Shareholder Commentary December 31, 2010 UTILITY TRUST

Transcription

1 Shareholder Commentary December 31, 2010 UTILITY TRUST

2 Our cover icon represents the underpinnings of Gabelli. The Teton mountains in Wyoming represent what we believe in in America that creativity, ingenuity, hard work, and a global uniqueness provide enduring values. They also stand out in an increasingly complex, interconnected, and interdependent economic world. Investment Objective: The Gabelli Utility Trust is a nondiversified, closedend management investment company whose primary objectives are longterm growth of capital and income. The Fund will invest in companies that provide products, services, or equipment for the generation or distribution of electricity, gas, and water. Additionally, the Fund will invest in companies in telecommunications services or infrastructure operations. We have separated the portfolio manager s commentary from the financial statements and investment portfolio due to corporate governance regulations stipulated by the SarbanesOxley Act of We have done this to ensure that the content of the portfolio manager s commentary is unrestricted. The financial statements and investment portfolio are mailed separately from the commentary. Both the commentary and the financial statements, including the portfolio of investments, will be available on our website at This report is printed on recycled paper.

3 Investment Outlook We expect utility stocks to provide solid, low risk, total return potential over the next few years. Their relatively safe, high dividends provide support to stock prices, and their stable, predictable earnings should be much less volatile than many other industry groups. The fundamentals of the utility sector are solid and likely to improve further. Balance sheets and credit ratings are generally strong, providing an easy backdrop for raising capital to invest for future returns. In addition, continued rate case activity is expected to drive earnings growth. Economic stimulus plans continue to enhance cash flows of many companies in the utility industry and provide some assurance of rate recognition of higher capital investments. We are particularly encouraged by the administration s emphasis on increased infrastructure investment to modernize the electric grid and on accelerated investment in alternative energy, which will provide more efficient products for customers as well as new base rates on which utility companies will be allowed to earn a return for their investors. Mario J. Gabelli, CFA To Our Shareholders, The major utility indices (Dow Jones Utility Index, Philadelphia Utility Index, and the S&P Utility Index) were basically flat in price performance in 2010 and provided investors with a roughly 45% total return, including annual dividend rates. The lower risk, more regulated utilities performed significantly better, with the distribution and traditional regulated utilities advancing roughly 15% in price and providing an additional nearly 5% dividend return. The solid regulated utility performance was driven by strong earnings growth and constructive regulatory treatment. However, utility stocks with exposure to the non regulated merchant power business underperformed, due primarily to depressed non regulated power plant margins as a result of depressed natural gas prices and an oversupply of power. Comparative Results Average Annual Returns through December 31, 2010 (a) Since Inception Quarter 1 Year 3 Year 5 Year 10 Year (07/09/99) Gabelli Utility Trust NAV Total Return (b) % 18.14% (0.57)% 6.75% 6.60% 7.89% Investment Total Return (c) (21.38) (2.88) S&P 500 Index (2.84) (d) S&P 500 Utilities Index (5.71) Lipper Utility Fund Average (4.35) (a) Returns represent past performance and do not guarantee future results. Investment returns and the principal value of an investment will fluctuate. When shares are sold, they may be worth more or less than their original cost. Current performance may be lower or higher than the performance data presented. Visit for performance information as of the most recent month end. Performance returns for periods of less than one year are not annualized. Investors should carefully consider the investment objectives, risks, charges, and expenses of the Fund before investing. The S&P 500 Index is an unmanaged indicator of stock market performance. The S&P 500 Utilities Index is an unmanaged indicator of electric and gas utility stock performance. The Lipper Utility Fund Average reflects the average performance of openend mutual funds classified in this particular category. Dividends are considered reinvested. You cannot invest directly in an index. (b) Total returns and average annual returns reflect changes in the net asset value ( NAV ) per share, reinvestment of distributions at NAV on the exdividend date, and adjustments for rights offerings and are net of expenses. Since inception return is based on an initial NAV of $7.50. (c) Total returns and average annual returns reflect changes in closing market values on the New York Stock Exchange, reinvestment of distributions, and adjustments for rights offerings. Since inception return is based on an initial offering price of $7.50. (d) From June 30, 1999, the date closest to the Fund s inception for which data is available.

