Earnings Call Transcript - ATO Q1 2020

Operator, Operator

Greetings and welcome to the Atmos Energy First Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. It's now my pleasure to introduce your host, Jennifer Hills, Vice President, Investor Relations for Atmos Energy. Jennifer, please go ahead.

Jennifer Hills, Vice President, Investor Relations

Thank you, Kevin, and good morning, everyone, and thank you for joining us. This call is being webcast live on the internet. Our earnings release and conference call slide presentation, which we will reference in our prepared remarks, are available at atmosenergy.com under the Investor Relations tab. 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 22 and are more fully described in our SEC filings. Our first speaker is Chris Forsythe, Senior Vice President and CFO of Atmos Energy. Chris?

Chris Forsythe, Senior Vice President and CFO

Thank you, Jennifer, and good morning, everyone. We appreciate you joining us and your interest in Atmos Energy. Our 2020 fiscal year is off to a solid start. Yesterday, we reported first quarter net income of $179 million, or $1.47 per diluted share, in line with our expectations. We reported growth in both our distribution and pipeline and storage businesses, driven by continued customer growth and distribution and rate recovery in both segments. Consolidated operating income rose 7% to $253 million in the first quarter. Slide four summarizes key performance drivers for each of our operating segments. Operating income for our distribution business rose 6.4% to $180 million. Rate increases, driven by increased safety and reliability capital spending, provided an incremental $27 million, primarily in our Texas, Louisiana, and Mississippi jurisdictions. Customer growth contributed an incremental $4 million, as we have continued to benefit from the strong population growth in some of our service areas, most notably in the DFW Metroplex. For the 12 months ended December 31, we experienced 1.4% net customer growth in our North Texas distribution business and 1.2% net customer growth across our eight-state footprint. Consumption declined modestly due to colder weather last year before weather normalization mechanisms went into effect and O&M expenses increased $8.6 million associated with the distribution integrity management work and higher employee-related costs. Operating income for the pipeline and storage business grew 8% to $73 million, primarily driven by a $13.7 million increase due to the implementation of new rates from our 2019 GRIP filing, partially offset by a $5 million increase in O&M, related to the timing of well integrity work. Consolidated capital spending grew 27% to $529 million, with 86% of our spending directed towards safety and reliability spending to modernize our system. We remain on track to invest between $1.85 billion and $1.95 billion this fiscal year. We have a well-established regulatory strategy, focused on reducing lag. In fiscal 2020, we expect to begin earning a return on 90% of our spending within six months of the test period end. Year-to-date, we have implemented $59 million in annualized regulatory outcomes and currently we have about $21 million in progress. Slides 13 to 18 provide details for all of these filings. Slide 19 outlines our planned activities for the remainder of the fiscal year. Our ability to attract the necessary long-term financing to fund our capital expenditure program, while maintaining the strength of our balance sheet, is critical to the successful execution of our strategic plan. During the first quarter, we received $1.1 billion in net proceeds from long-term financing activities. In October, we issued $300 million of 10-year notes and $500 million of 30-year notes at an all-in effective rate of 3.15%. As a result, we were able to reduce our weighted average cost of debt to 4.32%. Our customers continue to benefit from these historically low rates. Additionally, we increased our weighted average maturities to 22 years and do not have a material maturity until 2027. From an equity perspective, we settled forward agreements on 2.7 million shares for approximately $259 million in net proceeds and we executed new forward sales arrangements under our ATM for approximately 340,000 shares, with anticipated net proceeds of approximately $37 million. As of December 31, we had about $240 million remaining under equity forward arrangements that must be utilized by the end of our fiscal year. We continue to believe that we can satisfy our fiscal 2020 needs through our ATM program. As a result of this financing activity, our equity capitalization was 58.6% as of December 31 and we finished the quarter with approximately $2 billion of liquidity under our credit facilities and equity forward agreements. The strength of our balance sheet and our five-year financial plan continues to be recognized by the credit rating agencies. In December, Moody's upgraded our long-term debt rating to A1 with a stable outlook and S&P reaffirmed our A credit rating. Details of our financing activities and our financial profile can be found on slides seven through ten. Our first quarter performance leaves us well positioned to meet our 6% to 8% earnings per share growth target. As a result, yesterday, we reaffirmed our fiscal 2020 earnings per share guidance in the range of $4.58 to $4.73 per diluted share. Thank you for your time this morning. I will now turn the call over to Kevin Akers for his closing remarks.

