Business context and reporting period
National Fuel Gas Company filed this unaudited Form 10-Q for its fiscal third quarter and nine months ended June 30, 2018. It operates across exploration and production, pipeline and storage, gathering, utility, and energy marketing, primarily in western New York and Pennsylvania, with oil production also in California.
Financial performance and position
| Metric | Three months ended June 30, 2018 | Nine months ended June 30, 2018 |
|---|---|---|
| Revenue | $342.9 million, down 1.6% | $1,303.5 million, up 0.8% |
| Operating income | $107.8 million, down 12.6% | $406.5 million, down 12.7% |
| Net income | $63.0 million, up 5.5% | $353.5 million, up 48.6% |
| Diluted EPS | $0.73, versus $0.69 | $4.09, versus $2.77 |
| Operating cash flow | Not presented separately | $517.5 million, versus $551.1 million |
| Capital expenditures | Not presented separately | $404.0 million cash outflow |
Operating margin was approximately 31.4% for the quarter and 31.2% for the nine-month period. Cash flow from operations less cash capital expenditures was approximately $113.5 million for the nine months, compared with $236.4 million in the prior year.
At June 30, 2018, cash and temporary cash investments were $313.3 million, down from $555.5 million at September 30, 2017. Long-term debt, including current maturities, was $2.086 billion, versus $2.384 billion; $250 million of 8.75% notes was due in May 2019. The company had no short-term debt outstanding and no borrowings under its $750 million revolving credit facility. Its facility debt-to-capitalization ratio was 0.52 against a 0.65 limit. Quarterly and nine-month dividends declared were $0.425 and $1.255 per share, respectively.
Material changes versus prior comparable periods
- Nine-month net income increased $115.6 million, substantially reflecting a $107.0 million reduction in income tax expense from remeasurement of deferred taxes under the 2017 Tax Reform Act, as well as lower tax rates. The nine-month effective tax rate was negative 7.2%, versus 37.9% in 2017.
- Quarterly net income rose despite lower revenue and operating income. Higher Pipeline and Storage and Gathering earnings and a smaller Energy Marketing loss more than offset declines in Exploration and Production and Utility.
- Exploration and Production nine-month earnings increased $62.1 million, primarily due to tax reform, while lower hedged gas prices and production weighed on results. Pipeline and Storage earnings rose $27.3 million and Gathering earnings rose $37.4 million, with tax reform a major contributor to both.
- Operating cash flow decreased $33.6 million, primarily reflecting lower cash receipts from oil and gas production. Cash capital expenditures rose to $404.0 million from $314.8 million.
- The company redeemed $300 million of 6.50% notes in October 2017 for $307 million plus accrued interest, using proceeds from a $300 million 3.95% note issuance in September 2017.
Outlook, commentary, risks and unusual items
- Management expects to fund remaining fiscal 2018 capital needs primarily with cash on hand and operating cash flow, but may issue short- or long-term debt. Spending and liquidity depend in part on oil and gas prices and production.
- Empire expects an existing transportation contract termination in December 2018 to reduce Pipeline and Storage revenue by up to approximately $14 million in fiscal 2019; management does not expect to renew it at existing rates.
- Growth projects include Empire North, with estimated cost of approximately $145 million and projected service in the second half of fiscal 2020; the FM 100 project, preliminarily estimated at approximately $280 million; and a Shell facility connection estimated at approximately $20.2 million, with service proposed as early as June 1, 2019.
- Northern Access 2016 remains dependent on legal and regulatory proceedings after New York denied permits. Approximately $75.6 million had been incurred by June 30, 2018; no impairment was recorded, but an unfavorable outcome could impair a significant portion of project costs. No target in-service date had been determined.
- Tax reform is affecting customer rates and refunds. Pennsylvania temporary rates include 2.2% customer refunds beginning July 1, 2018; the company’s New York tax-savings petition remained pending. Final tax accounting estimates remained subject to further regulatory and tax guidance.
- The oil and gas full-cost ceiling exceeded book value by approximately $462.3 million. Under specified lower-price sensitivities, the cushion ranged from $272.9 million to $430.2 million; commodity prices, reserves, and costs could change impairment risk.
- Other exposures include environmental remediation costs estimated at $7.7 million, expected to be recovered through rates over about four years, and ordinary-course litigation and regulatory matters for which possible losses could not be estimated. Climate regulation, commodity prices, hedging, weather, credit access, and project permitting are identified risks.
Important facts for investors to verify
- How much of the nine-month earnings increase is recurring versus the $107.0 million deferred-tax remeasurement and other tax-reform benefits.
- Progress and ultimate cost recovery for Northern Access 2016, including the outcome of New York permit litigation and any impairment indicators.
- Empire’s rate-case outcome, the fiscal 2019 impact of the expiring transportation contract, and the status and financing of planned pipeline projects.
- Ability to refinance or repay the $250 million notes due May 2019 and maintain liquidity as capital spending continues.
- Future gas and oil prices, production trends, hedge settlements, and the remaining ceiling-test cushion.
- Final customer refund and rate treatment of tax reform in New York, Pennsylvania, and under FERC jurisdiction.