4 In 2011 we expect utility stocks to provide investors with a 910% total return, including a current 45% yield and 45% earnings growth. Our return expectations assume no material change in interest rates. More significant investor concerns, which hampered utility investor enthusiasm in 2009 and 2010, have subsided or not materialized. The U.S. is unlikely to pass aggressive federal climate change legislation over the next eighteen months, the potential for higher taxes on dividend income has been pushed out beyond 2012, numerous uncertain rate cases have been decided constructively, and nearterm external financing needs have been minimized by year end 2010 tax legislation. We expect the year end 2010 Obama/Republican tax compromise to benefit utility stocks over the next several years. The compromise includes: twoyear extension of the 15% maximum qualified dividend tax rate and; 100% tax deduction on capital investments made from September 2010 through year end Without the compromise, dividend payments would have been taxed at ordinary income levels, or as high as 40%. The two year extension provides some optimism that a permanent extension could be reached sometime in late We expect the 100% tax deduction on capital invested in 2011 to be a significant benefit for the near term operating cash flow of most utilities. Given that most utilities have heavy capital expenditure budgets, lower cash tax payments will minimize debt and equity needs as well as improve earnings growth and credit quality. The sector does face some headwinds, including potentially higher interest rates, should a strongly recovering economy lead to a pickup in inflation. While utility stocks are sensitive to changes in interest rates, as are most investments, current valuations provide some cushion for higher rates. Further, unlike fixed income investments, growing dividend and earnings streams work to offset the negative impact of higher discount rates. Investment Performance The Gabelli Utility Trust s (the Fund ) net asset value ( NAV ) total return was 7.7% during the fourth quarter of 2010, compared with total returns of 1.1% and 5.0% for the Standard & Poor s ( S&P ) 500 Utilities Index and the Lipper Utility Fund Average, respectively. The total return for the Fund s publicly traded shares was 4.2% during the fourth quarter. For the one year period ended December 31, 2010, the Fund s NAV total return was 18.1% and the total return for the Fund s publicly traded shares was 21.4%, compared with total returns of 5.5% and 10.2% for the S&P 500 Utilities Index and the Lipper Utility Fund Average, respectively. On December 31, 2010, the Fund s NAV per share was $5.33, while the price of the publicly traded shares closed at $6.39 on the NYSE. Premium / Discount Discussion As a refresher for our shareholders, the price of a closedend fund is determined in the open market by willing buyers and sellers. Shares of the Fund trade on the NYSE and may trade at a premium to (higher than) net asset value (the market value of the Fund s underlying portfolio and other assets less any liabilities) or a discount to (lower than) net asset value. Of the 621 closedend funds that are publicly traded in the U.S. as of December 31, 2010, approximately 25% trade at premiums to NAV compared with 27% five years ago and 20% ten years ago. Ideally, the Fund s market price will generally track the NAV. However, the Fund s premium or discount to NAV may vary over time. Over the Fund s eleven year history, the range fluctuated from a 78% premium in January 2010 to a 3% discount in November Shortly after the inception of the Fund, the market price of the Fund exceeded the NAV and this premium continues today. On December 31, 2010, the market price of the Fund closed at a 19.9% premium to its NAV. The Fund s investment goals are longterm growth of capital and income. We believe that our stock selection process adds to the investment equation. We have a successful history of investment, providing shareholders average annual returns of 6.1% since inception. However, it is important to remember that Mr. Market is a pendulum that swings both ways. As the market moves away from momentum investing and back to basics, we believe that an excessive premium for the Fund is not likely to be sustainable. 2

