RGC Resources, Inc. — Form 10-Q Summary
Business Context and Reporting Period
RGC Resources is an energy services company primarily engaged in the regulated sale and distribution of natural gas through Roanoke Gas Company, serving approximately 60,900 customers in and around Roanoke, Virginia. It also provides limited non-utility services and owns a 1% interest in the Mountain Valley Pipeline, LLC through RGC Midstream.
This filing covers the fiscal third quarter and nine months ended June 30, 2019, compared with the corresponding periods ended June 30, 2018. The business is highly seasonal, with generally greater earnings during the winter heating months; quarterly results are therefore not indicative of the full fiscal year.
Key Financial Metrics
| Metric | Three Months Ended June 30 | Nine Months Ended June 30 |
|---|---|---|
| Operating revenues | $11.7 million, down 2% | $58.2 million, up 5% |
| Operating income | $1.6 million, down 11% | $11.1 million, up 3% |
| Net income | $1.1 million, up 5% | $8.2 million, up 25% |
| Diluted EPS | $0.14, unchanged | $1.02, up from $0.87 |
| Operating margin | Approximately 14.0% | Approximately 19.1% |
| Net margin | Approximately 9.7% | Approximately 14.2% |
| Dividends declared per share | $0.165, up from $0.155 | $0.495, up from $0.465 |
Utility gas margin increased 11% to $7.4 million in the quarter and 9% to $28.8 million for the nine months. The improvement primarily reflected higher non-gas base rates, despite lower volumes and reduced SAVE Plan revenue.
Equity in earnings of unconsolidated affiliates increased to $0.8 million in the quarter and $2.0 million for the nine months, largely reflecting construction-related allowance for funds used during construction from the Mountain Valley Pipeline investment.
Cash Flow, Debt and Liquidity
- Cash and cash equivalents were $1.2 million at June 30, 2019, compared with $0.2 million at September 30, 2018.
- Operating cash flow was $16.6 million for the nine months, up from $13.9 million. The increase was primarily driven by higher net income, lower gas storage balances and higher gas-cost over-collections.
- Investing cash flow was negative $33.3 million, including $16.6 million of utility and nonutility capital expenditures and $16.7 million invested in unconsolidated affiliates.
- Financing cash flow was positive $17.7 million, supported by new debt issuance and borrowings, partly offset by debt repayments and $3.9 million of dividends paid.
- Notes payable totaled $90.8 million at June 30, 2019, compared with $63.2 million at September 30, 2018. The company had no outstanding balance under its line of credit at quarter-end.
- Long-term capitalization was 51.7% debt and 48.3% equity. Debt agreements include covenants limiting consolidated long-term indebtedness to 65% of total capitalization.
- The company entered into two Midstream notes totaling $24.0 million in June 2019, with interest-rate swaps fixing the effective rates at 3.24% and 3.14%. A further $10.0 million Roanoke Gas note is scheduled to close in December 2019 at a fixed rate of 3.60%.
Material Changes Versus the Prior Comparable Period
- Quarterly revenue declined modestly because lower non-utility revenue and lower delivered volumes offset the effect of higher utility rates. Nine-month revenue increased primarily due to higher non-gas rates and higher gas costs.
- Quarterly delivered volumes declined 14%, and heating degree days declined 42%. Nine-month delivered volumes declined 1% and heating degree days declined 4%.
- Gas utility margin improved despite a $1.1 million quarterly and $2.2 million nine-month decline in SAVE Plan revenue, because prior SAVE investments were incorporated into the new base rates effective January 1, 2019.
- Operations and maintenance expense increased 22% in the quarter and 12% for the nine months, reflecting higher compensation, regulatory-asset amortization, insurance, maintenance and bad debt expense.
- Interest expense increased 59% in the quarter and 44% for the nine months, primarily due to higher average debt balances and higher variable interest rates.
- Income tax expense decreased, with the effective tax rate falling to 23.2% for the quarter and 23.3% for the nine months, compared with 29.1% and 31.2%, respectively, in the prior-year periods.
- The company adopted the revenue recognition standard ASC 606 and the financial-instruments standard ASU 2016-01 without a material effect. Adoption of ASU 2017-07 reclassified certain retirement benefit costs from operations to other income or expense.
Guidance, Outlook, Risks and Unusual Items
- Management expects fiscal 2019 capital expenditures to be near the prior year's $23.3 million level.
- The Mountain Valley Pipeline's projected in-service date was delayed to mid-2020, and estimated project costs increased from $4.6 billion to $4.8-$5.0 billion. RGC's estimated total cash contribution is expected to approach $50 million. Delays, legal challenges, permitting restrictions and cost increases could reduce returns.
- RGC has recorded $44.2 million of investment in unconsolidated affiliates and had $7.1 million of capital contributions payable at June 30, 2019. The company expects to fund the investment primarily through debt.
- Roanoke Gas placed new non-gas base rates into effect January 1, 2019, subject to refund. The Virginia State Corporation Commission staff recommended adjustments, including changes to rate design and potential exclusion of approximately $400,000 of eligible safety activity cost regulatory assets. A hearing was scheduled for August 14, 2019, with a final order expected in late fiscal 2019 or early fiscal 2020. The ultimate refund and any regulatory-asset write-down remain uncertain.
- Approximately $11.1 million of regulatory liability related to excess deferred income taxes is expected to be refunded to customers over approximately 28 years. Excess revenues associated with the Tax Cuts and Jobs Act tax-rate reduction are being refunded over approximately 12 months.
- The company filed a new SAVE Plan seeking approximately $1.2 million of annual revenue beginning in October 2019, compared with approximately $0.5 million under the existing rider. Approval was pending at the filing date.
- The business remains exposed to weather, natural gas prices, customer demand, interest rates, pipeline reliability, regulatory decisions, construction delays and cybersecurity incidents. A hypothetical 100-basis-point increase in applicable variable rates would have increased nine-month interest expense by approximately $271,000.
- Management stated that there were no material changes to previously disclosed risk factors, no legal proceedings requiring disclosure and no material subsequent events not otherwise disclosed.
Most Important Facts for Investors to Verify
- Final Virginia SCC resolution of the rate case, including the approved rate increase, customer refund and treatment of ESAC regulatory assets.
- Timing, final cost, permitting status and financing requirements of the Mountain Valley Pipeline and Southgate projects.
- Whether projected MVP contributions approaching $50 million can be funded without materially increasing leverage or diluting shareholders.
- Actual fiscal-year earnings, given the company's pronounced winter seasonality and the limited representativeness of the first nine months.
- Availability and covenant compliance under the Roanoke Gas line of credit and Midstream credit facilities.
- Approval and revenue impact of the new SAVE Plan and the proposed depreciation-rate changes.