Kevin Akers, President and CEO

Thank you, Chris. As you can see from our fiscal first quarter results, we are off to a good start to the year, as we remain on track to meet our capital spending goals and earnings growth targets. From an operational perspective, we remain focused on executing our proven investment strategy of operating safely and reliably, while we modernize our natural gas distribution transmission storage systems as well. We are continuing our investments in people, processes, and technologies that will enable Atmos Energy to scale safely and efficiently while investing $10 billion to $11 billion over the next five years. I would like to highlight one of our larger investments, the Bethel Salt Dome project, which we began in fiscal 2019 and is estimated to be completed in 2025. As we've discussed previously, we plan to invest between $100 million and $120 million to develop a third salt-dome cavern at our Bethel storage facility. This project will enable us to safely perform regulatory compliance work on our two existing caverns and meet the growing demand in the North Texas market. The construction of the power and leaching facilities has been completed, and we began the leaching process in mid-December. The leaching process is estimated to take between 25 and 30 months, and we anticipate finishing our required compliance work on all three caverns and have them in service by late 2025. Natural gas is an important driver of economic growth in this country, and we have seen our industrial business grow in our Kentucky mid-states and Mississippi divisions, particularly in the automotive manufacturing sector and in the spirits industry. Over the last few quarters, clean, efficient, and affordable natural gas lead transport has supported the expansion of existing facilities and fueled new industrial project development. Once these expansion projects fully come online over the next few years, we expect to deliver an additional two Bcf annually to these customers. Additionally, we continue to expand deliveries to CNG customers with the addition of a new customer in Colorado. As a result, our customer expects to replace nearly 90,000 gallons of diesel fuel annually. During the first quarter, we continued to enhance our sustainability reporting capabilities. In December, we launched a Corporate Responsibility section on our website to provide greater disclosure of our focus on safety and long-term sustainability and to highlight how we are working to meet the needs of our various stakeholders. We also published our second corporate responsibility and sustainability report as well as an updated methane emissions report, both of which can be found in the Corporate Responsibility section under Reports. The continued modernization of our natural gas distribution, transmission and storage systems will help ensure all residential, commercial, public authority and industrial customers continue to have access to reliable, affordable, abundant, and efficient natural gas. To support this effort, last week, we were pleased to announce that we joined the One Future coalition, a voluntary alliance of leading companies across the natural gas supply chain, focused on technology and policy to drive continued improvement in reduction of methane emissions. We look forward to working with One Future as we move toward achieving our target of a 50% reduction in methane emissions by 2035. In closing, I want to thank our 4,800 employees who are dedicated every day to safely operating our system, providing exceptional customer service and giving back to the communities where we live and work. We appreciate your time this morning, and now we will take any questions you may have.

Operator, Operator

Thank you. We'll now be conducting a question-and-answer session. Our first question is coming from Richard Ciciarelli from Bank of America. Your line is now live.

Richard Ciciarelli, Analyst

Hey, good morning. Can you guys hear me okay?

Kevin Akers, President and CEO

Yes, good morning, Richie. How are you doing?

Richard Ciciarelli, Analyst

Doing well. I just had a question on the O&M profile. It seems like it was a sizable uptick this year. And I appreciate some of that was for the increased employees due to the faster growth but just curious like how you intend to shape the O&M curve through the outlook given like the 2% to 3% growth that you're managing towards?

