MDU Resources Group's CEO Discusses Q1 2011 Results - Earnings Call Transcript

| About: MDU Resources (MDU)

MDU Resources Group, Inc. (NYSE:MDU)

Q1 2011 Earnings Call

May 3, 2011 11:00 AM ET

Executives

Doran Schwartz – VP and CFO

Terry Hildestad – President and CEO

Steven Bietz – President and CEO, WBI Holdings, Inc.

William Schneider – President and CEO, Knife River Corporation

David Goodin – President, CEO of Montana-Dakota Utilities Co., Great Plains Natural Gas Co. & Cascade Natural Gas Corp.

John Harp – President and CEO, MDU Construction Services Group, Inc.

Analysts

Paul Ridzon – KeyBanc

Timm Schneider – Citigroup

Monroe Helm – Barrow, Hanley

James Bellessa – D.A. Davidson & Co

Operator

Good morning. My name is Tiffany and I will be your conference facilitator. At this time, I would like to welcome everyone to the MDU Resources Group First Quarter 2011 Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. (Operator Instructions)

This call will be available for replay beginning at 2:00 PM Eastern Time today through 11:59 PM Eastern Time on May 17th, 2011. The conference ID number for the replay is 55658893. Again, the conference ID number for the replay is 55658893. The number to dial for the replay is 1-800-642-1687 or 706-645-9291.

I would now like to turn the conference over to Doran Schwartz, Vice President and Chief Financial Officer of MDU Resources Group. Thank you, Mr. Schwartz, you may begin your conference.

Doran Schwartz

Thank you and good morning. Welcome to our earnings release conference call. Before I turn the presentation over to Terry Hildestad, our President and Chief Executive Officer, I’d like to mention that this conference call is being broadcast live to the public over the Internet and slides will accompany our remarks.

If you’d like to view the slides, go to our website at www.mdu.com and follow the link to the conference call. Our earnings release is also available on our website.

Now during the course of this presentation, we will make certain forward-looking statements within the meaning of the Section 21E of the Securities Exchange Act of 1934. Although the company believes that its expectations and beliefs are based on reasonable assumptions, actual results may differ materially. For a discussion of factors that may cause actual results to differ, refer to Item 1A, Risk Factors in our most recent Form 10-K, and the Risk Factor section in our most recent Form 8-K.

Our format today will include formal remarks by Terry followed by a Q&A session. Other members of our management team, who will be available to answer questions during the Q&A session of the conference call today are: Steve Bietz, President and CEO of WBI Holdings; Dave Goodin, President and CEO of Montana-Dakota, Great Plains Natural Gas, Cascade Natural Gas and Intermountain Gas; Bill Schneider, President and CEO of Knife River Corporation; John Harp, President and CEO of MDU Construction Services Group; and Nicole Kivisto, Vice President, Controller and Chief Accounting Officer for MDU Resources.

And with that, I’ll turn the presentation over to Terry for his formal remarks. Terry?

Terry Hildestad

Thank you, Doran good morning. Thank you for joining us today to discuss the first quarter results. We are off to a good start with earnings that were stronger than a year ago and exceeded our projections for the quarter. First quarter consolidated earnings were $42.8 million compared to $41.6 million reported in 2010. As we discussed in our earnings release, we were able to successfully close out an IRS audit for certain open tax years. Based on the results of that audit we were able to reduce previously established income tax accruals. We view this as part of our ongoing income tax process.

Other items that affected quarterly results included a non-cash loss of $1.1 million on one of our oil hedges that did not qualify for hedge accounting. Weather was also a factor for the quarter. Although, it’s difficult to quantify, it helped our utility but negatively affected our construction materials and natural gas and oil operations. Also, keep in mind that our current year results made up for the quarterly run rate of $1 million to $1.5 million in earnings from our Brazilin transmission assets, remember they were sold in the fourth quarter of 2010.

The diversity of our portfolio businesses allowed us to pull solid financial results in spite of low natural gas prices, inclement weather at some of our operations and a weak construction market.

In addition, we paid down $80 million in long-term debt while increasing our operating cash flow by $35 million over the prior year. And we distributed over $30 million in dividends to our shareholders. We have nearly a $140 million in cash on hand with access to $650 million in available credit and a strong balance sheet to fund future growth.

