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AGL Resources (NYSE:GAS)

Q3 2012 Earnings Call

November 1, 2012 09:00 a.m. ET

Executives

John Somerhalder – Chairman, President and Chief Executive Officer

Andrew Evans – Executive Vice President and Chief Financial Officer

Hank Linginfelter – Executive Vice President, Distribution Operations

Scott Carter – Senior Vice President, Commercial Operations and Chief Regulatory Officer

Analysts

Mark Barnett – Morningstar

Daniel Fidell – U.S Capital Advisors

Operator

Good day ladies and gentlemen and welcome to the Q3 2012 AGL Resources, Inc. earnings conference call. My name is Ursula, and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] I would now like to turn the conference over to Ms. Sarah Stashak. Please proceed.

Sarah Stashak

Thank you Ursula. Thanks everyone for joining us this morning to review our third quarter 2012 results. Joining 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 available to answer your questions following our prepared remarks. Our earnings release, earnings presentation and our Form 10-Q for AGL Resources and Nicor Gas are available on our website. To access these materials please visit aglresources.com.

Let me remind you today that we will be making forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve matters that are not historical facts and our forward-looking statements and projections could differ materially from our actual results. The factors that could cause such material differences are included in our earnings release and our 10-Q, and more fully described in our most recent 10-K filings.

We also describe our business using some non-GAAP measures such as operating margin, EBIT, adjusted net income and adjusted EPS. Reconciliation of those measures to the GAAP financials is available in the appendix of our presentation as well as on our website.

We will begin the call with some prepared remarks before taking your questions. Drew, I will turn it over to you to begin.

Andrew Evans

Welcome back Sarah and good morning everyone.

Starting on slide three of our presentation, we reported GAAP earnings per diluted share for the third quarter of $0.08. On an adjusted basis, excluding $2 million of merger related cost diluted earnings per share were $0.09, which compares to $0.02 in the third quarter of 2011.

The primary year-over-year driver of our third quarter earnings is the addition of the Nicor businesses, the results of which are not reflected in the third quarter of 2011 GAAP comparisons. Our quarterly results reflect an $0.08 per share negative impact due to $16 million of pre-tax mark-to-market hedge losses in our Wholesale Services segment consistent with the press release we issued on October 11th. Excluding that impact which is temporal, our business performed well during the quarter.

Turning briefly to slide four, you can see that our year-to-date financial results through the first three quarters. Diluted EPS adjusted for Nicor expenses was $1.56, down from $1.99 for the same period last year. The primary reason for the decline is the impact of the unprecedented warmer than normal weather in the first half of the year as well as mark-to-market storage hedge losses.

On slide five, you can see that more than 80% of our consolidated positive operating EBIT for the first nine months of 2012 was generated by our distribution operations segment. Retail operations accounted for 17% year-to-date and mid stream operations, 1%. Wholesale Services and cargo shipping are not represented here at the reported EBIT losses through the first nine months.

I will cover some of the major segment variances starting with our distribution business on slide six. EBIT was up $10 million, compared to the third quarter of 2011. This includes an EBIT contribution of $15 million from Nicor Gas. As I mentioned last quarter we are starting to see the benefits of our shared service model accrued across our entire business and one of the key metrics that we use to gauge this is O&M expense per utility customer. O&M per customer was a $102, down from $109 per customer for the same period in 2011.

For the first nine months of 2012 EBIT at the legacy AGL Resources Utilities was up $7 million year-over-year primarily due to our continued focus on effective expense management and higher contribution for regulatory infrastructure programs. In addition we have largely achieved expected cost savings related to integrating our non-utility business.

Turning to the retail segment on slide seven, we recorded EBIT for the third quarter of $5 million, a $10 million increase compared to the third quarter last year. The increase mainly reflects the addition of Nicor's retail businesses to our portfolio as well as a reduction in transportation and gas cost and lower bad debt expense of Southstar relative to last year.

You will find third quarter 2012 results for our wholesale services segment on slide eight. There are few moving pieces affecting our year-over-year results, so let me take you through them now. In total EBIT improved by $14 million year-over-year for the third quarter. You will recall that in the last year’s third quarter we recorded margin losses of $17 million due to transportation constraints in the Marcellus region as well as the impact of a credit default due to a customer bankruptcy.

We also recorded a lower cost of market adjustment for LOCOM of $9 million during the third quarter of 2011, and storage hedge gains of $14 million.

In the third quarter of this year, are Marcellus customer bankruptcy and the LOCOM factors were absent. However, we recorded storage hedge losses of $15 million due to rising natural gas prices, this is the primary driver of our EBIT loss for the quarter.

John will talk in greater detail about these items in just a few minutes. But it’s important to keep in mind that Sequent has generated higher economic value during the quarter and throughout the year. As a result we have a storage rollout scheduled of $65 million and we expect to realize that value in operating revenue during the remainder of 2012 and into 2013. This is an improvement of $18 million over the rollout schedule that we discussed at the end of the second quarter of 2012 and a $59 million improvement as compared to last year.