Chris Forsythe, Senior Vice President and CFO

Yes. Regarding a couple of points, we have the 2.5% to 3.5% growth embedded in our five-year plan through 2024, which represents a compound annual growth rate over that period. As you mentioned, we anticipated an increase in operational and maintenance costs this year due to additional hiring, particularly in the first quarter. Spreading that over four quarters can be challenging. We did experience some timing issues in our pipeline and storage segment related to well integrity work that was moved up into the first quarter. Therefore, when we consider the operational and maintenance guidance we published for fiscal 2020, we believe we are still on track to meet those expectations at this time.

Richard Ciciarelli, Analyst

All right. It makes a lot of sense. That's all I had. Thank you.

Operator, Operator

Thank you. Our next question is coming from Insoo Kim from Goldman Sachs. Your line is now live.

Insoo Kim, Analyst

Thank you. My first question is at the pipeline segment. When you look at the year-over-year decrease in transportation volumes how does that magnitude compare versus your expectations? I know you've expected some of that given the online of the Gulf Coast Express pipeline and whatnot, but how does that magnitude fare versus your expectation? And how does that place you in terms of the expected growth of the segment for this year?

Chris Forsythe, Senior Vice President and CFO

Yes, it's pretty much in line with our expectations. And honestly, we saw volumes pick up just a little bit versus what we expected but pricing was a little bit down. So, net-net we were in line with expectations. And as we look forward, we'll continue to monitor the market conditions. You're very well aware of the supply and demand dynamics ongoing in the Permian Basin and we'll just keep an eye on that. But at this point we still think that our net income as well as our guidance that we have out there is still good.

Insoo Kim, Analyst

Understood. And second Kevin, I know you touched upon this in your prepared remarks but with ESG and electrification of the grid story having taken hold recently in our market, could you share your thoughts a little bit more on your view of the gas that plays a role in the future of the U.S. energy grid? And also how do you see that potential shift creating maybe a secular decline in existing or new gas usage on the customer base?

Kevin Akers, President and CEO

Yes. I appreciate your question. First of all, let me say that I'm proud to be in the natural gas business particularly this morning as we sit here in Dallas, the wind-chill is in the low 20s, so our customers are receiving safe reliable heating for their home and have hot showers as well. So, we're very, very proud of our product and what we're able to do from a reliability and efficiency standpoint. But the way we see it as you look at the population in the U.S. today, about 335 million or so headed towards 360 million by 2030, that's like adding a Texas to the population in about a 10-year period with growth at about 2.5 million people or so a year there. That's going to require a diversified energy portfolio, and we see natural gas as a vital part of that energy solution as we move forward. As we said before, it's efficient, it's affordable, it's abundant, it's reliable, and it's flexible. There's not another fuel that's flexible like it to meet this growing energy demand required by 2030. You can compress, you can decompress it, transport it, liquefy it, store it below ground. There's nothing like it that's reliable and abundant today. And as a natural gas distribution utility having interstate transmission assets, we embraced our role operating responsibly and being good stewards of our environment. As you've heard us say before, we're working to tighten up our system with our modernization of our infrastructure, and we continue to deploy technology across our system, both in monitoring capability and equipment capability to make sure we are operating as responsibly and as efficiently as possible. And we'll continue to work with our partners both upstream, as you saw with our joining of ONE Future, to ensure we are getting the best available practices that are going on in the industry today to look at and maybe incorporate into our business, as well as partner with groups like AGA and GTI to not only tell our story but also look at what technology is available from a burner tip perspective or technology perspective whether that's carbon capture or carbon storage. So as we see it, we see continued growth of natural gas. It plays a viable role in the energy future now and well into the future trying to meet that energy demand by 2030. Again, there's nothing like it that's as flexible, reliable, and efficient. So as we talked about in my script, with industrial demand out there, we're continuing to see good expansion of industrial load, good new growth on the industrial and commercial side as well. And then in addition, you heard Chris mention the 1.2% to 1.4% net growth on the residential side as well in our market areas. So both residential through the industrial markets, we continue to see good growth area.

