TGS

Business Context and Reporting Period

Company: Transportadora de Gas del Sur S.A. (TGS)
Filing Type: Form 6-K (Annual Report)
Reporting Period: Year ended December 31, 2014
Business Overview: TGS is a major provider of natural gas transportation services in Argentina and engages in the production and commercialization of natural gas liquids (LPG, natural gasoline, ethane). The company operates a regulated pipeline system and a non-regulated liquids processing complex (Cerri Complex). The 2014 fiscal year was marked by significant regulatory challenges regarding tariff adjustments in the transportation segment and volatile international commodity prices in the liquids segment.

Key Financial Metrics

All figures in millions of Argentine Pesos (Ps.) unless otherwise noted.

Segment Performance:

• Natural Gas Transportation: Revenues of Ps. 744.1 million (up Ps. 83.1 million). However, the segment recorded an operating loss of Ps. 42.4 million, the first annual operating loss in the segment's history, due to rising costs and insufficient tariff adjustments.
• Liquids Production & Commercialization: Revenues of Ps. 3,243.3 million (up Ps. 1,178.0 million). Operating income was Ps. 816.9 million. Performance was driven by favorable exchange rates and volume increases, partially offset by a sharp drop in international LPG and natural gasoline prices.
• Other Services: Revenues of Ps. 316.6 million (up Ps. 178.0 million). Operating income was Ps. 158.1 million.

Material Changes vs. Prior Period

• Operating Deficit in Transportation: Despite a 20% tariff increase approved in 2014 (Resolution 2852/14), the Natural Gas Transportation segment moved from an operating profit of Ps. 29.5 million in 2013 to a loss of Ps. 42.4 million in 2014. This was caused by sustained cost increases that outpaced the tariff adjustment.
• Revenue Growth: Total consolidated revenues increased by approximately 50% year-over-year, primarily due to the Liquids segment's revenue growth driven by the devaluation of the Argentine Peso against the US Dollar and higher volumes.
• Financial Expenses: Net financial expenses increased by Ps. 233.0 million compared to 2013. This was driven by foreign exchange losses (Ps. 90.9 million) and negative results from derivative financial instruments (Ps. 141.5 million) used to hedge currency risk.
• Debt Restructuring: In February 2014, TGS executed a voluntary exchange of 67% of its 2007 notes for new 2014 notes, extending the average maturity of its financial indebtedness from 1.75 years to 3.25 years.

Guidance, Outlook, and Risks

Management Commentary & Outlook:

• Tariff Renegotiation: Management views the 2014 tariff increase as a "first step" but insufficient. The primary focus for 2015 is to pursue legal and administrative actions to implement the 2008 Transitional Agreement (retroactive to 2008) and finalize the Comprehensive Adjustment Agreement to achieve a fair tariff re-composition.
• Liquids Segment Sustainability: The outlook is uncertain due to global oversupply and low prices for propane, butane, and natural gasoline. Management is negotiating with the government regarding export taxes and the "Carafe for Everyone" subsidized program, which currently generates losses. They may be forced to inform the government that continuing the subsidized program is impossible under current conditions.
• Expansion Projects: TGS will continue managing pipeline expansion works under the Gas Trust Fund Program, which will generate additional revenues for operation and maintenance services.

Risks and Contingencies:

• Regulatory Risk: Continued delay in tariff adjustments and the potential expiration of the Public Emergency Law in 2015 without a comprehensive agreement.
• Commodity Price Risk: Exposure to international price fluctuations for LPG and natural gasoline, which dropped to 6-year lows in Q4 2014.
• Foreign Exchange Risk: Significant exposure to the US Dollar/Argentine Peso exchange rate, as 90% of financial debt is USD-denominated while transportation revenues are in Pesos.
• Legal Claims: Ongoing litigation regarding tax exemptions (Turnover Tax) and the implementation of tariff increases. Provisions for legal claims totaled Ps. 150.2 million as of year-end.

Key Facts for Investor Verification

• Tariff Implementation Status: Verify the current status of the 2008 Transitional Agreement and the Comprehensive Adjustment Agreement negotiations with the Argentine government.
• Liquids Margin Sustainability: Assess the viability of the Liquids segment given the drop in international prices and the impact of the "Carafe for Everyone" subsidy program on margins.
• Debt Maturity Profile: Confirm the impact of the 2014 debt exchange on future cash flow requirements and interest coverage ratios.
• Legal Provisions: Review the potential financial impact of the ongoing tax litigation (Turnover Tax) and the outcome of the injunction regarding the natural gas processing tariff charge.
• Dividend Policy: Note that the Board approved a cash dividend of Ps. 260.5 million based on 2013 results, but future dividends depend on the resolution of tariff issues and debt covenants.