Now let’s move to slide nine. EBIT at our mid-stream segment was $1 million during the third quarter of 2012, down $1 million compared to the prior year. The decline is due primarily to lower revenue at Jefferson Island versus the prior year due to re-contracting at lower rates. You can see the blended rates for each storage facility on the chart at the bottom right side of the page.

Overall, the market for storage remains weak but we continue to focus on ways to optimize the value of our available capacity or not committing the long-term contracts in this low price environment.

Briefly, the cargo shipping segment reported an EBIT loss of $1 million during the third quarter of 2012. Factors impacting this business have remained consistent throughout the year. Revenue per unit is down but shipments are up relative to the same period last year.

Some balance sheet highlights are noted on slide 10. Our long-term debt was at $3.3 billion, which reflects the additional debt issued to finance the Nicor transaction, and additional Nicor debt we’ll assume in closing the transaction.

Interest expense was up $14 million for the quarter compared to the same period in 2011, mainly driven by the higher debt levels. We are trending favorably to expectation year-to-date by approximately $5 million due to the timing of some long-term financing activity and higher capitalized interest related to the timing of placing our storage assets into commercial service this year.

Turning to our capital expenditures, we now expect our spending to be down about $30 million relative to our earlier projections. This reduction is due primarily to the timing of infrastructure investment spending in Virginia and Georgia and we do expect those investments to be made in future periods. In addition, capital spending for some of our non-regulated efforts have come down, which also is partly a timing issue.

Finally, as a reminder, we provided an updated earnings per share guidance range in mid-October to reflect the warmer than normal weather in the first half of the year and the mark-to-market impacts on our wholesale services business in the third quarter.

Our new guidance range is $2.60 to $2.75 per share. Fourth quarter is typically one of our strongest quarters due to weather and customer usage patterns as well as the potential for higher natural gas price volatility. However, because these factors are difficult to predict with a higher degree of certainty let me remind you that we do have potential for variability in our fourth quarter earnings.

Thanks for your time today and now I will turn the call over to John.

John Somerhalder

Thanks Drew and good morning. Turning to slide 11, I will just recap the two major factors influencing our year-to-date earnings. First, as we discussed last quarter, you can see the weather anomalies that have affected our utilities at our Georgia retail business year-to-date. Second, Pete and the Sequent team have done an excellent job of creating economic value around our storage positions but this economic value largely remains in our storage rollout schedule and therefore has not yet shown up in our reported results in the wholesale segment.

The economic value of the storage rollout schedule is $65 million as of the end of the quarter, well above the $6 million storage rollout value at this time last year, and also well above the historical average storage rollout value at the end of the third quarter. In addition, the chart on the bottom left shows the increasing natural gas prices which have impacted our reported results in the wholesale segment.

The mark-to-market loss is associated with the increasing natural gas price, helped improve the rollout schedule in the quarter up to the $65 million, but resulted in a negative $15 million EBIT impact to Sequent for the quarter. In our 10Q filing, we provided more detail on our sensitivity to natural gas prices. And based on the current projection of year end storage positions of 33 BCF, a $1 increase in the 2013 forward NYMEX price could result in the $31 million reduction to wholesale services’ reported operating revenues for 2012, but would increase the expected operating revenues to be realized in 2013 by a corresponding amount.

A $1 decrease in forward NYMEX prices would result in the $31 million positive impact. However, additional low-comp adjustment could potentially offset a portion of that positive impact. Excluding additional low-comp adjustments, the dollar decrease in forward NYMEX prices would result in a corresponding decrease in the expected operating revenues to be realized in 2013.

Moving to slide 12, you can see our historical storage rollout schedule. This is the second strongest rollout schedule in Sequent’s history. Based on our current schedule, we expect to realize approximately $28 million of economic value for gross margin in the fourth quarter of this year with the remainder to be realized in 2013.

Importantly, we remain focused on managing controllable expenses and we have made significant progress towards achieving our efficiency initiatives related to the Nicor merger. We are earning close to our allowed rates of return at each utility and we have managed our non-regulated businesses in a way that optimizes their value despite challenging market fundamentals.

We thank you for your time today and for your continued interest in AGL Resources. Operator, I will go ahead now and turn the call back over to you to start the Q&A session.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Mark Barnett with Morningstar. Please proceed.

Mark Barnett – Morningstar

Hey, good morning everybody.

Andrew Evans

Good morning Mark.

Mark Barnett – Morningstar

Just a quick question on the New Jersey filing, you know, New Jersey Resources natural gas had their filing approved or had a similar filing approved earlier this year, this quarter I guess. Are you pretty confident in that mechanism being approved?

Hank Linginfelter

Hey Mark, this is Hank Linginfelter. Thanks for the question. We have been following the New Jersey natural filing and this morning with us is Scott Carter who is recently elevated to head of our regulatory and commercial operations. And so Scott will comment on that a bit.

Scott Carter

Okay great. You know Mark we watched it with quite a bit of interest. We have got a filing out there also that will continue the replacement of infrastructure. The State have been supportive of that in the past. Exactly what form that will take going forward, that’s going to be something, a question for the commission. I think it is a positive result that New Jersey natural will reach a resolution that certainly makes things a little bit easier to get through the regulatory process. But we will watch and see how that plays out, and then ultimately how that will affect the process we have on the table.

Mark Barnett – Morningstar

Okay, and congratulations Scott. One more quick question, given the rate environment, is there any chance that you guys are looking at your 2013 or your ’15 maturities maybe a little bit early?

Andrew Evans

This is Drew. I think that we have to, to some degree, although with a flat yield curve hedging of issuances actually relatively inexpensive these days. No doubt. We have got a maturity in April of next year. We have got some persistent need built in the business and we just need to focus on hedging appropriately between now and what would be an expected issuance probably in the May timeframe, really governed by our ability to release financial information and most likely to occur after we’ve fully issued first quarter financials.

Mark Barnett – Morningstar

Okay, thanks guys.

John Somerhalder

Thanks Mark.

Operator

[Operator Instructions] There are no further questions at this time. I do apologize. You do have a question that comes from the line of Dan Fidell of U.S Capital Advisors. Please proceed.

Daniel Fidell – U.S Capital Advisors

Good morning.

John Somerhalder

Good morning Dan.

Daniel Fidell – U.S Capital Advisors

Just a quick question on my side. Can you maybe give us just a status update in terms of your impact from Hurricane Sandy, if any, in the jurisdictions?

John Somerhalder

Yeah, I will ask Hank Linginfelter to do that as well.

Hank Linginfelter

Okay. All right. Yes Dan, thanks again for the question. If you look at our territory across Virginia, it could have been impacted and it largely was not impacted. New Jersey was, and we have all seen the news and the pictures from New Jersey. The good news for us is because we are a large multi-state, we have already moved resources into New Jersey to deal with recovery and we are in early assessment mode but we think about 1% to 2% of our customer base was significantly affected by flooding.

Of course a large percentage is without power still. Our field forces have taken care of all emergency orders blowing gas from ruptured pipelines, from trees falling and so forth. The flooding is the big issue going forward and the power outage. Of course the power outage you can still use the gas water heaters, so people are taking hot showers and you can cook, but you can't use your central furnace.

So, we will focus very heavily on restoring service to anyone who is out once power comes back on for their heating, if there is any work for us to do. We moved resources in from Georgia and from Virginia up there and now we are actually seeing if other utilities need some help in New Jersey. We have resources we can bring from our Illinois operations and more from the others.

With the 1% to 2% flooding that will require some serious work on our part but we think we have got that all assessed and we feel pretty good about our ability to get customers back on as soon as they are in their homes without flooding and that their equipment is in good shape and it’s been inspected. So, we will be prepared for all of that.

We also put resources on our call center, we lost connectivity in New Jersey. But we have a call center in Georgia to take the calls and we have restored connectivity now to our New Jersey call center, it’s up and running this morning. So, we feel about as good as we could given the devastation of things and it will be a modest impact on our operations there. But we’ve got – at this point we think we got it under control.

John Somerhalder

There are employees in New Jersey responding very quickly and we’ve got the emergency calls taken care of. We still have a heavier workload as we move forward and as Hank talked about there is something in the range of 3000 of our customers impacted by floods or high waters which we need to get in there and help them. But, we’ll bring the resources. So, we feel good about what we’ve been able to do, but still a lot of impacted people and we want to make sure that we do the right thing over the next several weeks. So, Dan, thanks for the question there.

Daniel Fidell – U.S Capital Advisors

Of course. Thanks very much. Just one quick follow up on that. Can you just remind us how the restoration related costs are treated, are those costs typically into a deferred account recovered in future rate filings or are they – just maybe a little bit of color on that.

Andrew Evans

Generous maybe on something like this. First, we think the cost will be modest. We don’t know for sure, we are still in assessment phase. They probably wouldn’t be material to Elizabethtown’s or AGL’s operations, but if they are significant we would have to seek some sort of regulatory treatment from the BPU. I think you could say that other utilities may have more issues than we do and there maybe proceedings to come out of that. We what’ll certainly stay close to it. At the moment we think there will be modest impact. But if there is something more significant we would have to seek regulatory mechanism deferral or some other treatment of recovery.

Daniel Fidell – U.S Capital Advisors

Great, thanks very much.

Operator

There are no further questions at this time.

Sarah Stashak

All right. Thanks everyone for joining us today. I’ll be available today, tomorrow and next week if you have any questions.

Operator

Ladies and gentlemen, thank you for your participation. You may now disconnect, have a great day.

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