Insoo Kim, Analyst

Got it. Thank you very much.

Operator, Operator

Our next question is coming from Charles Fishman from Morningstar Research. Your line is now live.

Charles Fishman, Analyst

Good morning. I just want to make sure I understand this. On the pipeline and storage, you talked last quarter about the new pipeline coming on, and competitor pipeline affecting operating income. And obviously, we didn't see that in the last quarter. It was pretty darn good, but then you made the statement that it's on track. I mean do you anticipate pipeline and storage being roughly flattish this year versus last year? Or when you say on track, if you could provide a little more color on what that might be?

Chris Forsythe, Senior Vice President and CFO

Sure. Yes. Charles, this is Chris. A couple of comments around that. Last quarter, GCX came online in the middle of the quarter. So we had some strong pricing opportunities if you will, in the first half of the fourth quarter last year which contributed to that quarter's results. As we move forward, as we reiterated this morning, we're on track with our earnings per share targets. And I'll also say that our contribution of our business between distribution and pipeline storage is going to be roughly the same as well. So that's roughly 2/3 distribution and 1/3 on the pipeline storage side. So as we continue to grow in that 6% to 8% range certainly for 2020 and as we look out through 2024, we expect the business mix between our two segments to be in that roughly that 2/3, 1/3 allocation, if you will. So it can ebb and flow a little bit, but we still see a lot of continued growth. And when you think about pipeline and storage, most of the earnings drivers in that segment is the continued safety and reliability work that we are doing on our APT system. Kevin talks about the Bethel storage facility. So it's driven by fundamental rate-based growth as a result of the supply or what we're trying to accomplish from a safety perspective, as well as meeting the growing needs of the Dallas-Fort Worth Metroplex.

Charles Fishman, Analyst

Okay. So, I mean Chris, the takeaway from your answer is that, since the mix of business is staying the same and we know distribution is growing pretty well, that means pipeline and storage is really growing even though you're seeing this competitor pipeline?

Chris Forsythe, Senior Vice President and CFO

That's correct. It's important to note that the non-tariff businesses related to the pipeline only make up a small part of APT's overall operations because of the Rider REV mechanism. Consequently, 75% of any commercial business activity that we gain from that pipeline benefits our regulated customers in the distribution segment in our Mid-Tex Division in North Texas. We've consistently indicated that while there may be small gains from time to time, we do not see this as a significant driver of our performance. It may have a minor impact in certain years due to pricing changes, but we do not consider it a source of fundamental growth in the long run.

Charles Fishman, Analyst

Okay. And if I could ask, please proceed.

Kevin Akers, President and CEO

Well, I was just going to add to that. Chris is exactly right. We don't see that as a competitor pipeline. Again, with its direction, it's mainly focused on takeaway out of the Permian down to the Gulf Coast area. So we don't really see it as a competitor by nature because our responsibility on the pipeline side itself is those core markets and serving those core markets.

Charles Fishman, Analyst

Okay. Got it. Now if I can ask just one more question on the new dome storage that's being developed, how does that work from a regulatory standpoint? I mean I would assume a lot of that is for the benefit of your distribution system, Mid-Tex, etc.?

Kevin Akers, President and CEO

Correct. It's about ensuring we have the reliability to continue meeting the contractual demands of our customers related to APT. All those costs or investments in that area are eligible for recovery through that mechanism.

Charles Fishman, Analyst

Okay. So it's under grip. Got it. Okay.

Kevin Akers, President and CEO

Correct.

Charles Fishman, Analyst

That’s it. Thank you very much.

Kevin Akers, President and CEO

Thank you, Charles.

Operator, Operator

Thank you. Our next question is coming from Ryan Levine from Citi. Your line is now live.

Ryan Levine, Analyst

Good morning.

Kevin Akers, President and CEO

Hey, Ryan.

Ryan Levine, Analyst

Hey. What's your appetite to invest in the build-out of RNG infrastructure given your footprint and stated objectives of both AGA and Atmos?

