TGS

Business Context and Reporting Period

Company: Transportadora de Gas del Sur S.A. (TGS)
Filing Type: Form 6-K (Report of Foreign Issuer)
Reporting Period: Six months ended June 30, 2018
Business Overview: TGS is a leading natural gas transporter in Argentina, operating a pipeline system connecting major gas fields to distributors and industries. Its operations are divided into Natural Gas Transportation, Liquids Production and Commercialization, Other Services, and Telecommunications. The company operates under a 35-year license with a potential 10-year extension.

Key Financial Metrics

Revenue and Profit:

• Total Comprehensive Income: Ps. 2,834.9 million (H1 2018) vs. Ps. 1,300.4 million (H1 2017), an increase of Ps. 1,534.5 million.
• Operating Income: Ps. 5,724.9 million (H1 2018) vs. Ps. 2,257.0 million (H1 2017), an increase of Ps. 3,467.9 million.
• Net Revenues: Increased significantly driven by tariff adjustments and exchange rate effects.

• Natural Gas Transportation: Revenues increased by Ps. 3,576.2 million (46.8% of total net revenues). Driven by full application of tariff increases (Resolutions 120, 4362, and 310).
• Liquids Production and Commercialization: Revenues reached Ps. 5,588.2 million, a 76.0% increase (Ps. 2,413.4 million) vs. H1 2017. Driven by higher international reference prices, exchange rate appreciation, and increased ethane volumes.
• Other Services: Revenues increased by Ps. 279.2 million.

• Cost of Sales & Admin/Selling Expenses: Increased by Ps. 2,239.2 million (68.9%) due to higher natural gas costs (RTP), labor costs, and turnover taxes.
• Other Operating Results: Negative variation of Ps. 561.7 million, primarily due to a Ps. 553.4 million payment related to an ICC arbitration ruling.
• Net Financial Results: Negative variation of Ps. 1,435.2 million, mainly due to foreign exchange losses (Ps. 1,776.1 million) from the depreciation of the Argentine peso.
• Income Tax: Reported a loss of Ps. 1,202.8 million (vs. Ps. 704.3 million loss in H1 2017), partially offset by a tax rate reduction from 35% to 30%.

• Net Cash Flow from Operations: Increased by Ps. 758.5 million due to improved operating income.
• Net Cash Flow from Investing: Negative variation of Ps. 3,376.6 million, driven by increased financial assets and capital expenditures for the Five-Year Investment Plan.
• Net Cash Flow from Financing: Increased by Ps. 5,322.0 million, primarily from proceeds of US$ 495.5 million in "2018 Notes" (Class 2 Notes).
• Debt Management: Proceeds from 2018 Notes were used to repurchase and redeem Class 1 Notes (2014 Notes) totaling US$ 207.3 million.
• Dividends: A cash dividend of Ps. 912.0 million was declared on July 6, 2018, and paid on July 17, 2018.

Material Changes vs. Prior Period

• Tariff Increases: Full application of tariff increases granted by Resolutions 120/2017, 4362/2017, and 310/2018 significantly boosted Natural Gas Transportation revenues.
• Exchange Rate Impact: The Argentine peso depreciated 54.7% against the US dollar by June 30, 2018 (Ps. 28.85/USD), compared to a 4.7% appreciation in the same period of 2017. This drove revenue growth in dollar-denominated segments but caused significant financial losses on net debt.
• Arbitration Payment: A one-time payment of Ps. 553.4 million (approx. US$ 21.3 million) was made in May 2018 following an adverse ICC ruling against Pan American Energy.
• Regulatory Milestone: The conclusion of the Integral Tariff Review (RTI) process via Decree 250/2018 finalized the license renegotiation after 17 years, requiring the withdrawal of government claims (including ICSID).

Guidance, Outlook, and Risks

Outlook and Strategy:

• Five-Year Investment Plan: TGS is committed to executing a Five-Year Investment Plan to ensure pipeline capacity meets Argentina's energy development needs.
• Vaca Muerta Expansion: TGS signed agreements to invest US$ 250 million in a gathering pipeline and treatment plant in the Vaca Muerta formation (North Tranche) and US$ 41 million for a South Tranche extension. Execution is scheduled for late 2018 and 2019.
• Liquids Strategy: Focus on optimizing production mix to prioritize higher-margin products and managing access to Replacement of Thermal Plant Reduction (RTP) gas at reasonable costs.
• Financial Strategy: Plans to access financing to fund the investment plan while maintaining an optimal capital structure.

• Hyperinflation: Management concluded that Argentina is a hyperinflationary economy effective July 1, 2018, under IAS 29. Financial statements for H1 2018 were not restated, but future reporting will require adjustments.
• Foreign Exchange Risk: The company has a net liability position in US dollars. A 10% appreciation of the USD could result in a pre-tax loss of Ps. 569,961 thousand.
• Legal Claims: TGS obtained a precautionary measure extension regarding ENARGAS resolutions until September 2018. The company believes it has valid arguments to defend its position.
• Regulatory Compliance: Dividend payments are now unrestricted following the completion of the RTI and compliance with the 2016 Investment Plan.

Investor Verification Checklist

• Hyperinflation Accounting: Verify the impact of IAS 29 restatement on future financial statements and comparative periods starting July 1, 2018.
• Debt Structure: Confirm the terms and covenants of the new US$ 500 million "2018 Notes" issued in May 2018 and the status of remaining debt.
• Arbitration Resolution: Ensure the Ps. 553.4 million payment to Pan American Energy is fully accounted for and assess any remaining legal exposure.
• Vaca Muerta Investment: Monitor the execution timeline and capital expenditure requirements for the North and South Tranche projects (US$ 291 million total).
• Exchange Rate Sensitivity: Evaluate the company's hedging strategies and the potential impact of further peso depreciation on financial results.
• Dividend Policy: Review the sustainability of the Ps. 912.0 million dividend payment in the context of the new investment plan and cash flow projections.