Earnings Call Transcript - OGS Q1 2022

Operator, Operator

Good day, and welcome to the ONE Gas First Quarter Earnings Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Brandon Lohse. Please go ahead, sir.

Brandon Lohse, Investor Relations

Good morning, and thank you for joining us on our first quarter 2022 earnings conference call. This call is being webcast live, and a replay will be made available later today. After our prepared remarks, we will be happy to take your questions. A reminder that statements made during this call that might include ONE Gas expectations or predictions should be considered forward-looking statements and are covered by the safe harbor provisions of the Private Securities Litigation Act of 1995, the Securities Act of 1933 and the Securities and Exchange Act of 1934, each as amended. Actual results could differ materially from those projected in any forward-looking statements. And for a discussion of factors that could cause actual results to differ, please refer to our SEC filings. Joining us on the call this morning are Sid McAnnally, President and Chief Executive Officer; Caron Lawhorn, Senior Vice President and Chief Financial Officer; and Curtis Dinan, Senior Vice President and Chief Operating Officer. Now, I'll turn the call over to Sid.

Sid McAnnally, CEO

Thanks, Brandon, and good morning, everyone. There are many issues calling for attention in today's dynamic environment. At ONE Gas, we are focused on positioning the company to address the emerging business environment while continuing to execute our strategic plan. A review of the current landscape suggests that we're on the right path, as our team maintains focus on safe and reliable delivery of natural gas to our customers, building additional capacity to respond to the significant organic growth in our service territory, and making progress toward our renewable natural gas goals. I'll turn it over to Caron and then Curtis to discuss the details that lead us to these conclusions. Caron?

Caron Lawhorn, CFO

Thanks, Sid, and good morning, everyone. Net income for the first quarter was $98.9 million or $1.83 per diluted share compared with $95.6 million or $1.79 per diluted share in the same period 2021. Our first quarter 2022 results were impacted by $3.6 million of expenses related to a decrease in the unrealized mark-to-market value of assets and liabilities associated with our nonqualified employee benefit plans. These noncash items, which are not included in our guidance, impacted EPS by $0.05 for the first quarter of 2022. By comparison, in the first quarter of 2021, we recognized income of $100,000. Turning our attention to the operational performance of the business, our first quarter results include an increase in operating income of $10.5 million or 8% over the same period last year. Operating income reflects an increase of $15.1 million from new rates, primarily due to regulatory filings completed in the second half of last year, including the Oklahoma Natural rate case and interim filings in Kansas and Texas. In addition, natural gas sales from residential customers increased $2.6 million due to the growth in our customer base that we continue to experience, primarily in Oklahoma and Texas. Our operations and maintenance expenses increased $4.2 million over the first quarter 2021 due to increases in outside services of $3.7 million and employee-related costs of $2.2 million. Partially offsetting those increases is a decrease in our bad debt expense of $2.4 million. The profile of our customer receivables has improved since year-end, with fewer of our receivables in a past due status. Further, we continue to see an increase in energy assistance payments from social service agencies on behalf of our customers. In the first quarter, we received $3.5 million more in energy assistance payments than this time last year. We appreciate the efforts of our customer service team and their work on behalf of our customers. That said, we are very mindful of the impact of higher natural gas prices on our customers' bills. We will keep a close eye on our receivables and continue to work with our customers who need payment arrangements or other assistance. Depreciation expense was $4.8 million higher than the prior year, reflecting an increase in net property, plant and equipment as a result of our higher level of capital investment. Our capital expenditures and asset removal costs for the first quarter were $123 million compared to $109 million in 2021. The increase is consistent with our expectation that capital investment will be $650 million for the full year, an increase of about 20% over the $544 million we invested in 2021. Authorized rate base was approximately $4.16 billion as of March 31, and we estimate our average rate base for 2022 will be approximately $4.32 billion. Securitization continues to progress in all three states, as Curtis will describe momentarily. We anticipate that we will receive the proceeds and use the proceeds to call a portion of the notes related to Winter Storm Uri, $1.4 billion of which is due in March 2023. Looking at our liquidity, we ended the quarter with $494 million of capacity in our commercial paper program and no borrowings under our credit facility. With the issuance of $35 million of equity under our at-the-market equity program during the quarter, we have issued the amount of equity we had contemplated in our guidance for 2022. Yesterday, the ONE Gas Board of Directors declared a dividend of $0.62 per share, unchanged. Our 2022 financial guidance, including a net income range of $215 million to $227 million, earnings per diluted share of $3.96 to $4.20, and capital investments of $650 million. As Curtis will discuss, our outlook for growth of our customer base and rate base remains strong in 2022 and beyond. Curtis, I'll turn it over to you.

