Atmos Energy Corp (ATO) — Q3 2018 Earnings Call Transcript

Thank you, Brenda. Good morning, everyone, and thank you for joining us. This call is being webcast live on the Internet. Our earnings release and conference call slides presentation are available on our website at atmosenergy.com. As we review these financial results and discuss future expectations, please keep in mind that some of our discussion might contain forward-looking statements within the meaning of the Securities Act and the Securities Exchange Act. Our forward-looking statements and projections could differ materially from actual results. The factors that could cause such material differences are outlined on Slide 30 and are more fully described in our SEC filings. Our first speaker is Chris Forsythe, Senior Vice President and CFO of Atmos Energy. Chris.

Thank you, Jennifer, and good morning, everyone. Yesterday, we reported fiscal 2018 third quarter earnings and continuing operations of $71 million, or $0.64 per diluted share, compared with $71 million, or $0.67 per diluted share, in the prior year's third quarter. Year-to-date, earnings from continuing operations were $564 million, or $5.09 per diluted share, compared with $347 million, or $3.27 per diluted share, in the prior year period. Year-to-date results include a $166 million, or $1.49 per diluted share, non-recurring income tax benefit from Tax Reform. Our third quarter results were in line with our expectations with major drivers underlying our performance during the first half of the fiscal year continuing into the third quarter. Operating income in our distribution segment decreased $50 million to about $62 million in the third quarter, largely driven by a $12 million decrease in contribution margin due to the implementation of Tax Reform. Contribution margin was positively impacted by regulatory actions, which provided an incremental $11 million in contribution margin in the quarter. We continue to experience solid customer growth. Over the last 12 months, our distribution segment had a net of 34,000 customers, which represents a 1.1% net customer growth. We also continue to add transportation customers to this system in our Kentucky/Mid-States Division. Combined, this growth added nearly $5 million in contribution margin for the quarter. Operating expenses rose approximately 11% quarter-over-quarter. We experienced a planned increase in pipeline integrity activities, higher volume locate costs, higher employee-related costs, and increased depreciation property tax expense resulting from our capital spending. We also incurred about $1.5 million in traveling expenses associated with the planned Northwest Dallas outage during the second quarter, bringing the total expenses associated with the events to approximately $24 million. This particular project has been completed, and we do not anticipate any material future expenses associated with this event. Operating income in our pipeline and storage segment decreased by $2 million. Contribution margin increased a net $11 million, as we recognized $24 million of incremental margin from APT GRIP case completed last August and the accrual of two GRIP filings in fiscal 2018. This increase was partially offset by an $8 million reduction in revenues due to the implementation of Tax Reform. Offsetting the growth in contribution margin was a $13 million increase in operating expenses, as a result of higher depreciation related to increased capital expenditures and the timing of planned pipeline integrity work. Consolidated capital spending for fiscal 2018 increased 34% to $1.1 billion, which is in line with our expectations. 85% of our fiscal 2018 spending was focused on improving the safety and reliability of our system. Based on work concluded today and planned for the remainder of the fiscal year, we continue to expect our fiscal 2018 capital spending to be approximately $1.4 billion. We've remained very active from a regulatory perspective. To date, we have completed 19 filings which add approximately $81 million in annualized operating income over fiscal 2018 and 2019 inclusive of the effects of Tax Reform. $71 million of this amount related to APT. We had 9 filings pending seeking about $42 million in annualized operating income in our distribution segment. We anticipate most of these filings will be completed during the fourth quarter, with rates taking effect during the first quarter of fiscal 2019. After taking into account the lower tax expenses we are incurring, the net financial impact from these regulatory outcomes is consistent with what we were anticipating at the beginning of the fiscal year. Tax Reform has been a primary focus for our regulatory team during the third quarter, and we emerged from the quarter with clarity in how Tax Reform will be reflected in customer bills. As a final stage, we have adjusted rates to reflect the lower 21% rate. In three states, we started returning the regulatory liabilities we established effective January 1st to account for the difference between the former 35% statutory rate and the current 21% statutory rate. In these three states, we will begin returning excess taxes using a conventional amortization period ranging from 18 to 40 years. These periods will be treated in future filings. Looking forward, we expect to refund the regulatory liability in excess deferred taxes for several of our tax jurisdictions in October. In November, we expect to adjust rates in Mississippi and Tennessee for the full impact of Tax Reform. We are well on our way to fully implementing Tax Reform in customer bills. Once fully implemented, we estimate that the annual customer benefit from Tax Reform will be over $100 million. Slides 24 and 25 summarize the financial impact of Tax Reform for fiscal 2018 results and progress made in 2018 regarding Tax Reform. Our balance sheet remains strong as our capital spending program and the return of the benefits of Tax Reform to our customers continue to be solid. As of June 30, our equity was sold capitalization was 59%, and we had approximately $1.4 billion of borrowing capacity available under our credit facilities. As we view our final quarter of fiscal year, we remain on track to meet our fiscal 2018 earnings guidance range of $3.84 to $4.05 per diluted share, excluding the non-recurring benefit recognized from the implementation of Tax Reform. The higher than anticipated growth in economic activity we saw at the beginning of the year and the anticipated impact of Tax Reform is materializing as expected. Slide 27 provides legitimate information underlying our fiscal 2018 guidance. This information has not changed from the prior quarter. Thank you for your time this morning. I will now turn to President and Chief Executive Officer, Mike Haefner, for his closing remarks.

