ONE Gas, Inc. — Q1 2016 Form 10-Q
Business context and period. The filing covers the unaudited three months ended March 31, 2016, compared with the same period in 2015. ONE Gas is a regulated natural-gas distributor serving more than 2 million customers in Oklahoma, Kansas and Texas. Results are seasonal and the first quarter is not necessarily indicative of full-year performance. Dollar amounts below are in millions unless stated otherwise.
Financial performance and position
| Metric | Q1 2016 | Q1 2015 / prior date | Change |
|---|---|---|---|
| Revenue | $508.4 | $676.5 | Down 25% |
| Cost of natural gas | $235.7 | $413.6 | Down 43% |
| Net margin | $272.6 | $263.0 | Up 4% |
| Operating income | $116.1 | $109.0 | Up 7% |
| Net income | $64.7 | $60.4 | Up 7% |
| Diluted EPS | $1.22 | $1.13 | Up 8% |
| Operating cash flow | $180.0 | $241.1 | Down $61.1 |
| Capital expenditures | $75.3 | $54.9 | Up 37% |
Revenue declined mainly because natural-gas sales and related gas costs were lower; net margin, a more informative measure of utility performance than gross revenue, increased. Net margin excluding other revenues was $265.5 million, up 4%. Fixed natural-gas sales margin rose 10% to $141.9 million, while variable margin was essentially flat at $93.8 million. The filing does not present a separate percentage margin measure.
Net income benefited from higher net margin and lower operating costs, partly offset by increased depreciation and amortization. Operating costs fell $0.6 million; depreciation and amortization increased $3.1 million. Average customers increased by 10,000 to 2.165 million, while total volumes delivered declined 9% to 126,337 MMcf. Actual heating degree days were below normal in all three states, and weather-normalization mechanisms mitigated much of the residential and commercial margin impact.
Balance sheet and liquidity at March 31, 2016: Cash was $52.7 million, versus $2.4 million at year-end 2015. Current assets were $417.6 million and current liabilities were $228.6 million. Long-term debt, net of issuance costs, was $1,191.9 million; short-term borrowings were zero. The company reported a 39% debt-to-capital ratio and compliance with its credit covenants. Its $700 million revolving credit agreement had $699.0 million available, net of $1.0 million in letters of credit. Credit ratings were Moody’s A2 and S&P A-, both with stable outlooks.
Cash from operations declined despite higher earnings, principally reflecting year-over-year changes in gas-storage values and purchased-gas-cost recoveries. Investing cash use rose with higher capital spending. Financing included $24.1 million of share repurchases and $18.4 million of dividends paid. The declared dividend was $0.35 per share, or $1.40 annualized.
Material changes and management commentary
- Net margin rose $9.6 million, primarily from $13.8 million of new rates in Oklahoma and Texas and $1.0 million from residential customer growth. Offsets included warmer weather and lower transportation volumes.
- Capital expenditures increased due mainly to pipeline integrity work and service extensions. Management expected 2016 capital expenditures to be comparable to 2015.
- The Oklahoma rate-case settlement approved in January increased annual revenue by approximately $30.0 million, set an authorized 9.5% return on equity and established an approximately $1.2 billion rate base. Certain separation-related IT costs are being recovered over four years.
- Kansas Gas Service filed in May 2016 for a net base-rate increase of $28.0 million; with existing surcharge recovery, the requested total increase is $35.4 million. Approval is pending.
- Texas Gas Service had pending rate proceedings, including a $12.8 million request for the El Paso-area jurisdictions and a planned Central Texas filing. A separate Texas settlement for a $2.3 million increase became effective May 4, 2016.
- No specific earnings or EPS guidance was provided in the filing.
Risks, contingencies and unusual items
- Pipeline safety requirements may expand: PHMSA published a proposed rule in April 2016, and the company was evaluating potential capital and operating costs.
- The company is responsible for environmental conditions at 12 former manufactured-gas sites in Kansas. Source removal or remediation plans had been completed or addressed at 11 sites; regulatory closure had been achieved at three. Management did not expect these matters to have a material financial effect.
- Routine litigation and claims were not expected to have a material adverse effect. Environmental compliance, changing regulation, weather, rate recovery, operating reliability, natural-gas supply and financing access are among the disclosed risks.
- Natural-gas commodity exposure is substantially addressed through purchased-gas adjustment mechanisms; derivative settlements and premiums are recoverable through those mechanisms. No purchased-gas call options remained at March 31, 2016.
- The company repurchased 407,215 shares for approximately $24.1 million during the quarter. Management described its capital approach as balancing investment with shareholder returns.
Important facts for investors to verify
- Track whether pending Oklahoma, Kansas and Texas rate requests are approved, and their timing and final authorized returns.
- Confirm actual 2016 capital spending against management’s expectation that it would be comparable to 2015, and assess the resulting funding needs.
- Monitor why operating cash flow fell despite higher net income, including gas-storage and regulatory recovery timing.
- Assess the cost and schedule implications of proposed pipeline-safety rules and ongoing integrity investments.
- Review dividend sustainability, share repurchases and credit metrics alongside the company’s debt maturities and available revolving-credit capacity.
- Consider the seasonal nature of first-quarter results and the unusually warm weather compared with normal heating-degree days.