Curtis Dinan, COO

Thank you, Caron, and good morning, everyone. I will begin with a brief update on our commercial activities. In the coming years, part of our growth capital will be dedicated to expanding into new areas to support various developments. As we undertake significant projects, we are enhancing our system capacity for both current opportunities and future expansions. Our new customer connections are robust today, and these expansion projects will continue to offer additional growth opportunities for years ahead. I want to highlight two major projects. In the Oklahoma City Metro area, we completed the first phase of a two-year $26 million expansion project, which will support the development of over 10,000 planned building lots in the next 5 to 7 years. This project addresses the immediate needs of residential and commercial customers while positioning us for the next wave of population growth in the region. In Austin, one of the fastest-growing housing markets in the U.S., we have several major expansion projects in progress. About five years ago, we completed a mainline extension to an area of Austin that seemed fairly remote at the time. This year, we started construction on a 23-mile multi-phased mainline extension, investing an additional $50 million to $55 million to reach several other developments that are expected to yield approximately 20,000 residential and commercial lots over the next 5 to 7 years. Similar to the Oklahoma project, these initiatives position us for further opportunities over the next decade. These two projects exemplify the repeat business we are securing with our builder and developer partners. They also illustrate how we utilize market data and internal information to align system upgrades with market needs. Our expansion strategy is centered on long-term projects that enhance our system resilience and position our service areas for future growth opportunities. Now, on renewable natural gas, which is crucial to our efforts to reduce emissions. We are well-positioned in a region with over 175 Bcf of annual RNG production potential, and we are optimistic about the increasing interest from RNG developers in our markets. We have completed 10 projects in the preliminary interconnect design stage, and developers are assessing these projects. We anticipate gas supply options from numerous projects across our footprint to support our RNG tariff in Oklahoma that we will file later this year. Regarding securitization, the Oklahoma Development Finance Authority had a hearing before the Oklahoma Supreme Court on April 13 for validation of the bond issuance as required by law. If the court rules in favor, the ODFA will issue the securitized bonds related to the Oklahoma Natural Gas financing order. Pending a ruling, the financing order requests the ODFA to issue bonds and provide the net proceeds to Oklahoma Natural Gas this year. On March 31, Kansas Gas Service submitted its application for a financing order to the Kansas Corporation Commission, as outlined in the unanimous settlement agreement requesting the ability to recover Winter Storm Uri costs over several years. If the financing order is approved, ONE Gas will move forward with the bond issuance. In Texas, the Texas Public Finance Authority is managing the securitization process, and the Railroad Commission issued a financing order on February 8, requiring the Finance Authority to issue the securitized bonds by August 7. In terms of regulatory matters, on March 15, Oklahoma Natural Gas filed its required application for a $19.7 million increase in base rates, along with an offsetting EBIT credit of about $9.1 million. The net effect would be a $1 monthly increase for the average residential customer. During the first quarter, Texas Gas Service submitted filings for the gas reliability infrastructure program for all customers in the Central Gulf and West Texas service areas, seeking a $9.1 million and $5 million increase, with new rates anticipated to be implemented in June and July. Last week, we filed a cost of service adjustment for the Rio Grande Valley, seeking a $2.9 million increase, with new rates expected to become effective in August. Finally, I want to provide a brief update on our operations. Industry-wide inflation has impacted material and supply costs, leading to increased lead times for certain items. However, we have managed this impact through a diverse supplier network, building up key materials and supplies, and implementing an advanced purchasing strategy to secure future production slots for essential materials, sometimes up to two years in advance. These practices have helped us maintain inventory of critical parts and prevent disruptions to our planned capital and maintenance work. We will continue to monitor the situation but remain confident in our capital investment forecast and our ability to execute our plans. Now, I will pass it over to Sid for closing remarks.