Now, I want to move on to our individual operations and their results. We’re pleased with the earnings reported at our natural gas and oil business. Oil production increased 5% over the same period last year that accounted for nearly 30% of our production. Oil production in the Bakken increased 21% over the first quarter of last year. However, harsh winter weather did affect production this quarter and continued in April.

Conditions were some of the worst in North Dakota’s 60 year oil history. It has caused a record number of idle wells in the area because of the inability of trucks and other equipment to access our well sites. Weather conditions including a snow storm this past weekend and weight restrictions during the spring thaw are continuing to temporarily interfere with oil shipments.

The temporary effects of weather aside though, we’re excited to have kicked off our growing multiyear development program in the Bakken with the addition of a second rig. We expect to spud the TTT Ranch 33-28H well in the next week or so targeting the middle Bakken formation in Mountrail County.

In Stark County, we’ve now completed three test wells. Our third test well, the Wock, was fraced last week and was drilled to total depth of 15,158 feet with a horizontal lateral of approximately 4,400 feet. This well was drilled on a 640 acre spacing unit. It was recently completed with a 16 stage frac job. The initial production of the test well was 479 barrel of oil equivalents. The well was (inaudible).

Based on our initial results of the first three wells, along with what other producers are seeing in this area and initial exploratory drilling results that have varied a great deal in the region, we’re using the data to determine our drilling plans for the summer.

We will continue to ramp up the development of our Bakken acreage. We have plans to drill 18 wells and ultimately invest about $90 million for operated and non-operated activity in the Bakken this year.

Now in the Niobrara, we completed our 3D seismic work. We’re currently evaluating this data along with data from other producers in the drilling area all in an effort to select our planned drilling sites. We have two planned drilling sites in this year this year. We anticipate drilling the area sometime in the second half of the year.

The Heath Shale, we’re also targeting to spud our first exploratory well in the last half of the year which will help us begin to evaluate our 80,000 net acre position in this play.

And then as an update our Paradox Basin exploratory oil play, we own about 75,000 net acres of leaseholds. We’re continuing to go through an environmental assessment process, which we anticipate to be completed sometime this year.

Our acreage is in the Cane Creek federal unit, it’s held by production. We believe that good potential exists in this area.

We’re moving forward on our drilling program in our South Texas acreage with two rigs currently drilling in this region, production associated with these properties has been a high, in the areas of high liquid content that fits nicely with our overall objective.

We are excited about our E&P group. In 2011, more than half of our overall capital will be allocated towards the exploration and production business and we’ll be concentrating on increasing our oil production. We continue to actively seek new leaseholds in existing production areas along with new emerging plays to best position ourselves for the long-term in this business.

We are also pleased to welcome Kent Wells to our corporation. Kent is an E&P industry veteran with over 30 years of experience who joined Fidelity’s team as President and Chief Executive Officer, effective yesterday. You’ll all get a chance to meet and visit with Kent in the next few months.

Next, earnings at our pipeline and energy service group were impacted by lower gathering and transportation volumes. Lower volumes transported to storage coupled with higher withdrawals from storage resulted in a 24% decline in total customer storage balances at the end of the first quarter.

This business has several organic projects in the works. Construction on a 12-mile high pressure transmission pipeline to take gas from a new processing facility in the Bakken area to Northern Border’s pipeline will begin late this summer.

In addition, we are moving forward with plans to expand our pipeline capacity throughout the Bakken production area in Western North Dakota and Eastern Montana. And we have plans to add firm deliverability to out Baker storage field.

We expect the project to be completed by November, adding approximately $35 million cubic feet per day to our existing firm deliverability of $115 million cubic feet a day.

Our pipeline is at the heart of the energy production in the Bakken. The amount of associated gas produced in this area will continue to rise with increased drilling activity. Since 2005, North Dakota’s gas production is about double. Predictions indicate that this trend will continue, equating to further opportunities to transport store and gather this resource. We continue to look for expansion opportunities in our existing service areas and use our expertise to expand in new locations.

At the utility business, significant colder weather throughout our service territories resulted in a 15% increase in natural gas sales, and a 6% increase in retail electric sales providing strong earnings for the quarter.