5 80% 70% 60% December 31, 2010 Net Asset Value $5.33 Market Price $6.39 Premium 19.89% PREMIUM/DISCOUNT SINCE INCEPTION 50% 40% 30% 20% 10% 0% 10% Data points as of each month end /9/99 We continue to believe that the sector s 4.5% current return, or yield, represents an attractive investment consideration, given relatively low interest rates. In 2010, 60% of electric utilities, 100% of water utilities, and 75% of gas utilities raised their annual dividend rate, with a median increase of 1.5% (3.3% median increase for those that increased), 3.0%, and 3.0% (3.7%), respectively. During 2009, over 70% of electric utilities, 90% of gas utilities, and 80% of water utilities increased their annual dividend rates. Current dividends represent a healthy average payout of approximately 60% of forecast 2011 earnings, which provides a comfortable margin for dividend maintenance and growth. As we expect annual earnings growth of 4% to 6% over the next five years, investors can expect dividend growth above recent historical inflation rates. We also note that investors can take some comfort in the sector s lower risk and more stable nature. The utility sector s earnings and dividend track record over the last few years have reinforced its position as one of the more stable sectors of the stock market. The sector experienced nearly 4% earnings growth in 2008 and flat growth in 2009, exemplifying its recession resistant potential. As the economy continues to recover, we expect utility earnings growth to be modestly higher than both the GDP growth rate and retail electric demand growth rate, primarily due to higher rates necessary to recognize heavy investment in rate base. Earnings Growth Consensus 2010 estimates currently call for nearly 9.0% earnings growth in 2010 and a further 5.5% growth in We expect weather normalized earnings growth of roughly 46% annually, driven primarily by 6 8% annual growth in rate base. The positive impact of higher sales, higher prices, and cost control efforts will be partially offset by financing costs associated with a continuation of heavy capital investment programs and depressed wholesale power margins. Utilities currently maintain strong balance sheets, and we expect many utilities to tighten 2011 spending and lower capital raising projections over the next couple of years. Capital expenditure budgets remain high but manageable for the foreseeable future. Recent rate increases and various cost tracker mechanisms provide flexibility to delay future rate case filings, and dilution associated with external financing has diminished, given the 100% capital investment tax deduction. As a result, electric utilities have ample opportunity to invest and earn returns on a growing rate base. The higher level of investment is for environmental control equipment, transmission lines, and renewable generation. The increase in rate case activity in 2009 and 2010 was necessary, not only to offset declines in profits associated with lower, recession driven retail sales, but to recognize the increased investment to address global warming concerns. Higher base rates have been made more politically palatable by depressed fuel prices. Utilities adjust customer bills to pass through the lower fuel costs (primarily natural gas), which mitigates the net impact. 3

6 Regulators continue to award allowed ROEs near the three year average of 10.5% despite low Treasury yields and borrowing costs. In addition, the Federal Energy Regulatory Commission ( FERC ) continues to encourage transmission investment via 12% plus allowed ROEs on forward looking test years. As a result, electric utilities have ample opportunity to invest and earn returns on a growing rate base. While the more non regulated power and gas companies face earnings challenges through 2012, we anticipate a power market recovery in 2013/2014, driven by recovering electric demand and coal plant retirements. As a result, we believe investors will begin to focus on the potential margin recovery over the near term investment horizon. We believe many non regulated merchant power plants offer material longterm value despite a lack of nearterm visibility. Reasonable Valuation Our U.S. electric utility universe of sixty electric utilities and power companies currently trade at reasonably attractive multiples, including 14.0X, 13.2X, and 12.7X 2010, 2011, and 2012 earnings estimates, respectively. Forward P/E multiples have ranged between 10X and 17X forward earnings over the past twenty years. The more regulated utilities trade at higher multiples than higher risk merchant power companies and hybrid utilities (traditional utilities with material non regulated merchant exposure). We believe the higher multiples are warranted, given stronger nearterm growth potential at a significantly lower risk. As interest rates are near twenty years lows and the sector s fundamentals appear strong, we believe the regulated utility sector is reasonably valued. The tenyear and thirtyyear Treasury yields were lower at yearend 2010 than where they began the year and had declined to as low as 2.4% and 3.65%, respectively, in the fourth quarter. Deal Activity As mentioned, the longterm trend toward utility industry consolidation continued in 2010, and included premium takeovers of smaller utilities, mergers of equals, and numerous asset purchases. We have highlighted some of the more significant consolidation activity below: FirstEnergy s February agreement to acquire Allegheny Energy in a stock for stock transaction at a 29% premium received shareholder approval in September 2010 and is likely to close in the spring of Nova Scotiabased Emera completed an acquisition of the small distribution utility, Maine & Maritimes, in an all cash transaction at a 45% premium in December Mirant merged with its power merchant peer RRI Energy to form the nation s second largest independent power company, now called GenOn, in December Germanbased E.ON s April 2010 agreement to sell its U.S. Kentucky utilities at over 9X EBITDA to PPL Corp remains on track for an early 2011 closing. SouthWest Water Company, a small water utility, was acquired by an equity group in an all cash transaction at a 50% premium in September Icahn Enterprises announced a $5 billion agreement to acquire merchant power company Dynegy. The $5.50 per share bid is over 20% higher than private equity Blackstone Group s initial $4.7 billion bid in August of Spanishbased Iberdrola s May 2010 agreement to sell its noncore gas distribution utilities in Connecticut and Massachusetts to UIL Holdings is expected to close in early Calpine closed on the purchase of the Connectiv 4,500 megawatt merchant generation portfolio from Pepco Holdings on July 1, In October 2010, Northeast Utilities and NSTAR agreed to a merger of equals to create the largest energy delivery company in New England. In December 2010, AGL announced an agreement to acquire Nicor in a cash and stock transaction at a 22% premium. 4

