Earnings Call Transcript - ATO Q3 2022

Operator, Operator

Greetings, and welcome to Atmos Energy's Third Quarter 2022 Conference Call. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Dan Meziere, Vice President of Investor Relations and Treasurer. Please proceed.

Daniel Meziere, Vice President of Investor Relations and Treasurer

Thank you, Brock. Good morning, everyone, and thank you for joining our fiscal 2022 third quarter earnings call. With me today are Kevin Akers, President and Chief Executive Officer; and Chris Forsythe, Senior Vice President and Chief Financial Officer. 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 33 and are more fully described in our SEC filings. With that, I will turn the call over to Chris Forsythe, our Senior VP and CFO. Chris?

Christopher Forsythe, Senior Vice President and Chief Financial Officer

Thanks, Dan, and good morning, everyone. We appreciate you joining us and your interest in Atmos Energy. Fiscal '22 third quarter net income increased $129 million or $0.92 per diluted share compared to $102 million or $0.78 per diluted share in the prior year quarter, and fiscal year-to-date net income was $703 million or $5.12 per diluted share compared with net income of $617 million or $4.77 per diluted share in the prior year period. Slides 5 and 6 provide operating income highlights for each of our segments for the three and nine months ended June 30. I will focus on some of the more significant drivers underlying our fiscal year-to-date performance. Rate increases in both our operating segments totaled $172 million, primarily driven by increased safety and reliability spending and system expansion. Approximately 71% of these rate adjustments were recognized in our distribution segment. We continue to see robust customer growth in our distribution segment, which increased operating income by an additional $13 million. This growth offset a $13 million decrease in consumption, most of which occurred during the assessed second fiscal quarter. We did not see the same trend continuing in the third fiscal quarter as consumption increased by about $3 million quarter-over-quarter. Additionally, we experienced a $25 million increase in consolidated O&M expense primarily driven by increased pipeline maintenance activities and employee-related costs compared with the prior year, partially offset by lower bad debt expense. Finally, reductions in fiscal '22 revenue associated with the refund of excess deferred tax liabilities reduced operating income by $103 million. This reduction was substantially offset by lower income tax expense. Consolidated capital spending increased 27% or $368 million to $1.7 billion, with 87% dedicated to improving the safety and reliability of our system. This increase primarily reflects increased system modernization, system integrity, and system expansion spending to meet the growing natural gas demand in our service territories. We remain on track to spend $2.4 billion to $2.5 billion in capital expenditures this fiscal year. On the regulatory front, we have completed approximately $216 million of annualized regulatory outcomes excluding refunds of excess deferred tax liabilities. Of this amount, we have implemented $202 million, and we implemented the remainder on September 1. Additionally, we had about $127 million in progress. Slides 15 through 32 provide additional detail around the regulatory activities. Our fiscal third quarter financing activities were focused on pricing our fiscal '23 equity needs. During the quarter, we executed four sales agreements under our ATM program for approximately 2.9 million shares for $337 million, and we sold agreements on 731,000 shares for approximately $81 million in net proceeds. As of June 30, we have approximately $700 million of net proceeds available under existing forward sale agreements, which satisfies substantially all of our anticipated equity needs through fiscal '23. We finished the third quarter with an equity capitalization of 61.7%, excluding the $2.2 billion of interim winter storm financing and with total liquidity of approximately $3.5 billion. Additional details for our financing activities, including our equity forward arrangements as well as our financial profile, are on Slides 8 through 11. Turning now to securitization. During the third quarter, we continued to make progress on that front. In Texas, the Texas Public Financing Authority continues its work on the statewide securitization program, and we believe it is on track to be completed within the next few months. As a reminder, once we receive the securitization funds, we will fully retire the $2.2 billion in interim Winter Storm financing. In Kansas, during the third quarter, we filed our application for a financing order. Based on the approved procedural schedule, we anticipate receiving the financing order during our fiscal '23 first quarter. In closing, our fiscal year-to-date performance was in line with our expectations and supports the reaffirmation of our fiscal '22 earnings per share guidance in the range of $5.50 to $5.60 per diluted share. Slides 13 and 14 provide additional details around our guidance. The ranges included in those pages have not changed since the last quarter. However, we do anticipate our O&M interest expense to be at the higher end of the ranges provided. Thank you for your time today. I'll now turn the call over to Kevin for his update and some closing remarks. Kevin?

