 1% of revenues at .31% of revenues for the 12 months ended March 2008.

Cash provided by operations in the first three months of 2008 was $119 million. That compares to $150 million in 2007. Cash flows for the period reflect lower commodity cost benefit and changes in gas costs deferrals.

Cash requirements for investing activities totaled $23 million in the period. That’s up from $19 million in the first quarter of last year. The increase mainly reflects additional business development costs for our Gill Ranch storage properties and Palomar Pipeline. Our overall financial condition remains strong with a capital structure made up of approximately 52% common equity, 43% long-term debt an 5% short-term debt at March 31st.

Some of you may have noticed that last week we sold the Boeing 737 airplane that the company has owned and leased to Continental since the 1980s. This marks the last in the sale of non-core assets owned by the company that included the sale of the solar electric generating system in 2005, the sale of the wind power electric generation projects in 2007 and the disposition of a low HUD income housing project investment in late 2007. We will be recording an after-tax gain of about $1 million on the sale of the airplane in the second quarter of this year.

Turning to our earnings guidance, we reaffirm our prior estimate that full-year earnings per share in 2008 are expected to be in the range of $2.48 per share to $2.63 per share. The company’s earnings guidance assumes normal weather for the remainder of the year, continued customer growth, benefits from cost-reduction initiatives and no additional gains or losses from our commodity-sharing mechanism and no significant changes in current regulatory policies.

We continue to target long-term earnings per share growth of 5% or more and to maintain a dividend payout of approximately 60% to 70%. Overall, despite lower gas cost-sharing results, first quarter results were good and in line with our original expectations. With that, I’ll turn it over to Mark to wrap things up.

Mark Dodson

Thanks, David. At this point in the call, I want to bring you up to date on two projects we told you about before, Gill Ranch and Palomar. These gas infrastructure projects build on our core strengths and position Northwest Natural to play a key role in the West Coast’s energy future.

Gill Ranch is our gas storage project planned near Fresno, California. Last time I talked with you, I reported on a successful opening season that brought more interest than we had expected. At this point, we’re moving ahead on several fronts.

We’re preparing the environmental engineering analysis for the project and developing comprehensive routing studies for our next phase of the process. In June we’ve scheduled public meetings in communities near Gill Ranch, and we are on track to file our application with the California Public Utility Commission this summer. If the project is approved, we plan to start providing gas storage services in California by the end of 2008.

We’re also proceeding with plans to develop a Palomar Pipeline in partnership with GTN, a subsidiary of TransCanada. We continue to gather the route information needed to complete our FERC application and scheduled to be submitted later this year.

Oregon is one of only a few states in the country that relies on a single interstate pipeline to serve its major population areas. Developing Palomar to connect our distribution system to GTN’s interstate system has been a long-time goal of this company because it would diversify our delivery options and enhance supply reliability.

We are also permitting the project so that if a LNG terminal is constructed on the Columbia River, Palomar could potentially serve it. The Palomar Pipeline project is uniquely positioned to bring more gas from the Rockies or take new supplies from proposed LNG terminals to serve Oregon and the West.

As we move closer to inevitable legislation that limits carbon emissions, we’re more strongly convinced that we made the right decision in pursuing these new gas infrastructure investments. With fewer power generating options, demand for gas can go nowhere but up. We believe these projects can help keep prices more affordable for energy consumers on the West Coast.

To close let me just say I’m pleased with our first quarter performance, both in our utility operations and in our business investments. Higher gas prices and colder than normal weather are presenting some challenges, but I think we are well positioned for continued long-term success.

As always, we remain focused on delivering consistent shareholder returns and providing long-term growth for our company. Thanks for your interest in Northwest Natural and for listening in today.

Mike, while people are queuing up for questions, I just want to make a comment if I can. Our gas cost-sharing mechanism in Oregon is something we’ve had for a long time. I think the last time we tweaked it was about a decade ago when I inherited it from my predecessor and I became the officer in charge of regulation.

At that time, gas costs were probably about $2, so last year—and I think this is important—when we began to see unusual benefits from that mechanism, we approached the commission to see if we shouldn’t tweak it again just to address the volatility in the market. So I’m very confident that David Anderson and his regulatory team have great credibility with our regulators as they begin to go through the review of this mechanism again this year.

Mark Dodson

Mike, I think we’re ready for questions if you are.

Question-and-Answer Session

Operator

Yes, sir. (Operator Instructions) We have a question from Dan Fidell with Brean, Murray and Carret.

Bob Hess

Morning, Dan.

Dan Fidell – Brean, Murray, Carret & Company

Good morning. Thanks for the call. Just had a question on the commodity cost piece, and thank you for giving us the color on it. Would it be fair to say that as the year goes on and this is reviewed that perhaps the small loss we saw in this first quarter may just be timing related? In other words, might we expect directionally the trend to reverse in future periods?

