RGC RESOURCES INC quarterly report, Q1 FY2018

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 61,200 customers in Virginia. The filing covers the three months ended December 31, 2017, the first quarter of fiscal 2018, with comparative results for the three months ended December 31, 2016. Results are highly seasonal and generally stronger during winter months.

Financial Performance and Key Metrics

Metric	Q1 FY2018	Q1 FY2017	Change
Operating revenues	$18.756 million	$18.789 million	Down $0.033 million
Gross margin	$9.073 million	$9.391 million	Down 3%
Operating income	$3.675 million	$3.982 million	Down 8%
Net income	$2.059 million	$2.232 million	Down 8%
Diluted EPS	$0.28	$0.31	Down $0.03
Dividends declared per share	$0.1550	$0.1450	Up $0.0100
Net cash used in operating activities	$1.959 million	$2.113 million	Use decreased $0.154 million
Capital expenditures and other property additions	$4.307 million	$4.439 million	Down $0.132 million

Gross margin was approximately 48.4% of revenue versus 50.0% in the prior-year quarter. Operating margin was approximately 19.6% versus 21.2%, and net margin was approximately 11.0% versus 11.9%.

Regulated gas deliveries increased 12% to 2.954 million decatherms, while heating degree days increased 16%; weather was approximately 1% warmer than normal versus 15% warmer than normal in the prior-year quarter.
Gas utility revenue was essentially flat at $18.520 million. Lower average commodity prices and a $462,442 estimated excess-revenue refund offset higher volumes and increased SAVE Plan revenue.
Operations and maintenance expense decreased 6%, primarily from lower employee benefit and payroll costs. Depreciation and amortization increased 10% to $1.735 million because of higher utility plant investment.
Equity earnings from the Mountain Valley Pipeline investment increased 76% to $148,811.
Interest expense increased 34% to $612,645, reflecting higher average debt and rising rates on variable-rate borrowings.
Cash and cash equivalents were $334,278 at December 31, 2017, compared with $69,640 at September 30, 2017.
Total assets were $196.3 million and stockholders’ equity was $61.3 million at December 31, 2017.

Debt, Liquidity, and Capital Resources

Total debt principal was approximately $70.1 million at December 31, 2017, consisting of $53.1 million of notes payable and $17.1 million outstanding under the line of credit. Net long-term debt after issuance costs was $69.8 million.
The company issued $8.0 million of ten-year unsecured notes at a fixed 3.58% interest rate on October 2, 2017, using the proceeds to refinance part of its line-of-credit balance.
Consolidated capitalization was approximately 53% debt and 47% equity at December 31, 2017.
Financing activities generated $7.763 million, including $9.264 million of notes issuance proceeds and $11.889 million of line-of-credit borrowings, partially offset by $12.626 million of line-of-credit repayments and $1.050 million of dividends paid.
The company expects fiscal 2018 capital expenditures to exceed $20 million. Funding needs include utility infrastructure, seasonal working capital, natural gas inventory, dividends, and the Mountain Valley Pipeline investment.
Management expects to evaluate and potentially pursue a common stock offering later in fiscal 2018 to support capital requirements.

Material Changes Versus the Prior Comparable Period

Net income declined $172,756, primarily due to a $208,288 tax expense adjustment related to revaluation of deferred taxes for unregulated operations following the Tax Cuts and Jobs Act.
Gross margin declined $317,470. The principal adverse items were the $462,442 estimated excess-revenue refund and lower weather-normalization revenue, partly offset by a $195,824 increase in SAVE Plan revenue and higher volumetric margin.
Operating cash use improved by $154,295, although operations remained a use of cash because of seasonal working-capital requirements.
Investment in the unconsolidated affiliate increased to $10.095 million from $7.445 million, reflecting continued funding of Mountain Valley Pipeline.
Long-term debt increased substantially from September 30, 2017, primarily due to the Mountain Valley Pipeline investment and other capital requirements.

Guidance, Outlook, Risks, and Unusual Items

Management does not provide formal earnings guidance and cautions that first-quarter results are not indicative of the full fiscal year because of seasonality and weather sensitivity.
The Tax Cuts and Jobs Act reduced the federal corporate tax rate from 35% to 21%. RGC used a 24.3% blended federal rate for fiscal 2018 and expects an overall effective rate of approximately 25.74% beginning in fiscal 2019, subject to applicable adjustments.
Roanoke Gas recorded an $11.742 million regulatory liability for excess deferred tax benefits expected to be returned to customers and a $462,442 liability for estimated excess revenues billed since October 1, 2017. The timing and method of refunds remain subject to Virginia State Corporation Commission approval.
The tax law eliminated bonus depreciation for utilities. Management expects the resulting increase in taxable income, together with customer refunds, could reduce operating cash flow and increase borrowing needs.
The Mountain Valley Pipeline received federal approval and initial Notices to Proceed in January 2018. The managing partner anticipated an in-service date by the end of calendar 2018, but additional notices and construction progress remain subject to regulatory and project risks. RGC’s expected total investment is approximately $35 million for its 1% interest.
The company’s line-of-credit agreement expires March 31, 2019, but the borrowing limit declines to $17 million on March 1, 2018, resulting in $54,377 classified as current at December 31, 2017. Management is seeking an extension but stated that comparable terms are not guaranteed.
The asset-management agreement for gas supply, storage, and pipeline capacity expires March 31, 2018. The company was evaluating bids for a replacement agreement.
Interest-rate risk remains material because of variable-rate borrowings. A hypothetical 100-basis-point increase in applicable rates would increase annual interest expense by approximately $52,500.
Key operational risks include weather, natural gas prices, customer collections, regulatory decisions, pipeline interruptions, construction and permitting for Mountain Valley Pipeline, and the ability to refinance or extend credit facilities.
Management reported no legal proceedings, no changes to reported risk factors, and effective disclosure controls as of December 31, 2017.

Important Facts for Investors to Verify

Virginia State Corporation Commission approval, timing, and mechanics of the $11.742 million deferred-tax refund and $462,442 excess-revenue refund.
Progress, remaining funding requirements, regulatory approvals, construction schedule, and eventual economics of the Mountain Valley Pipeline.
Whether the line-of-credit is extended or replaced before maturity and on what interest rate, borrowing-limit, and covenant terms.
The expected fiscal 2018 capital expenditure level above $20 million and the timing and dilution implications of any planned equity offering.
Actual weather, delivered volumes, commodity prices, and the effect of seasonal working-capital needs on cash flow in subsequent quarters.