A rate increase in Wyoming last May as well as interim increases in North Dakota and Montana also contributed to the year-over-year earnings improvement. We continue to work with the Public Service Commission in our states to achieve fair and balanced regulatory outcomes while providing our stake holders long-term value in owned generation and safe reliable service to our customers.

We’ve reached a settlement agreement on the North Dakota rate case that will allow an increase of $7.6 million annually. Effectively that’s the same as their interim rate granted back in June of last year. The North Dakata PSC will hold a hearing on the settlement in a couple of days.

In Montana, we were granted an interim increase of $2.6 million effective February 14th, 2011 and we’re currently in settlement discussions with the Montana Commission. We’re excited about the opportunities to grow our rate base. We have plans to invest over $150 million per year in our utility over the next five years

We experienced a nearly 6% increase in electric customer accounts in the Bakken area quarter-over-quarter and look forward to continued high demand in that area. In addition, we continue to evaluate our options to replace purchase power with owned generation and to pursue opportunities to develop high voltage transmission lines and system enhancements.

Our utility provides the strong foundation for growing earnings and is a reliable contributor to cash flow.

Now moving on to our construction businesses; poor weather affected the start of the construction season adding to the normal seasonal loss for the construction material segment. Although, the business continues to be affected by the weak housing market and the lack of a long-term federal highway funding, it’s experiencing steady bidding opportunities. Backlog increased from year end to about $569 million this quarter. This includes two large harbor expansion projects.

Work on the L.A. harbor deepening project is continuing and we expect work to get underway on the Port of Long Beach Middle Harbor expansion this quarter. Groundbreaking occurred on the $5.5 billion Hawaii light rail transit project. We expect to provide cement for this project and have the opportunity to supply ready-mix concrete and aggregate to the project as well. Construction on our new liquid asphalt terminal is underway in Cheyenne, Wyoming. Two large storage tanks have been erected. We expect the terminal to be online late this year.

We’re very pleased that the recent cuts in the federal funding did not affect the federal highway program for the year. There’s another short-term extension through September 30th, 2011 that kept funding at the current level compared to last year. We will continue to lobby for sufficient funds to meet our nation’s infrastructure needs. While this business continues to contend with the weak market, efforts to control cost and maximize its resources are working. SG&A costs are down approximately 40% from its peak.

We’re well positioned for the long-term. We will continue to take advantage of our vertical integration and strategically managed our 1.1 billion tons of aggregate and our growing liquid asphalt storage capacity.

Construction Service businesses reported a solid first quarter with revenues that were 33% higher than a year ago. Workloads increased in the western region and our specialty equipment and materials group had another strong quarter. This business has taken many actions to better position itself during the current economic cycle. SG&A costs are down about 30% when compared to two years ago.

Bidding efforts remain disciplined with the group, backlog includes work with solid margins rather than jobs just to grow revenues. We began to frame and set polls for a 50 mile, 345-kV transmission line in Kansas. This is a longer term project, planned with completion mid-year 2012.

We have a number of crews that are performing storm work this quarter and we’re in the process of bidding a number of outside projects. Conditions are improving in the Vegas market as casinos began to move forward on major remodel projects.

Solar work continues strong where we expect revenue just north of $50 million in 2011 with potential for more in 2012. We recently finished another successful refinery turnaround job and we’re scheduled for a couple more projects this fall. This group is adapting well to the current market conditions.

EPS guidance for 2011 has been reaffirmed in the range of $1.05 to $1.30. We’re pleased with our first quarter results. For the remainder of the year natural gas prices are predicted to remain low and a slow recovery is anticipated for our construction operations. However, we’re excited as our E&P operations continue to explore our oil plays and our utility continues to grow its rate base. As always we’ll update the guidance as the year progress.

Stock performance for the quarter has been strong. Total shareholder return was 14% that exceeded the S&P 500 and S&P mid-cap 400 and the average of our peer group. On a longer term basis our ten-year compounded annual growth return was 7%.

Our financial strategy is paying off. We have a strong balance sheet, 65% equity, good liquidity that can support growth in our exploration and production and at the same time position all of our businesses to take advantage of growth opportunities that we expect to occur in a recovering economy.