7 The pickup in merger activity reinforces the longterm bias of utilities to increase scale. The same forces that resulted in more than one hundred utility takeover announcements over the past two decades remain in place, and new forces have come into play and continue to drive this longterm trend. COMMENTARY We believe that the investor s appetite for dividend and dividend growth with low fundamental risk will continue to rise. Utility stocks fit this description. Across the utilities sector we see many opportunities to buy the stocks of well managed companies with strong earnings growth potential and relatively safe and growing dividends, trading at attractive valuations. Some of the best performers among the major holdings of the Fund during 2010 were Maine & Maritimes, El Paso Electric, Wisconsin Energy, and Northeast Utilities. Maine & Maritimes was purchased at a significant cash premium while the other three regulated utilities benefited from rate awards, which are expected to drive strong earnings growth. Future Green World Policies a Key LongTerm Consideration Global warming remains an important public policy concern, and we believe climate change legislation to lower carbon dioxide emissions and slow down global warming is inevitable. Over half of U.S. electricity is produced from coal fired generation, and nearly three quarters from fossil fuels. Challenges related to the economy have delayed legislation to aggressively reduce carbon dioxide emissions from power plants. However, we continue to believe that a capandtrade system for greenhouse gas emissions ( GHGs ) will eventually be implemented as well as federal and state mandates to increase the percentage of electric output to be derived from renewable energy such as wind farms and solar plants. While the timing of such legislation is unclear, it appears that utilities would be provided with a sufficient transition period to address legislated requirements. Over the long term, we anticipate increased utility investment in renewable generation, specifically wind and solar plants, smart grid technology, and long haul transmission lines. The investments are likely to be received favorably by utility regulators and offer the opportunity for longterm earnings growth. The FERC regulates transmission investment and also promotes it via higher allowed profit levels, including 12.5% plus allowed ROEs. Smart grid technology and advanced meters allow for real time communication between power users and providers, which will ultimately lead to efficiencies, lower utility bills, and higher margins. Advancing efforts and technology improvements offer longer term potential to develop an electric vehicle, which could lead to substantial increases in future electric consumption. Widespread use of an electric vehicle would provide a significant boon to the sector, given that a material portion of higher electric demand would take place in offpeak hours. In other words, power plants that normally sit unused at night would run around the clock and produce returns with minimal new investment. Coal Plants Likely to be Retired Over Next Decade The Environmental Protection Agency ( EPA ) is taking proactive steps to regulate greenhouse gases and further restrict other pollutants, including sulfur and nitrogen oxides (SOx and NOx), and mercury. The EPA s path towards carbon reduction is based on a 2007 Supreme Court ruling that established carbon dioxide as an air pollutant as defined by the Clean Air Act. In mid2010, the EPA released the Clean Air Transport Rule (CATR) to accelerate reductions in SOx and NOx, and reduce interstate trading of emissions. A rule regarding mercury is expected in the spring of We consider it likely that the new Congress will more closely evaluate the economic implications of forthcoming compliance obligations, and political pressure could cause the EPA to moderate its aggressive agenda on coal ash and water regulations, NOx, SOx, and mercury. Nonetheless, utilities and power generators will continue significant efforts to address the inevitable change by retiring less efficient fossil plants and replacing the capacity with gas or renewable generation. While research and development efforts to capture carbon and sequester it underground continue to move forward, the technology has yet 5