Sid McAnnally, CEO

Thank you, both. After more than 2 years, our employees who have been working remotely are back in the office with a hybrid schedule. The importance of our culture, with its emphasis on safety and value creation, came into focus as we welcomed employees back and offered our gratitude to teams in the field who work successfully through the pandemic. We also recently received the results of our annual employee engagement survey from Gallup, and we're pleased to learn that our employee engagement scores improved. This improvement at ONE Gas compares to the average national engagement score, which declined for the first time in more than a decade. An increased level of employee engagement is a testament to the work of our leaders and employees in maintaining our company culture and demonstrating our core values through challenging times. We also received notice from the American Gas Association that for the fifth consecutive year, ONE Gas had the lowest rate of significant injuries among our peers. Our company would not be able to achieve our safety, reliability, and growth goals without the dedication of our more than 3,600 employees. I want to thank each of them for their contributions and for working hard every day to serve our 2.3 million customers. Thank you all for joining us this morning. Operator, we're now ready for questions.

Operator, Operator

And we'll take our first question from Julien Dumoulin-Smith with Bank of America.

Kody Clark, Analyst

It's Kody Clark, on for Julien. So first, wondering if you can clarify the commentary around pension not being included in guidance. Specifically, do you mark-to-market on a quarterly basis? What's the split of debt and equity? And what impact are you assuming for the year? I mean, should we be assuming that you're coming in $0.05 below the midpoint given the drag in the first quarter? Or are there some offsets that would put you back at the midpoint?

Caron Lawhorn, CFO

My apologies. I didn't have my microphone on. Let me try that again. The $0.05 impact I spoke of is associated with the mark-to-market of the assets and liabilities associated with our qualified plans. It does not include pension and OPEB. Our pension and OPEB expense is flat compared to last year, but it's actually declining over time because the pension plan has been closed to new entrants for some time, retiree medical has also been closed to new entrants, and our plans are well funded. And of course, interest rates are rising, which improves the discounted impact of that. Does that answer all the questions you had on that?

Kody Clark, Analyst

Yes, the guidance question and just where you stand within that, given the...

Caron Lawhorn, CFO

On mark-to-market. The mark-to-market fluctuates from quarter to quarter. And over time, it's not a material number and is easily absorbed in our range of guidance. So we don't try to estimate a specific income or expense number associated with that when we think about our guidance for the year. As I mentioned, we had $3.6 million of expense this quarter. And last year, it was only $100,000, and it was actually income. So we get these big swings from quarter to quarter, but over time, not a big impact.

Kody Clark, Analyst

Okay. Understood. And then just second, we've seen some very constructive price markers for LDCs of late and given some of the recent strong performance of shares and gas utilities in general, I'm wondering if you all have any updated thoughts on M&A. There seems to still be a disconnect between valuations in the public and private markets despite gas utilities rebating relative to electrics.

Sid McAnnally, CEO

Yes, Kody, we've noted that dislocation in pricing. But our position remains the same. As Curtis lined out, we are very pleased with the inventory of organic opportunities that we have. We think the strategic plan is on target. So we are heads down and all about execution and believe that we've got the right strategy in place for the current environment.

Kody Clark, Analyst

Okay. Thanks, Sid and team. I'll pass it off here and jump back in the queue.

Robert McAnnally, CEO

Thanks, Kody.