Kevin Akers, President and CEO

Again, we want to operate responsibly. We want to take a look at opportunities that are out there, but we're going to take a look at it in the way that we've done everything else about our business. And what I mean by that is if you take a look at how we set up our rate structures over time, our annual mechanisms, our pipe mechanisms, those sort of things, we have to look at it from a regulatory perspective on investment and recovery of that investment and what those opportunities look like as well as what are the laws or regulations around that that exist today or may exist in the future. So, all that to say we're keeping an eye on it. We're looking at it. But we are working with other industry partners and seeing what other states are doing to see how the regulatory environment plays out on those and how the legislative environment plays out on those. And when we see something that is of interest to us or ready to move forward, we'll, like we said with the rest of our rate structure make sure that it is tied up with our investment and the recovery and it benefits our customers across the enterprise.

Ryan Levine, Analyst

Okay. And then another one in terms of the O&M cost increase. I was wondering what impact the new PHMSA regulation have in your increased guidance for 2020 versus 2019?

Chris Forsythe, Senior Vice President and CFO

We have anticipated the PHMSA rules taking effect in July of this year, which will have a limited impact in 2020. The effects will fully roll in on a yearly basis starting in 2021. We have already included this in our O&M forecast up to 2024.

Ryan Levine, Analyst

Is there a way to quantify the magnitude of that impact versus the other items that were highlighted from an earlier question?

Chris Forsythe, Senior Vice President and CFO

We don't have that information readily available.

Ryan Levine, Analyst

Okay. And then the last question for me. Curious what your gas price assumption is in your 2020 guide. And with the weakness in spot basis in some of your jurisdictions curious how much regulatory headroom you have versus your guidance in terms of customer builds?

Chris Forsythe, Senior Vice President and CFO

We believe that our all-in price ranges from $3.20 to $5.50, which includes storage and transportation costs. Typically, storage and current transportation costs range from $1 to $1.50. Therefore, we are using a low $3 to high $2 range for commodity pricing. If we can secure lower prices for gas from our sources, it will benefit our customers. Our gas supply team is actively working to reduce gas costs throughout the company.

Ryan Levine, Analyst

Okay. Great. Thank you.

Operator, Operator

Thank you. Our next question today is from Marc Solecitto from Barclays. Your line is now live.

Marc Solecitto, Analyst

Hi. Good morning.

Chris Forsythe, Senior Vice President and CFO

Good morning.

Marc Solecitto, Analyst

Kind of following up on some of the earlier questions, can you quantify the year-over-year impact from Waha basis differentials in fiscal 1Q?

Chris Forsythe, Senior Vice President and CFO

If you look through our Management Discussion and Analysis, it’s roughly down about $750,000 to $1 million. It’s in our line item that flows, not on our Mid-Tex line, but rather in our pipeline, specifically in our three-system line item. So it’s available in the 10-Q.

Marc Solecitto, Analyst

Got it. Okay. And then in terms of your FY 2020 EPS guidance, I think Waha spreads were a $12 million year-over-year tailwind in fiscal 2019. Just curious what the embedded assumption was in your fiscal 2020 guidance. Or maybe said differently, if you captured any benefit in fiscal 2020, would that represent upside to your budget?

Chris Forsythe, Senior Vice President and CFO

We made a call based upon market conditions at the time that we put the plan together last summer, but we haven't released those specific details.

Marc Solecitto, Analyst

Got it. Okay. Thank you.

Operator, Operator

Thank you. We've reached the end of our question-and-answer session. I'd like to turn the floor back over to management for any further or closing comments.

Jennifer Hills, Vice President, Investor Relations

Thank you, Kevin. We appreciate your interest in Atmos Energy and thank you for joining us. A recording of this call is available for replay on our website through May 7, 2020. Goodbye.

Operator, Operator

Thank you. That does conclude today's teleconference. You may disconnect your line at this time and have a wonderful day. We thank you for your participation.