David Anderson

Yes, Dan. This is David. Good morning.

Dan Fidell – Brean, Murray, Carret & Company

Morning, David.

David Anderson

The key to—as we discussed many times before—is where the usage patterns are for the period. Obviously we’re entering the months that have less usage than you would typically see during the winter months, but we still could have some weather-driven usage.

And then the other factor that’s in place there is what prices are in place compared to what we have set in our PGA. And the prices out there—anybody can look at the NYMEX—are fairly high right now, so they’re actually a little bit higher than what we had set in the PGA.

So I think it’d be a little premature to call the loss that we had this quarter timing. I think if you look at the last 20 years of this mechanism, there’s been four years that we’ve had losses in the mechanism versus gains.

So, obviously, we’ve been able to manage this over the period of time, but this year has turned out to be a little bit unique because of the colder weather that we’ve experienced earlier this year, which drew down our storage inventories, which is our main tool to manage that exposure.

So a lot of it, Dan, depends on where the prices are going forward, and a lot of us feel that the prices are too high right now in the market, but that’s where the market is at this point in time.

Dan Fidell – Brean, Murray, Carret & Company

Okay, thanks. And then maybe just another question on Gill Ranch. If you could just sort of maybe just give us your own feel for—Mark or David or whomever—just in terms of how you perceive Gill Ranch. Are you pretty satisfied where things are, how the opening season went and how this is progressing? And if so, is there the potential to expand Gill Ranch at an even faster rate for the path that you see there?

David Anderson

Well, Dan, I’ll start. This is David. I think, obviously, we’re very pleased with where the Gill Ranch project is located and the results that we’ve had early on in the process here. We did have a very successful opening season where we saw interest from parties that was much larger than what the capacity that we’re talking about building is, and also that was very unique to that is the number of parties indicating how long of commitments they wanted to make to the facility.

Now, all of that is non-binding, but it gave us enough confidence to move forward with the project overall, so we’re moving forward very quickly. We still anticipate it to be online and ready in the late ‘010 period, and we’ll continue to evaluate.

There is ability to expand the storage project as we move forward, and we’ll evaluate as we get closer to actually implementing the first phase of the project on whether we want to add additional capacity down there.

Mark Dodson

I will just add, Dan, that I am in pretty regular contact with my counterparts in California, and as AB 32 kind of rolls through California right now, I’m even more confident that there’s going to be a real need for an expansion of storage, pretty dramatic expansion of storage down in California.

Dan Fidell – Brean, Murray, Carret & Company

That’s terrific. Thanks for your comments today. We’ll see you down at the AGA.

Mark Dodson

Yes. Thanks, Dan.

David Anderson

Thanks, Dan.

Operator

(Operator Instructions) It looks like we have a question from Elvira Scotto with Banc of America.

Elvira Scotto – Banc of America Securities

Hi, good morning.

Mark Dodson

Morning, Elvira.

Elvira Scotto – Banc of America Securities

A follow-up question on Gill Ranch. Is the cost now higher than what the original estimate was? I’m seeing $160 million, and I thought originally we had $150 million. And the CapEx spend in this year also bumped up by a couple million. Is that correct?

David Anderson

Yes, the latter half, it did bump up a little bit this year because we are starting to purchase some of the compression equipment. There’s just a long lead time, and that’s more of a timing issue. I think on the overall project costs, remember, we’re 75% of the total, so the $150 to $160 number you’re indicating is our portion of it. There really hasn’t been any cost increases. We’re just using a range. I think earlier on we were just on a $150 number. It would be in the $150 to $160 range at the current time period, though.

Elvira Scotto – Banc of America Securities

Okay, great. Going back to the comments you made on the customer growth, you had 2.5% I guess in the trailing 12 months. Can you break that down between what was new housing versus conversions?

David Anderson

Yes, this is David Anderson again. On the trailing 12 it’s 2.5%. When you look at our customer growth overall, rough estimates—and we can kind of get you some details after the call—but it’s typically around three quarters of the growth is new construction, and usually about a quarter of the growth is in the conversion market.

So we’ve seen some increase some increase in the conversion. It’s not enough to really kind of offset those two percentages overall, so if you look at us a year ago and we were over 3%, most of the reduction from 3% to 2.5% is the new construction market.

Elvira Scotto – Banc of America Securities

Okay and then any, now that we’ve gone through this first quarter, and sense for bad debt expense? Are you seeing increase in that or any color on that?

David Anderson

Well, I think, you know, first off, we probably have the best bad debt expense in the country, so I’m very pleased with where we’re at, and so we watch it very, very carefully. We haven’t really seen a lot of movement. I mean, you know, from month to month we might see delinquencies go up or down a little bit, but in terms of trends or issues that we see going forward we haven’t seen any real issues there.