Operator, Operator

And we'll now take a question from Gabe Moreen with Mizuho.

Gabe Moreen, Analyst

A couple of housekeeping ones. One is on the equity issuance. I think Caron mentioned that you're done for the year. Can you just speak to whether you issued anything after the first quarter was finished to date?

Caron Lawhorn, CFO

Gabe, we did not.

Gabe Moreen, Analyst

Okay. So for the first quarter, was it around $35 million, Caron? Great. Also, can you discuss the review before the Oklahoma Supreme Court regarding the securitizations? I'm not very familiar with it. Can you explain what the challenge is about and the issues being debated? It seems like it could be a novel situation in Oklahoma. Could you also provide some insight into the timing for when you expect a decision on this?

Curtis Dinan, COO

Gabe, this is Curtis. And the hearing before the Supreme Court was required under the statute. So the process is going just through the normal course as we expected. And if you have seen our other industry peers in the state on both the gas and electric side, we're all going through the same process where the commissions have issued the financing order, that then moves the process to the Supreme Court to review those, at which point when they issue an order, then it would go back to the Oklahoma Development Finance Authority to go through the bond issuance process. We don't have a timeline for when the Supreme Court would issue a ruling. There's nothing contemplated or required in the statute, so that's completely up to the timing of the Supreme Court's action.

Gabe Moreen, Analyst

Looking at the bigger picture, it remains uncertain whether there will be a significant change in gas costs in the medium to long term. For now, I'm curious if this change in gas costs affects your business strategy, capital allocation, or if there are any considerations for increased working capital costs or bad debt within the guidance provided.

Curtis Dinan, COO

So Gabe, I'll take the first part of that. And we're obviously very mindful of the impact that it has on our customers. But in terms of our capital spending program, there's really a couple of things to think about. One, on the growth side, we're responding to what the market demand is. Housing inventories are low, and that market continues to move very quickly. So there's a high demand for our product. The builders and developers that are putting in these new neighborhoods want to be able to offer natural gas service in those neighborhoods. So that's driving a big portion of our capital. And then, as we've talked about several times before, the spending that we do on system integrity, we're agnostic to those other factors. We have to spend the capital on the system that's needed to maintain system integrity and reliability. And just as we have since day one, we continue to stay focused on the spending for those items as well.

Caron Lawhorn, CFO

And Gabe, as it relates to guidance, of course, we issued our guidance in January prior to this recent kind of ramp-up in inflation and increase in interest costs. So no, there's nothing specific in the plan related to that, other than the general inflation that we would normally expect in a year. That said, we have certainly evaluated and continue to evaluate the impact on our plan. And for now, we've affirmed guidance and believe that those impacts are manageable for 2022.

Operator, Operator

We'll now take a follow-up from Julien Dumoulin-Smith with Bank of America.

Kody Clark, Analyst

Kody again. Just one quick follow-up housekeeping item. Just looking at residential volumes down 4% year-over-year, while residential customer growth continued and heating degree days were higher, it looks like a mix in Texas might be a factor here, but wondering if you can give a little bit more color on what's driving this dynamic?

Curtis Dinan, COO

Yes, Kody, this is Curtis again. The situation is mainly tied to Winter Storm Uri and its effects in the first quarter of last year compared to this year's weather patterns, particularly the concentration of cold weather in February. Additionally, it's challenging to make direct comparisons because some of our customers in various regions experienced electric outages. While their volumes might have been higher last year, the lack of electricity affected those numbers. Therefore, it's really an apples to oranges comparison.

Operator, Operator

As there are no further telephone questions, I would like to turn the conference back over to our presenters for any additional or closing remarks.

Brandon Lohse, Investor Relations

Thank you all again for your interest in ONE Gas. Our quiet period for the second quarter starts when we close our books in early July and extends until we release earnings in August. We'll provide details on the conference call at a later date. Have a great day.

Operator, Operator

And once again, that does conclude today's conference. We thank you all for your participation. You may now disconnect.