8 to be proven economically viable for commercial use. Over the long term, we expect new nuclear generation to be added. Actual construction of the first new nuclear plants in Georgia and South Carolina could begin as early as late 2011, with commercial operation expected in 2016 and We believe that the value of existing nuclear plants, as well as those currently being developed, will only increase as the number of coal fired plants diminishes over time. Growing the Nation s Power Highway Expanding the archaic U.S. electric grid to free up existing bottlenecks in the system, as well as move power from unpopulated wind regions to load centers, represents one of the better investment opportunities for the sector. The FERC, not state public utility commissions, regulates transmission, and it wants more investment in the grid. Transmission investment generally receives higher profit levels, more incentives, and easier recovery than investment in the jurisdictions regulated by state public utility commissions. Utilities have proposed billions of dollars in projects for longer power highways that will enhance future earnings growth potential. Today s Investment Results in Tomorrow s Earnings The utility sector remains in the early stages of another round of investment. Utilities build, own, and operate infrastructure: power plants, transmission lines, gas pipelines, distribution systems, gas storage facilities, and water treatment plants. After a five year lull in capital spending, utilities have increased capital investment to operate in a more environmentally friendly manner and replace aging infrastructure while meeting growing demand. The politicians and general public are supportive, if not at least understanding, of the need for infrastructure investment. Regulated utilities generate income when regulators set rates that allow utilities a reasonable opportunity to earn a return on their investment or rate base. Therefore, there is a direct correlation between accelerating longterm earnings prospects and accelerating capital budgets. Given generally strong balance sheets, utilities are well positioned to meet their investment obligations. The number of rate increase requests picked up significantly over the past couple of years and resulting rate awards as well as future awards will drive earnings growth in the sector. Our Approach For several decades, utility companies have acquired other utilities and utility assets for the sake of gaining economies of scale and efficiency or divested noncore utility assets to focus on core competencies. Despite over ninety completed utility mergers/acquisitions since 1993, the electric and gas utility sector remains fragmented, with over sixty electric utilities and thirty gas utilities. This is fifty more than we need from the standpoint of economic efficiency. The balkanized structure of the industry is inherently inefficient, and competitive forces combined with constant changes in regulatory policy pressure marginal players. The big companies feel the need to be bigger to achieve scale economies or gain a strategic benefit, while the small companies are selling out as the cost of staying in the game rises. It is only because of a complex and lengthy merger review and approval process that the industry remains as fragmented as it currently is. Our investments in regulated companies have primarily, though not exclusively, focused on fundamentally sound, reasonably priced mid cap and small cap utilities that are likely acquisition targets for large utilities seeking increased bulk. We also like the beneficiaries of developing trends. This has led to our ongoing focus on nuclear power utilities and utilities with material wind development pipelines as a way to benefit from the need for more power from carbon free generation. We favor utilities with pending transmission line developments and also focus on natural gas pipelines and storage operators as a way to take advantage of the growing demand for natural gas in the U.S. Let s Talk Stocks The following are stock specifics on selected holdings of our Fund. Favorable earnings prospects do not necessarily translate into higher stock prices, but they do express a positive trend that we believe will develop over time. Individual securities mentioned are not necessarily representative of the entire portfolio. The share prices of the following holdings are stated in U.S. dollars or U.S. dollar equivalent terms as of December 31,