But I think you have to be cognizant overall of the macro environment, and that’s why we watch this so carefully but so far, so good, and I think we’ve got a good team that watches this. And then I think when you just kind of consider the Northwest in general, there’s usually fairly good payment patterns that have taken place over a long period of time.

We have good payment plans in place for customers that are having difficulty paying their bill, so we’ll try to stay on top of it, but at this point, you know, we’re cautious and vigilant, but I feel fairly good about where we’re at.

Elvira Scotto – Banc of America Securities

Great. Thank you very much.

Bob Hess

Thank you, Elvira.

Operator

And we have a question from Brooke Glen-Mullin of J.P. Morgan.

Brooke Glen-Mullin – J.P. Morgan

Yes. Had a quick question regarding Palomar. It seems like from the LNG in Oregon there’s been a little bit of a political change with the Governor’s recent comments. Do you just have any color that you might be able to add on that?

Mark Dodson

I’m going to ask Gregg Kantor, President and Chief Operating Officer, to answer that, Brooke.

Gregg Kantor

Hi, Brooke. This is Gregg. You know, right now I would tell you it’s really difficult to determine whether the LNG plant will be successful or not. There’s really—the Governor has really focused in on, as has our congressional delegation, on the process, which is fair, making sure that FERC takes into account the safety and environmental issues that they expect, you know, high quality from and from FERC.

What we’ve been doing—a little bit of color on this. What we’ve been doing is making sure that we get out to business, environmental, political leaders and talk about the need for natural gas in Oregon and the Northwest in general and the need for gas infrastructure, particularly, as Mark said, in a world where we’re going to have restrictions on carbon emissions, and I think we’re making a dent in that and in a pretty big way.

The other thing that we’re really doing as we get out there is making sure that people understand that Palomar is really two projects in one, that regardless of what happens with the LNG plant, that we are very focused on that east side of Palomar for reliability and supply option reasons.

And I would tell you, if you show kind of the infrastructure that we’ve got in Oregon to the uninitiated, it’s pretty easy on a map to look at it and say boy, it would make a lot of sense to connect those two pipelines.

So I’m feeling pretty good about the east side of Palomar. The west side, obviously, is a project that we would build if the LNG terminal gets built. And as I said, right now I think it’s a little too early to tell whether it’s, you know, going to get built, though there have been some encouraging signs with the vote from Clatsop County on the land use decision.

David Anderson

One thing I would add, Brooke, is I’ve made about three presentations this week. I think Gregg’s probably made three or four this week on competitiveness in Oregon, and the one thing that if you’re outside of the state you may not be aware of is this governor has taken the position that Oregon is going to be 25% renewables by Year 2025. It’s probably one of the most ambitious goals in the nation.

And if you talk to the bountiful [ph] power administration people or the electric people or people who are knowledgeable in the industry, you’re just not going to be able to do that without adequate supplies of gas. And I think that’s beginning to register on people that LNG could be a very critical part of the Governor’s platform in terms of reaching renewables by 2025.

So that’s a factor that’s always out there, and Gregg and I continually address that when we make presentations.

Brooke Glen-Mullin – J.P. Morgan

Okay and just a little bit different topic but also on Palomar. Do you have any preference—there are several pipelines that have been proposed coming out of the Rockies going west. Do those have any real impact on you or do you have a preference for one of those projects over the other?

Gregg Kantor

I’d say right now we’re in the phase of studying them at this point. My just sort of initial reaction would be that we’ve heard a presentation recently from Sunstone, which would head north out of the Rockies. The Ruby [ph], obviously, goes straight across in the malin [ph], so just by geography and looking at them, you’ve got to probably have a favorite in coming north out of the Rockies.

But, again, at this point I’d say it’s pretty early and that the companies that companies that are proposing them are going around and making presentations, and so we’re kind of in the listening mode at this point.

David Anderson

And one of the issues we have, Brooke, is you’re talking about political stuff. We have probably more sets of Nimbies [ph] in our state right now because we have so many different pipelines proposed and so many different LNG terminals. And, of course, they won’t all be built, but it’s hard to explain that to the public, so that’s a little bit of the ambient background noise you hear in the political spectrum.

Brooke Glen-Mullin – J.P. Morgan

That’s great. Thanks for the color, guys.

David Anderson

Thanks, Brooke.

Operator

(Operator Instructions) And Mr. Hess and Mr. Dodson, Mr. Anderson, gentlemen, I’m seeing no further questions at this time.

Bob Hess

Thank you very much for joining us. I assume we’ll see a lot of you in Miami in the next couple of days. We look forward to it.

Operator

Thank you, gentlemen. The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.

Bob Hess

Thank you very much.

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