Kevin Akers, President and Chief Executive Officer

Thank you, Chris. Good morning, everyone, and thank you for joining us today. The fiscal year-to-date results, Chris just shared, reflect the continued focus on our vision of being the safest provider of natural gas services and supporting that vision are our 4,700 dedicated employees executing our safety and reliability investment strategy and our prudent regulatory and financing strategies. These strategies, combined with a strong portfolio of assets, will continue to support our ability to grow earnings per share and dividends by 6% to 8% annually through fiscal 2026. We continue to see robust growth in demand for natural gas in our service territories. During the 12-month period ended June 30, 2022, we added nearly 59,000 new residential customers, which represents a 1.8% increase. During the third quarter of this year, we added 13 new industrial customers that have an expected annual natural gas usage of 5 Bcf when they are fully operational. Fiscal year-to-date, we have added 28 new industrial customers that have an expected annual natural gas usage of 10 Bcf when they are fully operational. As I mentioned before, on a volumetric basis, that 10 Bcf of annual industrial customer usage is equivalent to adding 170,000 residential customers. Last month, we released our most recent corporate responsibility and sustainability report, which illustrates our environmental, social, and governance strategy focused on reducing our Scope 1, 2, and 3 emissions and environmental impact from operations in the five key areas of operations, fleet, facilities, gas supply, and customers. The report also summarizes the commitments as well as the progress made towards executing that strategy during fiscal 2021 and early fiscal 2022. I wanted to comment on one of the exciting highlights in the corporate responsibility report: our Zero Net Energy Homes initiative. By partnering with local Habitat for Humanity organizations in each of our eight states, we are providing families with Zero Net Energy Homes that use high-efficiency natural gas appliances, rooftop solar panels, and insulation to produce more energy than they consume over the course of the year, all in a cost-effective manner. Again, as you've heard us mention before, we've completed our first Zero Net Energy Home in Evans, Colorado, in September of 2021. During the third quarter of this year, we completed a second Zero Net Energy Home in Taylor, Texas, located just north of Austin. Construction is underway on three additional Zero Net Energy Homes in Dallas, one in Jackson, Mississippi, one in Owensboro, Kentucky, and all these are scheduled for completion by November of this year. Additionally, groundbreaking is scheduled later this calendar year for an additional five Zero Net Energy homes, one in Dublin, Virginia, one in Columbia, Tennessee, and three in Lubbock, Texas. These homes provide families with a comfortable natural gas home that demonstrates the value and vital role natural gas plays in helping customers reduce their carbon footprint in a cost-effective manner. Our fiscal year performance and participation in community projects such as these, including our Zero Net Energy homes, reflect the commitment, dedication, focus, and effort of our 4,700 Atmos Energy employees, as they see a vital role in our 1,400 communities by safely delivering reliable, efficient, and abundant natural gas to homes, businesses, and industries to fuel our energy needs now and in the future. We appreciate your time this morning, and now we'll open the call for questions.

Operator, Operator

Our first question today is from Julien Dumoulin-Smith of Bank of America.

Kody Clark, Analyst

It's Kody Clark on for Julien. So first, I was wondering if you can walk us through the main drivers for the remainder of the year. It seems like you're well ahead based on year-to-date results, rate increases for the remainder of the year, and your updated expectations on O&M and interest. I guess I'm just trying to get a better understanding of your expectations within that $550 million to $560 million range.

Christopher Forsythe, Senior Vice President and Chief Financial Officer

You muted there a little bit. But if I'm understanding correctly, you're looking for the main drivers for the remainder of the fiscal year to try to give you some color around where we might fall within the guidance range?

Kody Clark, Analyst

That's right. I'm sorry about that. Hopefully, you can hear me better now.

Christopher Forsythe, Senior Vice President and Chief Financial Officer

Yes, things are much improved now. Thank you. You've mentioned a few points. On the operations and maintenance side, we're engaged in some compliance work and additional system integrity tasks. The schedule might change between September and October depending on when the work takes place. We're also keeping an eye on our bad debt expenses during this crucial collection period, although these expenses have decreased compared to last year. Generally, during the fourth quarter of our fiscal year, we ramp up collection efforts, so we're monitoring that as well. Regarding interest expenses, we have a floating rate note as part of the interim Winter Storm financing, and prices have increased somewhat over the last fiscal year, which is slightly raising our interest costs. This could rise again once rates reset later in the fourth fiscal quarter. These are some factors we are watching concerning the guidance range. At this time, our results for the fiscal quarter and year-to-date are in line with our expectations, and we reaffirm the guidance we provided today.

Kody Clark, Analyst

Understood. Okay. And as we look toward FY '23, curious if you can opine on how you see inflation cascading through your O&M budget and capital plan. What sort of trends are you expecting into next year? And any mitigating measures that you're thinking about?

Kevin Akers, President and Chief Executive Officer

Yes, I'll begin, and then Chris can add on. As we've mentioned previously, many of our contracts have been recently updated with our contractors and vendors. We feel confident about our large projects, both in med tech and APT, as our bids have been coming in well. As Chris noted, we're actively working on our integrity management and compliance projects, which we believe are all in good shape. Regarding procurement, we aim to maintain a sufficient inventory to stay ahead of compliance and pipeline replacement work, typically aiming for about six months' worth of inventory and potentially increasing that to nine months. We have all the materials needed to complete our 2022 projects and are currently working on acquiring materials for 2023, with plans extending into 2024. As you can see, we are seizing opportunities whenever possible to ensure we have the best pricing and can continue progressing efficiently.