9 American Water Works Co. Inc. (AWK $25.29 NYSE) is the largest investorowned water and wastewater utility company in the United States. In late 2009, German multiutility RWE eliminated its remaining interest in AWK, allowing the company to diligently focus its efforts on improving its regulated returns via an active regulatory program. The company s regulated utilities serve approximately 1,600 communities in 20 states and provided roughly 90% of consolidated 2009 revenues. As the largest and most geographically diverse water utility, AWK s size, scale, technological, and financial resources position it favorably as a private consolidator in the fragmented, municipally dominated water and wastewater industry. El Paso Electric Co. (EE $27.53 NYSE) is a vertically integrated electric utility serving 370,000 customers in and around El Paso, Texas, and Las Cruces, New Mexico. We consider El Paso Electric to be a low risk, traditional utility investment, with solid earnings growth potential due to increased regulatory efforts and favorable dynamics, such as customer growth and increased electric consumption. In May 2010, EE reached a constructive settlement in its important Texas rate case, and is expected to maintain an active regulatory schedule in order to recover on its projected additions to rate base. Great Plains Energy Inc. (GXP $19.39 NYSE) is a midsized traditional regulated utility serving eastern Kansas and western Missouri as Kansas City Power & Light and KCP&L Greater Missouri Operations (GMO). We expect GXP to receive Missouri rate recognition of its recently completed clean coal plant, Iatan 2, in mid2011. Recognition of this highly efficient plant and other investments in environmental equipment are expected to lead to strongly enhanced earnings power. Over the long term, GXP has significant opportunity to invest in wind generation and transmission lines, given its strategic location in the windrich Midwest. Shares of GXP offer an attractive current return and solid near and longterm earnings growth potential. National Fuel Gas Co. (NFG $65.62 NYSE) is a diversified natural gas company. NFG owns a regulated gas utility serving the region around Buffalo, NY, gas pipelines that move gas from the Midwest and Canada down to New York City and to New England, and an oil and gas exploration and production business. We see significant unrecognized value in NFGs ownership of 800,000 acres in the Marcellus shale. Advances in drilling technology have made the enormous gas reserve potential of the shale recoverable and we estimate the Marcellus acreage position could be worth well over $3.2 billion based on recent comparable transactions. In late 2010, the company hired an adviser to pursue joint venture opportunities and we expect a strategic announcement sometime in the first half of The company has increased its dividend for forty consecutive years. NextEra Energy Inc. (NEE $51.99 NYSE), formerly FPL Group, is the holding company for Florida Power & Light (FP&L), the largest electric utility in Florida, and NextEra Energy Resources (NER), a leading wholesale power generator. We consider FP&L to be one of the premier utility franchises in the nation, with favorable longterm demographics and above average rate base growth potential. NextEra Energy Resources owns 18,000 megawatts of generation, including the nation s largest wind portfolio. We regard NextEra Energy as one of the better positioned power companies for growth in the evolving and greening environment. With over 8,000 megawatts of wind generating capacity, 2,600 megawatts of nuclear capacity, and a leading solar pipeline, NEE owns one of the cleaner asset portfolios and a well earned competitive advantage in the North American wind generation market. We expect the addition of 7001,000 megawatts of wind and solar projects per year over the next several years with a significant development pipeline of potential projects. Northeast Utilities (NU $31.88 NYSE), operates New England s largest energy delivery system, serving 2 million customers in Connecticut, New Hampshire, and Massachusetts. We consider NU to be one of the better transmission plays. In late 2010, NU announced a definitive agreement to merge with NSTAR, headquartered in Boston, MA, to create an even stronger New England distribution utility with an enhanced earnings growth profile. We expect the merger to close in the third quarter of Nearterm earnings growth will be driven by recent distribution rate relief and modest merger synergies, while longerterm growth will be driven by significant transmission investment. NU, NST, and HydroQuebec have partnered to build the FERCapproved Northern Pass transmission project, a mile line that would deliver about 1,200 megawatts of nocarbon hydropower from Quebec to New England in In the near term, the company is moving forward on several other transmission projects in Connecticut that 7

10 will relieve bottlenecks and improve reliability in the heavily populated region. NU s business model is somewhat desensitized to the economy, given numerous adjustment clauses and other mechanisms. NSTAR (NST $42.19 NYSE) is primarily an electric transmission and distribution utility serving the Boston and Cape Cod regions of Massachusetts, and it also owns a small gas utility. NST has agreed to merge with Northeast Utilities to create one of the strongest and faster growing utilities in the Northeast. NST shareholders will receive shares of NU when the merger closes, which is expected to be in the third quarter of The company benefits from a relatively strong Boston economy, constructive annual rate adjustments, and transmission projects of various capacities, such as the proposed 1,200 megawatt hydroelectric transmission line the company is jointly pursuing with Northeast Utilities. We believe NST warrants a premium multiple based on its highest in industry credit ratings, strong cash flow position, low risk business model and longterm transmission growth potential. PNM Resources Inc. (PNM $13.02 NYSE) is a public utility holding company headquartered in Albuquerque, New Mexico. Regulated electric utility subsidiaries include Public Service Company of New Mexico and TexasNew Mexico Power Company, and nonregulated subsidiaries include Optim Energy and First Choice Power. PNM is a solid turnaround story, driven by an improved New Mexico regulatory environment and significant focus on improving operations of nonregulated businesses. Historically, PNM has experienced above average customer growth and below average regulatory treatment. However, it appears as though the New Mexico regulatory environment is improving, and the company looks to benefit from legislation recently passed allowing for a forward looking test year. We expect new electric rates to be determined for the company s largest subsidiary, Public Service Company of New Mexico, in mid2011. SCANA Corp. (SCG $40.60 NYSE) is the parent company of regulated utilities South Carolina Electric & Gas (SCE&G) and Public Service Company of North Carolina (PSNC), and a play on the buildout of new nuclear plants. SCE&G, in a joint venture with the stateowned utility Santee Cooper, is set to build two 1,117 megawatt nuclear units to be completed in 2016 and It has a constructive regulatory environment that will allow it to recover ongoing construction financing costs. The Base Load Review Act (BLRA) became law in South Carolina in May of 2007 and established a procedure allowing an investorowned electric utility to recover some of the costs of constructing a new large generating facility prior to the completion of the project, as long as the plant is constructed in accordance with the schedules and projections set forth in the approved application. As a result, SCE&G files updated nuclear construction costs every May, with annual rate increases effective November 1. We regard SCG as a high quality electric and gas utility with above average longterm earnings growth potential. Wisconsin Energy Corp. (WEC $58.86 NYSE) is the holding company for Wisconsin Electric, that state s largest electric utility. WEC shares offer a nearterm outlook of free cash flow and aboveaverage earnings and dividend growth due to its recently completed new baseload clean coal plants associated with its Power the Future program that began nearly a decade ago. The company also has significant opportunities for renewable and environmental rate base growth going forward. Over the next few years, WEC s capital program is projected to decline, and already granted rate recognition of its investments should drive earnings and cash flow growth. Sincerely, January 14, 2011 Mario J. Gabelli, CFA Portfolio Manager and Chief Investment Officer 8

