ONE Gas, Inc. annual report, FY2016

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ONE Gas, Inc. — 2016 Form 10-K

Reporting period: Fiscal year ended December 31, 2016; filed February 23, 2017. ONE Gas is a fully regulated natural gas distributor serving approximately 2.15 million customers in Oklahoma, Kansas and Texas. The filing reports one operating segment.

Financial performance

  • Revenue: $1.427 billion, down 7.8% from $1.548 billion in 2015. Natural gas costs passed through to customers declined to $541.8 million from $706.0 million, largely reducing reported revenue; the company earns no profit on the gas commodity itself.
  • Net margin: $885.4 million, up 5.2% from $841.7 million. Net margin excluding other revenue increased 5.6% to $856.4 million.
  • Operating income: $269.1 million, up 12.5%. Net income: $140.1 million, up 17.7%; diluted EPS was $2.65, compared with $2.24.
  • Margins: Net income was approximately 9.8% of revenue, versus 7.7% in 2015. Revenue includes pass-through gas costs, so this ratio is affected by commodity prices and is not a direct measure of distribution profitability.
  • Cash flow and investment: Operating cash flow was $281.6 million, down $112.6 million. Capital expenditures were $309.1 million, up from $294.3 million; operating cash flow therefore fell short of capital spending by about $27.5 million. Cash at year-end was $14.7 million.
  • Debt and liquidity: Long-term debt, including current maturities, was approximately $1.192 billion. Commercial paper outstanding was $145 million; the company reported $553.5 million of remaining availability under its $700 million revolving facility and a 41% debt-to-capital ratio. It reported compliance with covenants. Moody’s rating was A2/Stable and S&P’s was A-/Positive.
  • Dividends and capital returns: Dividends declared rose to $1.40 per share from $1.20. The company repurchased approximately $24.1 million of stock in 2016. In January 2017, it declared a $0.42 quarterly dividend, or $1.68 annualized.

Fourth-quarter results

Unaudited fourth-quarter revenue was $440.8 million, operating income $78.5 million, net income $42.3 million and diluted EPS $0.80. Compared with fourth-quarter 2015, revenue increased from $389.1 million, operating income from $73.9 million, net income from $39.2 million and diluted EPS from $0.74.

Changes and management commentary

  • Net margin improved mainly due to new rates, particularly in Oklahoma and Texas, and customer growth. These gains were partly offset by warmer weather, lower weather-sensitive transportation volumes and lower CNG revenue.
  • Natural gas volumes sold declined to 141.0 Bcf from 154.0 Bcf; total delivered volumes fell to 349.1 Bcf from 358.8 Bcf. Management attributed the decline primarily to warmer temperatures. Weather-normalization mechanisms mitigated, but did not eliminate, the margin impact.
  • Approximately 74% of 2016 natural-gas-sales net margin came from fixed monthly charges. Management considers this, the residential customer base and regulatory mechanisms supportive of relatively stable cash flows.
  • Approved rate outcomes included an approximately $30.0 million Oklahoma revenue increase effective in 2016; a Kansas settlement for a $15.5 million total increase, including the existing surcharge, effective January 2017; and Texas rate increases and consolidations during 2016.

Outlook, risks and unusual items

  • Management estimated 2017 capital expenditures at approximately $350 million. No specific 2017 earnings or EPS guidance is provided in the supplied filing text.
  • Key exposures include regulatory decisions and recovery lag, pipeline integrity and safety requirements, weather, competition from electricity and other energy sources, access to capital, and operational or cyber incidents. Proposed PHMSA pipeline rules could require significant spending; the final impact was not yet determined.
  • For one of 12 former manufactured-gas sites in Kansas, the company estimated investigation and remediation costs of $4 million to $7 million and recorded a $4 million reserve in the fourth quarter. Further work and regulatory review could change the estimate.
  • At year-end, pension and other postemployment benefit obligations exceeded plan assets by approximately $226.9 million and $77.5 million, respectively. The company stated that regulators have historically allowed recovery of these costs through rates.
  • Management said ordinary-course litigation losses were not expected to be material. The independent auditor issued an unqualified opinion and reported effective internal control over financial reporting.

Important facts for investors to verify

  • Whether future rate orders and infrastructure riders allow timely recovery of capital spending and operating costs, including any new pipeline-safety requirements.
  • Whether operating cash flow can support the planned capital program and dividend, given that 2016 capital spending exceeded operating cash flow.
  • How the Kansas environmental remediation estimate develops after additional testing and KDHE review.
  • Changes in pension and postemployment funding needs, regulatory recovery, and the company’s debt and commercial-paper balances.
  • The effect of weather, customer usage, customer growth and energy competition on net margin; reported revenue alone is affected substantially by pass-through gas costs.