Chris, thank you very much for the great update on the quarter, and thank all of you for joining us this morning. As you can see from our third quarter results, we remain very focused and on track to meet our fiscal 2018 targets, driven primarily by our proactive pipe replacement and system modernization investment. Our commitment to safety is firm now. From 2011 to 2017, we invested approximately $6 billion on replacing 80 miles of infrastructure and modernizing our system. Between fiscal 2018 and fiscal 2022, we plan to spend an additional $8 billion, with a rate of capital investment growing approximately 11% per year on average. Over 80% of this spending will be focused on safety and reliability investments as it has been in the past. Our dedicated employees are the reason for our continued success, as we uphold our safety and service commitments to our customers and our communities where we live and work. We constantly strive to become the safest provider of natural gas services through our investments, not only in our infrastructure but also in our employees and the technology and business processes used to maintain and operate our system, and in public safety awareness. For example, training hours in 2018 increased approximately 10% year-over-year, with the majority of the training at our world-class training center going towards technical skills development and safety. And since third-party damage is the number one cause of leaks in our system, we continue to raise public awareness through pipeline safety efforts. These efforts are paying off; reported injuries for employees are down 17% year-over-year, and our fiscal 2018 damage rate is below the industry average and has been reduced by approximately 20% over the last six years, despite a 50% increase in demand over that same period. We continue to see strong economic development; we are fortunate to serve some of the fastest growing regions in the country. The Dallas-Fort Worth Metroplex is projected to add 1.5 million households and over 4 million people over the next 30 years. We stand ready to serve our communities as this demand grows. Our proven organic growth strategy, driven by necessary safety and reliability investments along with consistent customer growth, provides a long-term horizon of infrastructure needs ahead. Even with the significant investments we've made, the low and stable natural gas environment helps keep customers' bills affordable, and our proactive approach ensures customers receive the benefit of the lower federal tax rate, which makes their bills an even better value. Our regulators understand the need to increase the pace of pipeline replacement. The various annual rate review mechanisms and infrastructure mechanisms provide transparency for those regulators to annually review the progress we're making to modernize our system while also providing the opportunity we need to ensure reasonable returns that our investors require for the financial resources we need to sustain our efforts. We remain confident that all these factors will continue to provide a reasonable return to our investors through earnings per share and dividend growth in the 6% to 8% range each year. We are focused on the long run and the long-term sustainability of our business, and we are dedicated to all our stakeholders. In closing, I'd like to thank our employees for their outstanding effort. They strive to find ways to improve every day to deliver safe, reliable, affordable, and exceptional natural gas service to our 3.2 million customers that we serve in over 1,400 communities in our eight-state footprint. They come to work every day focused on safety while providing excellent customer service and executing our capital spending program focused on modernizing our system. Our employees have a strong belief in striving to do the right thing without seeking recognition or awards, and it is this attitude that drives our success. Recently, Atmos Energy was named the 2018 Most Trusted Utility Brand in the South. This distinction was not possible without the hard work and dedication of our employees. So, thank you to each of you for what you do every day for Atmos Energy. We appreciate the time you spent with us this morning, and now we'll take any questions that you may have. Back to you, Brenda.

Dennis, good morning.

Good morning to all. A couple of quick ones for me. You still on or are we still at the guidance of 385 to 405? Now that we are down to one quarter to go, I wonder if you might just talk about what gets you to the higher end of that range or the lower end of that range?

Yeah, I think - Dennis, this is Chris. Good morning. You know, as we look into the fourth quarter, we've got some planned pipeline integrity work. We take APTs outline, so that's a big project that started in early July. And so that's a variable. Right now, with where we see things as of today, we project to be somewhere in the middle of that guidance range at this point.

Okay, okay. And then a couple more detailed questions on the distribution segment—OpEx and tax expenses were a little higher than our estimate. I wonder if there is anything particular; now you did talk a little bit about that on Slide 5, but any additional comments you might make there?

Yeah, on OpEx, I think it is seeing some timing, particularly employee costs. We had some key executives retire a year ago, so the settlement charges set up in the third quarter are not that material, but that was one item that did flow through. With tax expense, are you talking about profit taxes or are you referring to…?

Yeah, not income taxes.

Yeah, profit taxes; you know, we are adjusting our estimates for profit tax. We are mostly on a calendar basis. So, as we are working through the valuation process with profit tax seen in various municipalities, we just make adjustments for the year based on what we think our full calendar year expenses will be.

Got it, got it. Okay. That's helpful. Thanks very much.

Thank you, Brenda. This concludes our call. A recording of this call is available for replay on our website through November 8, 2018. We appreciate your interest in Atmos Energy and thank you for joining us. Goodbye.