11 Note: The views expressed in this Shareholder Commentary reflect those of the Portfolio Manager only through the end of the period stated in this Shareholder Commentary. The Portfolio Manager s views are subject to change at any time based on market and other conditions. The information in this Portfolio Manager s Shareholder Commentary represents the opinions of the individual Portfolio Manager and is not intended to be a forecast of future events, a guarantee of future results, or investment advice. Views expressed are those of the Portfolio Manager and may differ from those of other portfolio managers or of the Firm as a whole. This Shareholder Commentary does not constitute an offer of any transaction in any securities. Any recommendation contained herein may not be suitable for all investors. Information contained in this Shareholder Commentary has been obtained from sources we believe to be reliable, but cannot be guaranteed. Portfolio Manager Compensation Mr. Gabelli s incentivebased, variable compensation structure and dollar amount have been fully disclosed each year since April of 2000 in the annual proxy statement for GAMCO Investors, Inc. (NYSE:GBL). Mr. Gabelli receives no base salary, no annual bonus, and no stock options. As founder and portfolio manager of The Gabelli Utility Trust, Mr. Gabelli received $662,808 in calendar year For the Fund s first twelve months of operation starting in July 1999, Mr. Gabelli received less than $250,000. Mario J. Gabelli and various entities he is deemed to control owned 591,110 common shares of the Fund for a total value of $3,777,192, as of December 31, Mr. Gabelli may not have one hundred percent pecuniary interest in some of the entities he is deemed to control. This quarter, we have included a research report with our Commentary. The report, which follows, highlights the strong capabilities and indepth analysis that characterizes the work of our research team at Gabelli & Company. We hope that you enjoy reading it. National Fuel Gas Co. NSTAR Westar Energy Inc. ONEOK Inc. Wisconsin Energy Corp. Top Ten Holdings December 31, 2010 Southwest Gas Corp. UniSource Energy Corp. NextEra Energy Inc. El Paso Corp. El Paso Electric The Annual Meeting of The Gabelli Utility Trust s shareholders will be held on Monday, May 16, 2011 at the Greenwich Library in Greenwich, Connecticut. 9