This year is off to a good start. We are ready to build on this by investing more than $0.5 billion into our businesses this year. We are pursuing a variety of growth opportunities and we are excited about the outlook. Our plans include investing $3.5 billion over the next five years primarily for organic growth, that’s a 27% increase over the capital invested during the prior five-year period.

We expect to fund these capital expenditures without having to issue external equity. And we are pursuing growth through acquisitions which would be incremental to this investment.

We have an extensive history of rewarding shareholders through payment of dividends with a five pound compounded annual growth rate over the past five years. Our dividend is currently yielding 2.7%. We believe our long-term prospects for the business is strong.

Thank you today for your time. We’d be happy to open the lines up now for questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from Paul Ridzon with KeyBanc.

Terry Hildestad

Good morning Paul.

Paul Ridzon – KeyBanc

Good morning Terry. Just real quickly, would you say that weather was a net benefit or a net hurt for the quarter, I know it’s had a lot of different pieces.

Terry Hildestad

Well, Paul it’s a good question. Overall, you know, the construction businesses typically have a tough quarter but weather hurt our construction business a bit; certainly impacted the production in our largest cash flow generating area which is the Bakken area right now.

I mean that’s hitting all of the headlines locally, and otherwise, so our utility, although, we did benefit from weather, we have weather normalization in some of our areas. So I- it’s hard to project that Paul, but I would say, we certainly had a modest negative effect all together.

Paul Ridzon – KeyBanc

Okay, thank you.

Operator

Your next question comes from Timm Schneider with Citigroup.

Timm Schneider – Citigroup

Hi, guys, how it’s going. First question is, can you talk little bit about what you are seeing as far as cost inflation goes on the E&P side especially in the Bakken?

Terry Hildestad

Sure, Steve you want to handle that?

Steven Bietz

Yeah, Timm, this is Steve Bietz. You know, I think, we’re seeing some upward pressure particularly on the service side. We’ve got our contracts in place for drilling activity but on the service side, we’re seeing some upward pressure and I think we’re doing our best to manage that, but we are seeing upward pressure there. In terms of some of the other areas, probably not as much, Bakken in particular, it is – we are seeing some pressure there.

Timm Schneider – Citigroup

Got it. And then just sticking in the Bakken for a second, obviously, you’ve got the first well you drilled in the Stark County, the Kostelecky, I think came on at 1,350 IP rate per day, the second or this third one it’s close to 500. I was just wondering if you are seeing any differences with respect to if you’re delineating the acreage anything different as far as the drilling completing methods go, what was the difference?

Steven Bietz

You know, I think our completion efforts and drilling techniques there were pretty much the same in all three. I think some of that – our second well, which is probably the poorest, we just saw some lower reservoir pressures. We are trying to think about what might be the driver there on the positive side on that well.

We’re doing a work over. We are putting a pump on that. We’re going to see what kind of oil production we can sustain when it’s on pump. So I think it’s important to kind of watch that on a go forward basis.

I think there have been mixed results in the area. One thing just to remember is we drilled relatively short laterals on all three wells. I think they’ve all been a little over 4,000 foot horizontal laterals. The thought is as we go forward doing some closer to 10,000 foot laterals probably increases some of our initial production rates on some of those wells as well and we’ve got that built into our plans on a go forward basis.

Timm Schneider – Citigroup

Got it. And just to confirm, did you guys actually have rigs not drilling or was it just an issue of not getting the completion services in because of the weather?

Steven Bietz

Couple of things, I think our rigs were operating in the majority of the time. It’s more on services, it’s also kind of moving rigs and equipment from site to site is where we have some delays.

And then quite frankly just moving and getting the oil hauled off the well sites, that’s where we probably saw the biggest effect with the snowy conditions. In some areas, our tanks were full and we had to shut the wells in for periods of time until a truck could get there to get the oil haul off.

Timm Schneider – Citigroup

Got it, and just real quick switching gears here, on the asphalt side, do you guys just sell road asphalt or do you also dabble in roofing flux?

William Schneider

Timm, Bill Schneider here. We just sell asphalt through (inaudible).

Timm Schneider – Citigroup

All right, that’s it. Thank you.

Terry Hildestad

Thanks, Timm.

Operator

(Operator Instructions). Your next question is from Monroe Helm with Barrow, Hanley.

Monroe Helm – Barrow, Hanley

Good quarter. I’m wondering if you have an update on what the production rate is at the Kostelecky well at this point in time.

Steven Bietz

A little background on that. We had some operational problems with that well and had it shut in much of March as well as April.

Monroe Helm – Barrow, Hanley

Okay.

Steven Bietz

And so I’m trying to get a workover rig on there to pull some frac string out. We did get that completed; it is back on production here about a week ago. It’s currently in that 400 barrel a day range.

Monroe Helm – Barrow, Hanley

Okay. And how about the second well, the Oukrop?

Steven Bietz

Yeah, the Oukrop well, that well we’ve currently got a workover rig on it, putting a pump on it and we expect that to be back on production probably sometime late this week.

Monroe Helm – Barrow, Hanley

Okay. And how many, you talked about 18 wells in the Bakken overall for this year at $90 million spent, how many of those wells are going to be in Stark County would you say?

Steven Bietz

Right now we’ve got six plants for Stark County and the balance up in Mountrail.

Monroe Helm – Barrow, Hanley

Okay. And Kent Well has just joined, at what point in time will you have him out in front of the investing community. And do you expect that there will be any significant changes to your program this year since he has come on board or is that more an outlook for next year or you might have some different thoughts on what to do?

Steven Bietz

Yeah, I have and that’s a good question. Kent is on Board now. He is spending sometime familiarizing himself with of course our people and our assets and he has done that a bit over the last few months, but he is on board.

First day was yesterday. We’re having our analyst seminar in Denver in August, 2011 and he’ll certainly be available in there and have his feet on the ground at that point in time.

Monroe Helm – Barrow, Hanley

Okay, great. Thanks for your comments.

Steven Bietz

Thank you.

Operator

Your next question is from James Bellessa with D.A. Davidson & Co.

James Bellessa – D.A. Davidson & Co

Good morning.

Terry Hildestad

Good morning, Jim.

James Bellessa – D.A. Davidson & Co

The Merricourt transmission line what are you saying about that?

David Goodin

Hi, Jim this is David. Certainly, Xcel’s notice to enXco does not directly affect us and that our agreement as with the enXco for the development of that it and we continue to work on that, although, we’re watching the transaction carefully on the other side of this.

James Bellessa – D.A. Davidson & Co

How about the Eminent Domain in Montana?

John Harp

Yes, Jim, this is John Harp. As you know the House Bill 198 has passed both in House and Senate and it’s on to the Governor’s desk. What I’m hearing, it’s going to become law. And obviously that will help us get back on track with the accelerated case in CapEx.

Hopefully within five to six months, hopefully we’ll be in position to condemn the land, do Eminent Domain, to work with those land owners and particularly in Montana. So we’re hoping that at least by the end of summer, early fall that we are in a position to get into some of those areas where we can basically lock up access and shut down.

James Bellessa – D.A. Davidson & Co

During your Analyst Day the, there was expression that you’ve been looking for acquisitions in the utility front, what can you say about that?

Terry Hildestad

Jim, I would say that, that’s still part of our growth strategy and it’s an area that we continue to look at.

James Bellessa – D.A. Davidson & Co

Thank you very much.

Terry Hildestad

Thank you, Jim.

Operator

(Operator Instructions). This marks the last call for questions. (Operator Instructions). This call will be available for replay beginning at 2:00 PM Eastern Time today through 11:59 PM Eastern Time on May 17th, 2011. The conference ID number for the replay is 55658893. Again the conference ID number for the replay is 55658893. At this time, there are no further questions. I would now like to turn the conference back over to management for closing remarks.

Terry Hildestad

While first of all, thank you for participating in the call and we look forward to having other opportunities to speak with you again soon. Again just to reference back to guidance, it’s early. It’s unusual for us to do much with guidance at the end of the first quarter.

If you recall we had forecast about 15% of our earnings typically come from our businesses in the first quarter. So we will update you as the developments occur throughout the year. Thanks for your interest in MDU Resources.

Operator

This concludes today’s MDU Resources Group conference call. Thank you for your participation. You may now disconnect.

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