Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

Executives

John W. Somerhalder II - Chairman, President and CEO

Steve Cave - Director, IR and Corporate Development

Andrew W. Evans - EVP and CFO

Analysts

Michael Lapides - Goldman Sachs & Co.

Michael Pope - BMO Capital Markets

AGL Resources Inc (ATG) Q2 FY08 Earnings Call July 31, 2008 9:00 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Second Quarter 2008 AGL Resources Earnings Conference Call. My name is Erica, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. [Operator Instructions].

I'd now like to turn the presentation over to your host for today's call, Mr. Steve Cave, Managing Director of Investor Relations. You may proceed, sir.

Steve Cave - Director, Investor Relations and Corporate Development

Okay. Thank you, Erica, and good morning, everyone. Thanks for joining us today to review our second quarter 2008 earnings results. The speakers on the call today will be John Somerhalder, our Chairman, President and CEO and Drew Evans, our Executive Vice President and CFO. We have several other members of our management team here with us to address any questions that you may have following the prepared remarks.

We issued our earnings release and filed our Form 10-Q this morning. If you don't have a copy of those already, you can find copies of those documents on our website. We also have a slide presentation that provides a summary of some of the key highlights for the quarter on the website as well.

Before we move to the prepared remarks, let me remind you that our discussion today may contain forward-looking statements and that our actual results could differ materially from those projected in the forward-looking statements. The factors that could cause such material difference are included in our press release and 10-Q and more fully described in our most recent 10-K filings. We also use some non-GAAP measures such as EBIT, earnings before interest and taxes, and operating margin in describing our business and a reconciliation of those measures to the GAAP financial measures is available in our earnings release, our SEC filings as well as on our website.

One thing you should also note is in our earnings release this quarter, we have provided consolidated earnings results excluding the impacts of hedge gains and losses and inventory valuation adjustments in our wholesale services segment. Obviously, those are also non-GAAP measures. We believe they'll provide more transparency around our business and enable better comparisons between reporting periods, particularly since hedge gains and losses and inventory valuation adjustments in a given period typically are driven by changes in gas prices and transportation basis spreads, and not really reflective of the economic value of the underlying transactions. We have also included in our earnings release and presentations a reconciliation of those results to GAAP financials as well.

We will begin today's call with some prepared remarks and then we will open the lines to take your questions. And with that, I'll turn it over to John.

John W. Somerhalder II - Chairman, President and Chief Executive Officer

Thanks, Steve, and good morning, everyone.

Today, we reported a net loss of $0.15 per diluted share compared to earnings of $0.40 per share during the second quarter last year. Consistent with our earlier release, these results include a loss of $0.45 per diluted share for the wholesale services segment associated with the storage and transportation metrics. We saw a significant increase in forward NYMEX natural gas prices during the quarter and a widening of the transportation basis spreads. And as a result, we recorded hedge losses of $55 million during the quarter in that segment.

We will walk you through the quarter and year-to-date comparisons in a minute, but as Steve pointed out, we have provided in our earnings release EPS excluding these hedge gains and losses and lower cost of market inventory adjustments in wholesale services in order to provide a more transparent... in order to provide more transparency into the economics of the transactions at wholesale services and help you better understand our quarter-over-quarter and year-over-year accounting results. We've listened to your feedback from many of you on this one and agree this presentation provides a better view of the underlying economic performance of our business. And in future quarters, we'll provide this information to you as a supplement to our reported GAAP financials.

On an adjusted basis, our earnings for the second quarter of 2008 were $0.30 per diluted share, up from $0.27 per diluted share for the second quarter last year. On the same basis, our earnings for the six months ended June 30, 2008, were $1.59 per diluted share compared to a $1.62 per diluted share for the same period last year. Based on the year-to-date results and our expectations for the third and fourth quarter, today we reaffirm our earnings guidance in the range of $2.75 to $2.85 per share for fiscal year 2008.

Before I turn it over to Drew to go over the financial results in more detail, I would like to spend a few minutes updating you on the progress on several of our key initiatives. With respect to the Golden Triangle Storage project in Texas, construction on that project is well under way and we expect to have the brine disposal well drilled for the first half during the third quarter, which will enable us to begin constructing the leech plant and drilling the first cavern.

As with most of the other players in the storage development business, we continue to see escalating commodity prices that impact the overall cost of our project. Given the increases in labor and materials and commodity prices, particularly the cost of steel and higher costs for pad gas, at this point we estimate that the total cost of the project will be approximately 10% to 20% higher than our previous estimate of $265 million. We did point out in our 10-Q however that these costs could fluctuate up or down depending on whether we see the cost of these items decline, moderate or continue to rapidly increase over time. And just as an example, the cost estimate at the end of third quarter was pretty much at the middle to a little bit at the higher end of that range, but with the recent run off in gas prices and how that impacts pad gas cost, we're now moving lower in the range.

We also continue to make very good progress on our Hampton Roads Crossing project in Virginia, which will connect northern and southern portions of the Virginia natural gas system and provide better system reliability and supply diversity. As a result, that project remains on track to be completed and put into service in the fourth quarter of 2009. The escalation of commodity prices that I discussed earlier has also had some impact on the overall cost of the Hampton Roads Project but we have been able to mitigate these increases on some of the major items. As an example, we purchased the pipe for this project prior to the recent unprecedented run up in steel and pipe prices that we all saw in the industry.

With respect to the Magnolia Project, which will help us to move natural gas from the Elba Island LNG facility into the Atlanta market, about two weeks ago, FERC approved the joint application that we filed with Southern Natural Gas to move forward with this project. Initially in its approval, FERC issued a Certificate of Convenience and Necessity, approved the sale of facilities to Magnolia and authorized SNG to lease facilities from Magnolia. We are in the process now of finalizing an agreement with Southern Natural Gas that will allow us to move forward under this FERC order and expect to hold [ph] the compression for this project as early as tomorrow. As you can see, we had made and continue to make significant progress on these three important growth projects.

Just a couple of other observations related to what we're seeing in our utilities related to customer growth and our expectations around possible increases and bad debt expense and conservation heading into the winter heating season. As you can see in our disclosures, we continue to see challenging economic conditions in the areas our utility serve and the continued slump in the housing market certainly has resulted in customer growth overall that is lower than we had previously targeted.

On a consolidated basis, our utility growth was 0.1% during the second quarter of 2008 relative to the prior-year quarter. For the first six months of the year, it was 0.3% relative to the same period last year. We continue to focus on targeting marketing programs to reduce attrition levels, but we expect to see these lower customer growth patterns continue into 2009 absent some earlier correction in the housing market in the regions we serve. We've seen some positive signs in certain sectors though. For example, we're seeing some natural gas conversions by commercial customer as they switch from other higher priced fields.

We also are aware that while prices have moderated somewhat recently in the recent weeks, the high-priced environment for natural gas this summer has created some concerns for many utilities about higher bad debt and conservation levels during this winter season... heating season. While we have seen slightly higher bad debt during the second quarter as a result of higher natural gas prices, the levels we've seen have not caused any unusual concerns for us at this point. We will continue to monitor bad debt conservation trends and we'll keep you informed over the next few quarters. Also, I think it's important to point out that we have regulatory mechanisms in place to help mitigate a large portion of our risk in these areas.

As an example, our largest utility, Atlanta Gas Light which represents about 65% of our total customer base is not volumetrically sensitive because of straight fixed variable rate design. And SouthStar's exposure is mitigated to a high degree because of the credit quality of its customer base. Additionally, we continue to be proactive in using the tools that are available to us such as shut-off for non-pay and are aggressively managing bad debt at our other utilities. Most importantly in this environment, we continue to maintain our rigorous focus on cost control to help ensure stable operating results for the year.

With that, I will turn it over for Drew for a financial discussion.

Andrew W. Evans - Executive Vice President and Chief Financial Officer

Thanks, John. Good morning, everybody.

Clearly the main driver you should focus your attention on for the quarter is the accounting impact of Sequent's business. I'm going to walk you through the details of that first before we turn over to the other operating segments.

The wholesale services segment had an EBIT loss, that's earnings before interest and tax loss, for the second quarter of $65 million compared with the positive EBIT of 6 million for the same quarter last year, so a $71 million swing primarily driven by the impact of hedge gains and losses. I think the best way to walk through is to direct your attention to the reconciliation schedule that we have on page 27 in the 10-Q. First line you see is what we call commercial activity which is generally the way you can engage economic value created and recognized during a particular reporting period. You can see in the table that commercial activity in the second quarter of 2008 was up $3 million relative to the prior-year quarter.

The next three items in the table are the ones that are highly sensitive to changes in NYMEX forward prices for natural gas and changes in transportation basis spreads and these are the items we exclude, when John discussed EPS results earlier. The first of those items in the gain or losses on... is the gain or losses on storage hedges. You can see that rising NYMEX prices during the second quarter of 2008 resulted in $48 million of losses on the instruments we used to hedge our inventory and storage. In contrast, last year during the second quarter, prices declined during the quarter which resulted in a $16 million gain on those hedges. So that accounts for a $64 million difference year-over-year.

Looking at the second item, which is gains or losses on transportation hedges, the winding of transportation basis spreads during this year's second quarter resulted in Sequent recording of $7 million loss on its transportation hedges whereas last year we saw an narrowing of these spreads that resulted in the $3 million gain to a $10 million swing year-over-year. The $74 million reduction in quarter-over-quarter earnings from gains and losses associated with storage and transportation hedge positions was partially offset by a $3 million lower cost of -market inventory adjustment we were required to record during the second quarter of last year because of lower natural gas prices.

A similar adjustment was not required to be recorded during the current year second quarter. That is a lot of reconciliation for the operating margin line but hopefully the breakdown of the components we've provided in our disclosures will give you a better sense of all the moving parts. And our EPS results excluding the hedge gains and losses and LOCOM adjustments provide you with a better transparency around our results after adjusting for these accounting impacts which again did not affect underlying economic margins.

The wholesale services segment operating expense for the quarter were $12 million, up $3 million over the same quarter last year reflecting higher payroll and other operating costs associated with the continued growth and expansion of the business. We've seen stronger commercial activity for Sequent... for the year Sequent as compared to last year with year-over-year increases of about $8 million. The inventory roll out schedule on page 23 of the 10-Q gives you a good view of the expected timing for realization of future economic value in the Sequent portfolio that has not yet been realized in reported results.

You can see that as of June 30, we expected $55 million in value to be realized in the third and fourth quarters of this year with about $16 million to be realized in the first quarter of 2009. However, just over the past few weeks, we've seen a pretty dramatic decrease in natural gas prices, and if that pattern continues through the third quarter, you could expect to see an acceleration to some degree of those 2009 earnings into 2008. The magnitude of that acceleration is very difficult to quantify until we know where prices will settle during the quarter, but it is something we wanted to call your attention to, given the current pricing environment.

Turning to distribution operations, that segment's EBIT for the second quarter of 2008 was $57 million. That is a $7 million decrease from the prior-year period. Operating margins, just to break that down for you, operating margins decreased by $3 million. The reconciling items included an adjustment related to revision of estimates of unbilled gas volumes at Elizabethtown Gas, which was $3 million. A $2 million decrease in the Atlanta Gas Light relates to the lower customer growth and lower gas storage carrying costs offset by a $2 million of additional pipeline replacement revenues for Atlanta Gas Light. Operating expenses were up $3 million reflecting higher bad debt expenses primarily related to higher natural gas prices as well as slightly higher depreciation expense related to asset replacement service.

Our retail energy operating segment SouthStar contributed EBIT for the quarter of $5 million equal to last year's contribution. Operating margin in that segment decreased by $2 million compared to the prior-year quarter mainly due to warmer weather during the period. Operating expenses though were down $1 million primarily due to lower payroll and another operating costs offset by slightly higher bad debt expense largely due to higher natural gas prices.

Turning to energy investments, EBIT for the second quarter of 2008 was $10 million. That's an $8 million increase over last year's second quarter. Operating margin increased by $9 million driven mainly by higher operating margins at AGL Networks due to a network expansion project in the Phoenix market. We also had slightly higher margins from [inaudible] storage services at Jefferson Island and operating expenses were up $2 million mainly due to the Phoenix network expansion by AGL Networks and slightly higher cost at our Jefferson Island facility. So just to summarize, we are about $0.03 ahead of the quarter a year ago and about $0.03 behind on a year to date basis.

That covers the highlights of the operating segments. And with that, we can take your questions.

Question and Answer

Operator

[Operator Instruction]. Your first question comes from the line of Barry Klein [ph] from Citi, you may proceed.

Unidentified Analyst

How is it going, guys?

John W. Somerhalder II - Chairman, President and Chief Executive Officer

Hi, Barry.

Unidentified Analyst

On the distribution operation, there was the adjustment for the unbilled revenue, that $3 million at Elizabethtown, is that... that's not something that... that's something that's one-time in nature and from prior period, right?

Andrew W. Evans - Executive Vice President and Chief Financial Officer

That's right, for the balance six months. For the first six months of the year, it really just relates to how we estimate unbilled revenue for certain group of customers. So, it's... we wouldn't expect that to continue in the future.

Unidentified Analyst

Okay, Got you. All right, that was it. Thanks a lot.

Operator

[Operator Instructions]. Your next question comes from the line of Michael Lapides from Goldman Sachs, you may proceed.

Michael Lapides - Goldman Sachs & Co.

Hi, guys. Question for you on your growth projects and the CapEx expected there, how much of the CapEx is actually locked in meaning where you've got firm contract for both materials and E&C labor [ph] for that versus the portion that's not contracted?

John W. Somerhalder II - Chairman, President and Chief Executive Officer

Michael, it's different for each one of the project I talked about. As an example, for Magnolia, the smallest of the projects, the last project I mentioned, since most of that is pipe that's already in the ground and another important piece is the compressor that we're getting ready to order, and if we... when we finalize the agreement with SNG, we will do that here this week, most of that costs is either locked in now or will be very shortly. With HRX, our Hampton Roads Project, because we have purchased the pipe and entered into contracts where almost all of that except for a little construction on land there, most of that is locked in. That is different for GTS. For GTS, probably only in the range of 20% is actually locked in now, the rest is based upon... some are based on quotes we are getting, but we still haven't been able to find the lock-in the rest of the costs. And that's why we provided the range we provided it to you. There is a little bit more potential for movement of cost on that project than on the other two.

Michael Lapides - Goldman Sachs & Co.

Great. How should investors think about the EBIT or earnings power coming out of that, especially the larger projects?

Andrew W. Evans - Executive Vice President and Chief Financial Officer

In terms of what we would reports for earnings once it goes into commercial operation, is that what your question is really --

Michael Lapides - Goldman Sachs & Co.

Yes. I mean, how do I think about the economic value-added, let's say the largest mega project, if you or me trying to think about how do you forecast with the incremental EBIT contribution and therefore return on invested capital would likely be?

John W. Somerhalder II - Chairman, President and Chief Executive Officer

Let me take the first part and Drew will provide some more details. As an example, on Magnolia, what we see there, it's a 40... roughly a $45 million project. What we see there is a return very consistent with the FERC regulated pipeline and very stable on that basis. With HRX, what we'd say is, a lot of that project, even though some of that pipeline would be used to serve two third-party customers, a lot of that will be used to serve our utility and will be part of our rate base. So, you should look at that as an increase in rate base and increase in value-added economic similar to the rate base in our utility. For GTS, that is the one we target mid-teen returns for that type of project.

Michael Lapides - Goldman Sachs & Co.

Return on invested capital, return on equity, I just want to make sure where?

John W. Somerhalder II - Chairman, President and Chief Executive Officer

That would be a levered high equity --

Andrew W. Evans - Executive Vice President and Chief Financial Officer

Return on equity.

Andrew W. Evans - Executive Vice President and Chief Financial Officer

I think if you look at Golden Triangle, for rounding sake, $300 million project, and we lever that 60-40, pretty consistent with our balance sheet, that would be about $120 million worth of equity. If the returns, our threshold is generally around 13% after tax, and so you'd anticipate about $15 million worth of net income.

Michael Lapides - Goldman Sachs & Co.

Got it. Okay. Thank you. guys.

Operator

Your next question comes from the line of Carl Kirst from BMO Capital Markets. You may proceed.

Michael Pope - BMO Capital Markets

Hi, guys. This is actually Michael Pope. Can you just give us a sense on where you see shut-offs running year-over-year?

Andrew W. Evans - Executive Vice President and Chief Financial Officer

Yes, shut-offs are a little bit ahead of last year. They are more like the 2006 numbers that we saw. We probably will disconnect and reconnect roughly 10% or less of our customer base, maybe 7% to 8% of our customer base over the course of the year, kind of in line with 2006.

Michael Pope - BMO Capital Markets

All right, that's all I got. Thanks.

Andrew W. Evans - Executive Vice President and Chief Financial Officer

They're more normal against 2006, I guess. In 2007, we had some system changes and we're reluctant to make... do a lot more shut off for non-payment. So I don't think that it is a year-over-year increase that we need to monitor more and more [inaudible].

Michael Pope - BMO Capital Markets

Okay. Thank you.

Operator

[Operator Instructions]. Sir, at this time, we have no further questions.

Steve Cave - Director, Investor Relations and Corporate Development

Okay. Well, thank you all for joining us today. And if you have any follow-up questions, certainly give us a call. Have a good day.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect and have a wonderful day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: AGL Resources, Inc. Q2 2008 Earnings Call Transcript

Check out Seeking Alpha’s new Earnings Center »

This Transcript
All Transcripts