12 One Corporate Center Rye, NY Tel (914) Fax (914) National Fuel Gas (NFG $53.92 NYSE) October 27, 2010 Gabelli & Company, Inc. Marcellus Plus Unrecognized Shale Value Buy Year EPS P/E PMV 2012P $ X $85 Dividend: $1.38 Current Return: 2.6% 2011P Shares O/S: 82 million 2010E Week Range: $55.84 $ A SUMMARY AND OPINION Based in Williamsville, NY, National Fuel Gas Company is a diversified natural gas and pipeline utility with a rapidly growing exploration and production business. NFG operates business segments participating in exploration and production, pipeline and storage, local natural gas distribution, and energy marketing. The gas utility serves 731,000 customers in and around Buffalo, NY and Erie and Sharon, PA. The pipeline operates 3,000 miles of pipe and 34 storage facilities primarily in the state of New York. The E&P segment, or Seneca Resources, operates in California, the Gulf of Mexico and most importantly, Appalachia, commonly referred to as the company s Marcellus acreage. We have initiated coverage of NFG with a Buy rating. We expect NFG to receive growing market recognition of its undervalued and significant natural gas reserve position associated with a roughly 800,000 acre ownership position in the Marcellus Shale, including 740,000 acres in the PA fairway. The Catalyst On September 23, 2010, NFG announced that it had hired an advisor to explore joint venture opportunities in the Marcellus. After its third quarter call, NFG raised its Marcellus reserve potential to 815 Tcfe, from 48 Tcfe. On October 11, the company increased the preliminary reserve estimate to 201 Bcfe, from 21 Bcfe. Based on recent comparables (over $4,000/acre) paid by competitors, NFGs Marcellus acreage position would be valued at over $3.2 billion, or $40 per share. However, we believe potential acquirers would value NFGs position at the higher end of more recent transactions, which have been as high as $14,000 per acre. Management s strategic focus is to develop its shale reserves and 75%85% of its 2010 and 2011 capital expenditure budget ($ million in 2010 and $595$735 million in 2011) is directed toward development. We consider its recent capital allocation program to be prudent and conservative as current drilling plans are based on cash on hand and the ability to access debt markets. While the Marcellus gas reserve potential offers significant share price upside, the mature regulated gas utility, growing pipeline/storage business and, to a lesser degree, legacy E&P business, provide a steady and predictable earnings stream to support the $1.38 annual dividend. Shares yield 2.6% and dividend has been raised for 40 consecutive years, including a $0.04 per share increase, or 3%, to its current rate at yearend Table 1 NFG Earnings By Segment 2007A 2008A 2009A 2010E 2011P 2012P 2013P Utility Pipeline & Storage Seneca Marketing Other 0.01 (0.00) (0.02) (0.02) (0.02) 0.00 (0.09) Consolidated $2.26 $3.17 $2.60 $2.66 $2.85 $3.10 $3.50 Source: Company data and Gabelli & Company, Inc. estimates Please Refer To Important Disclosures At The End Of This Report 10

13 Gabelli & Company, Inc. Appraisal We have initiated coverage of NFG with a BUY rating. Seneca Resources, the E&P business, contributed over 50% of trailing twelvemonths consolidated earnings of $2.64 per share and will likely continue to grow at a stronger rate than the utility and pipeline business. We expect NFG to receive growing market recognition of Seneca s undervalued and significant natural gas reserve position associated with a roughly 800,000 acre ownership position in the Marcellus Shale, including 740,000 acres in the fairway of the Pennsylvania shale. Growing drilling success in the shale by Seneca and other operators has led to significant increase in ownership interest from larger E&P players and NFGs pending evaluation of joint venture opportunities could lead to the acceleration of drilling plans or other shareholder value creating opportunities. NFGs conservative utility and pipeline business support the annual $1.38 annual dividend and a conservative capital structure allows for significant growth opportunity to explore and produce in the Marcellus shale. We value the utility business at roughly $18 per share, the pipeline at $15, the nonmarcellus reserves at $19, timber at $2 and net debt at $12 for $42 per share before including the value of the Marcellus. Our discounted cash flow analysis of NFG s Marcellus acreage, assuming a $5/mcf natural gas price, a 3 Bcfe EUR per well, an average initial production rate of 3.5 million cubic feet per well and $3.5M well costs yields a value of roughly $37 per share. Primary risks to our investment thesis include potential environmental restrictions on drilling in Pennsylvania, further declines in natural gas prices and increased state and/or federal regulation of hydraulic fracturing that could reduce the economic returns on the development of the Marcellus. Figure 1 National Fuel Gas Business Reporting Segments Source: Company documents Earnings Outlook Our 2010, 2011 and 2012 earnings estimates are $2.66, $2.85 and $3.10 per share, respectively. We expect flat to modestly growing utility contributions. The pipeline and storage contribution in 2010 declines modestly, but is expected to grow strongly thereafter as numerous expansion projects contribute in 2011 and beyond. NFGs 2010 (fiscal yearend September) earnings guidance is $ and $ in For the twelvemonths ended June 30, 2010, NFG reported earnings of $2.64 per share and the E&P business generated 52% of results, the utility 28% and the pipeline business 18%. NFG earned $2.60 per share for the FY year Established FY 2011 EPS guidance of $ assumes oil & gas production of 6070 Bcfe, an increase from initial estimates of 5570 Bcfe production guidance includes 3239 Bcfe from Appalachia, of which Bcfe is expected to come from the Marcellus and is an increase from 1720 Bcfe in Our estimates assume realized natural gas prices of $5.50, $5.30 and $5.25 per mmbtu in 2010, 2011 and 2012, respectively. Our estimates by segment are highlighted above. 11

14 12 Gabelli & