NATIONAL FUEL GAS CO quarterly report, Q3 FY2016

National Fuel Gas Company — Q3 FY2016 Form 10-Q

Business context and period: This unaudited quarterly report covers the three and nine months ended June 30, 2016, the third quarter of the fiscal year ending September 30, 2016. National Fuel operates natural gas production, gathering, pipeline and storage, utility distribution, and energy marketing businesses, with oil production primarily in California. The business is seasonal and exposed to commodity prices and weather.

Financial performance

Metric	Three months ended June 30, 2016	Nine months ended June 30, 2016
Operating revenue	$335.6 million, versus $339.8 million	$1,159.9 million, versus $1,459.9 million
Operating income (loss)	$45.2 million, versus a loss of $489.2 million	Loss of $497.8 million, versus a loss of $284.3 million
Net income (loss) available to common stock	$8.3 million, versus a loss of $293.1 million	Loss of $328.5 million, versus a loss of $191.7 million
Basic earnings (loss) per share	$0.10, versus $(3.47)	$(3.87), versus $(2.27)
Net cash from operating activities	Not presented as a quarterly figure	$460.0 million, versus $712.6 million

Revenue and income figures are in U.S. dollars. The filing does not provide a clear consolidated margin percentage. Results include non-cash oil and gas property impairment charges of $82.7 million pretax ($47.9 million after tax) for the quarter and $915.6 million pretax ($531.0 million after tax) year to date. The comparable 2015 charges were $588.7 million and $709.1 million, respectively.

Segment results and significant drivers

Exploration and Production: Quarterly loss was $19.2 million, compared with $323.1 million; nine-month loss was $469.6 million, compared with $350.0 million. Lower impairment charges drove the quarterly improvement, while higher year-to-date impairments and lower realized commodity prices contributed to the larger nine-month loss. Nine-month gas production was slightly higher year over year, but oil production declined.
Pipeline and Storage: Earnings were $17.3 million for the quarter and $59.8 million year to date. Expansion projects supported higher transportation revenue; operating, depreciation, and interest costs partly offset the benefit.
Gathering: Quarterly earnings rose to $9.5 million from $6.2 million, helped by higher volumes following system connections. Nine-month earnings declined to $22.0 million from $24.3 million as higher costs offset revenue growth.
Utility: Earnings were $2.2 million for the quarter and $52.7 million year to date, down from $5.7 million and $66.6 million. Warmer winter weather reduced year-to-date earnings, partly mitigated in New York by weather normalization.
Energy Marketing: The segment recorded a quarterly loss of $0.6 million and nine-month earnings of $4.1 million, both down year over year, reflecting weaker margins and lower gas prices and, year to date, lower customer volumes.

Cash flow, balance sheet, and liquidity

Year-to-date operating cash flow was $460.0 million, down $252.6 million year over year, primarily due to lower cash receipts in Exploration and Production and Utility.
Cash capital expenditures were $481.8 million; net cash used in investing activities was $377.7 million. Investing cash flows included $115.2 million in proceeds from Seneca’s joint development arrangement with IOG. The arrangement also had a $22.1 million receivable recorded at June 30.
Cash and temporary investments were $105.6 million at June 30, versus $113.6 million at September 30, 2015. Total assets were $5.54 billion, down from $6.56 billion; shareholders’ equity was $1.53 billion, down from $2.03 billion.
Long-term debt, net, was $2.09 billion; no long-term debt matured within the following 12 months. The company had no short-term debt outstanding at June 30. Its credit arrangements included a $750 million revolving facility through December 2019 and a $500 million 364-day facility through September 29, 2016. The credit-facility debt-to-capitalization ratio was 0.58 against a 0.65 limit.
Management expected indenture restrictions to prevent incremental long-term unsecured debt issuance until the second half of fiscal 2017, due to oil and gas impairments. It expected to rely on operating cash, available cash and, if needed, short-term borrowings for near-term funding; management considered liquidity adequate.

Outlook, risks, and unusual items

Management expected another significant full-cost ceiling-test impairment in the quarter ending September 30, 2016. At June 30, illustrative after-tax additional impairment sensitivities were $113.1 million for a $0.25/MMBtu lower gas price, $39.0 million for a $5/barrel lower oil price, and $151.5 million for both changes. These are scenario estimates, not guidance.
Fiscal 2016 capital expenditure estimates were approximately $130 million for Exploration and Production, net of the IOG reimbursement; $135 million for Pipeline and Storage; and $60 million for Gathering. Management said lower development activity led to reduced spending expectations in these businesses. The Northern Access 2016 pipeline project had an estimated cost of $455 million and a target in-service date of November 1, 2017; required regulatory approvals remain relevant.
Seneca reduced its Marcellus program to one drilling rig from three at the start of fiscal 2016. Under the extended IOG agreement, IOG may fund approximately $325 million for an 80% working interest in up to 75 wells, with an option to participate in seven additional wells.
Distribution Corporation requested a New York annual revenue increase of approximately $41.7 million; the outcome was uncertain, with proposed rates potentially effective around April 1, 2017. A proposed Empire rate settlement was estimated to reduce annual revenues by $3–4 million, subject to FERC approval.
Environmental cleanup liabilities were estimated at approximately $4.0 million, expected to be recovered through rates over about 11 years. The company also disclosed ordinary-course litigation and regulatory matters for which possible losses could not be estimated. Commodity prices, ceiling-test accounting, financing access, project execution and permitting, weather, regulation, and environmental requirements are important risks.
No explicit consolidated earnings guidance was provided. The filing states that interim results should not be taken as a prediction for the full fiscal year.

Important facts for investors to verify

Whether the anticipated fourth-quarter impairment occurs, and its effect on reported earnings, equity, and debt-covenant capacity.
Realized oil and gas prices, hedge settlements, production levels, and their effects on cash generation and future impairment calculations.
Availability and terms of short-term liquidity, the expiration of the $500 million facility, and the duration and implications of the long-term debt issuance restriction.
Progress, funding, permitting, and costs for Northern Access 2016 and other expansion projects, as well as receipt of IOG funding amounts.
Outcomes of the New York utility rate case and FERC review of the Empire settlement.