Christopher Forsythe, Senior Vice President and Chief Financial Officer

Yes. And Kevin, I'll add to that. I mean you're spot on with just the keeping up annually with the increases on the O&M front. But I'll also comment on the treasury side as well. I mean our team has done an excellent job trying to get ahead of rising interest rates, with the exception of the interim Winter Storm financing, which we will take out once the securitization funds are received; that we have no floating rate debt. We have executed nearly $2 billion in forward-starting interest rate swaps on future planned debt issuances beyond fiscal 2022 at very attractive rates, and we've done that here over the last year or so. We're really well positioned. When you look at our overall weighted average cost of debt today, it's at 3.8%, which is very beneficial for our customers. Finally, we don't have any significant near-term refinancing needs. Our most current one that's out there right now is about $500 million due in 2027. So from a balance sheet and financing perspective, we've also taken advantage over the last year or so, and we're trying to lock in some of the lower rates for the benefit of the customers, which also helps mitigate the impact on the customer bill.

Kevin Akers, President and Chief Executive Officer

Yes. Kody, just to finish that off. And again, some of the same things, tools that we had in our toolkit, if you will, as we were entering and coming through the pandemic are still there for us. We haven't started back a lot of travel. We're going to the most sense of urgency meetings, those sort of things, still taking advantage of teams. Everything that we had in our toolkit during the pandemic, we continue to have today, as well as I'll just again mention our ability to move projects forward and back because we are not a just-in-time compliance company. We try and run ahead of that. So that gives us some flexibility as well.

Operator, Operator

The next question is from Insoo Kim of Goldman Sachs.

Insoo Kim, Analyst

First question, Kevin, you were talking about the industrial customers and the additions this quarter and for the year. First, can you just give a little bit more color on the mix of the types of industrial customers? And from a pace perspective of these additions? Is this a little bit faster than what you had baked in? Just trying to get a sense of which industries are seeing the most growth and what type of potential capital opportunities may exist in the future for you guys?

Kevin Akers, President and Chief Executive Officer

Yes, sure. Just before we get into that, again, our service territory is extremely blessed. We have exceptional leadership at the city and state level; great chambers of commerce; great economic development partners in each of our states. We have a well-diversified industrial footprint out there. For example, in a couple of our divisions, we've seen the addition of hydroponic greenhouse facilities, which are large consumers of natural gas. We've seen the location of the distilling industry both in new facilities and the expansion of distilling facilities. We've seen an EV battery manufacturing plant located on our facilities. We've seen concrete and asphalt facilities, expansions of colleges and universities, as well as some metals, aluminum, steel, smaller plants, and then expansions of some existing ones as well. So as you can see there, it's a variety of everything across the board, which is good for a local economy. And the thing that comes along with these expansions or new additions, as you know, is the jobs, the amount of jobs that this supports and brings into the community, which means rooftops and commercial load as well.

Insoo Kim, Analyst

Got it. That's definitely good color. Second one: The Inflation Reduction Act, obviously, for the electric industry, has a lot of initial thoughts there. Just for you, as it relates to that bill, I'm just curious about your overall thoughts on what potential opportunities or challenges could exist. For example, I'm thinking of the RNG side; obviously, you're not in the upstream side of things, but how does that take place? How has that changed your thinking there? And then just from a tax perspective, does that impact your pipeline business at all?

Kevin Akers, President and Chief Executive Officer

Okay, yes. There's a lot packed into that question. So let me first start with, we're still reviewing and going through all of the details laid out in the bill. As you know, the bill has still got a long way to go through the legislative process and could be altered one way or the other as it makes its way through. But we're going to stay very close to the process and stay close to the details to see what potential upside exists for us out there. However, I will say it is good to see Senator Manchin's comments that this bill is not arbitrarily shutting off abundant fossil fuels; I think that's his quote. Then, in a recent article I saw from last year, Senator Manchin indicated that natural gas must be included in any clean energy program. For me, it's good to see and hear that because it's going to take all forms of energy, right? A diversified energy portfolio, as we've been saying for a long time, including natural gas, our nearly 3 million miles of pipeline infrastructure, and our underground storage fields, which we have about 120 Bcf here at Atmos Energy. All that's going to be required to meet the growing demand going forward. It's good to see that realization and conversation at that level. A one-size energy solution, I don't think provides the security, viability, and affordability that this country needs to meet the growing energy demand that's out there. We look forward to continuing to see how the bill evolves. We think we are a good operator and a prudent operator. As you've seen through our pipeline replacement projects, we tightened up our system. We've got a good environmental strategy out there. I think we can operate under this legislation, but we're going to continue to monitor and see what the details reveal as this thing moves forward.

Operator, Operator

There are no additional questions at this time. I'd like to turn the call back to Dan Meziere for closing remarks.

Daniel Meziere, Vice President of Investor Relations and Treasurer

We appreciate your interest in Atmos Energy, and thank you again for joining us. A recording of this call is available for replay on our website through September 30. Have a great day.

Operator, Operator

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.