NATIONAL FUEL GAS CO annual report, FY2019

National Fuel Gas Company — FY2019 Form 10-K

Business context and reporting period. The filing covers the fiscal year ended September 30, 2019—not a calendar-year fourth quarter. National Fuel is an integrated natural gas producer, gatherer, pipeline and storage operator, utility, and energy marketer, with operations centered in western New York and Pennsylvania and oil production primarily in California. It reports four segments: Exploration and Production, Pipeline and Storage, Gathering, and Utility. Energy marketing was moved to All Other for reporting purposes.

Financial results and key metrics

Amounts below are in millions except per-share data; percentages are approximate.

• Fourth quarter: Operating revenue was $293.3 million, operating income $83.9 million, net income $47.3 million, and diluted EPS $0.54. The comparable quarter reported net income of $38.0 million and diluted EPS of $0.44.
• Cash generation and investment: Operating cash flow increased, but cash capital expenditures exceeded it by approximately $94.5 million. Cash, cash equivalents and restricted cash were $27.3 million at year-end, down from $233.0 million.
• Debt and liquidity: Long-term debt, net of discounts and issuance costs, was $2.134 billion; principal was $2.149 billion, with no long-term maturities due within 12 months. Commercial paper outstanding was $55.2 million. The company had a $750 million revolving credit facility, no borrowings under it, and a facility debt-to-capitalization ratio of 0.51 against a 0.65 limit. Current assets were $362.6 million and current liabilities $421.9 million.
• Shareholder returns: Dividends declared were $1.72 per share, versus $1.68 in FY2018; dividends paid totaled $147.4 million.
• Segment earnings: Exploration and Production $111.8 million (down $68.8 million); Pipeline and Storage $74.0 million (down $23.2 million); Gathering $58.4 million (down $25.1 million); Utility $60.9 million (up $9.7 million). All Other and Corporate together recorded a loss of approximately $0.8 million.

Material changes versus FY2018

• Revenue rose mainly with higher Appalachian gas production and gathering volumes, and increased utility retail sales. Total gas production increased to 197.9 Bcf from 162.9 Bcf; average daily production rose to 580 MMcfe from 488 MMcfe.
• Net income declined despite higher revenue. The prior year included substantial one-time benefits from the 2017 Tax Reform Act, including a $103.5 million deferred-tax remeasurement benefit. Segment earnings comparisons were also affected by prior-year tax benefits.
• Pipeline and Storage revenue fell $12.0 million, principally due to contract terminations and lower demand charges, partly offset by higher storage revenue and Empire’s rate increase. Transportation volume declined 47.4 Bcf.
• Gathering revenue increased $19.2 million on a 36.4 Bcf increase in volume, but segment earnings fell, chiefly because FY2018 had a $34.5 million tax-remeasurement benefit and FY2019 had higher operating and depreciation expense.
• Utility earnings improved, supported by higher customer usage, system-modernization tracker revenue, and lower interest expense; regulatory refunds and other revenue adjustments partly offset gains.
• Proved reserves increased 23% to 3,099 Bcfe, led by Appalachian gas additions and revisions. Proved oil reserves declined to 24.9 million barrels from 27.7 million, including downward revisions associated mainly with lower performance at the Midway Sunset field.
• Capital spending rose substantially, especially in Exploration and Production. Reported total expenditures for long-lived assets, including noncash items, were $781.2 million versus $600.6 million.

Outlook, management commentary, risks and unusual items

• Management planned to move Seneca from a three-rig to a two-rig Appalachian program in FY2020 due to low commodity prices, while still anticipating higher natural gas production. Estimated FY2020 capital expenditures were $775 million; estimates for FY2021 and FY2022 were $795 million and $650 million.
• Line N to Monaca entered service November 1, 2019; management expected its incremental revenue to largely offset an estimated $4.7 million FY2020 transportation revenue impact from an Empire contract termination.
• Empire North, a fully subscribed project estimated at $145 million, was under construction with a projected FY2020 fourth-quarter in-service date. The FM100 project was estimated at $280 million, with a late-2021 target and regulatory approval pending. Northern Access, estimated preliminarily at $500 million, faced continuing permit litigation and was not expected in service before FY2022.
• Supply Corporation’s FERC rate case proposed higher rates, with interim rates scheduled to take effect February 1, 2020 subject to refund. Final approved rates and potential refunds remained uncertain.
• New York’s 2019 Climate Leadership and Community Protection Act sets ambitious emissions and renewable-energy targets. Management said it was shifting new pipeline expansion investment away from New York amid regulatory uncertainty. Long-term effects on the company’s utility customers, assets, and project approvals are unclear.
• Key risks include oil and gas price volatility, reserve-estimation uncertainty and potential full-cost ceiling impairments, project delays or permit denials, regulatory rate outcomes, environmental and climate regulation, credit-market access, counterparty performance, operational hazards, and cybersecurity. At year-end the ceiling test exceeded oil and gas property book value by $381.2 million; management’s disclosed price sensitivities did not produce an impairment.
• Environmental cleanup costs for former manufactured-gas-plant sites were estimated at $7.0 million, with expected rate recovery over approximately three years. The filing also describes a disputed Pennsylvania drilling-related penalty that management said was not material.
• The audited financial statements received an unqualified opinion, and the auditor found internal control over financial reporting effective. Proved oil and gas reserves were identified as a critical audit matter because of the judgment involved in reserve estimates.

Most important facts for investors to verify

• Whether FY2020 production growth and the reduced drilling program can be achieved at prevailing commodity prices, and how hedge coverage affects realized prices and cash flows.
• Final FERC outcomes, refund exposure, and revenue effects from Supply Corporation’s rate case and the Empire contract termination.
• Permitting, litigation, cost, and timing developments for Northern Access, FM100, and Empire North, including whether planned projects secure expected shipper commitments.
• Whether the high planned capital program can be funded without materially increasing debt, and whether liquidity and credit metrics remain within covenant limits.
• Reserve revisions, development costs, and commodity prices that could affect the ceiling-test cushion and the substantial proved-undeveloped reserve program.
• How New York climate legislation and other environmental rules affect the utility customer base, pipeline investment plans, and required compliance spending.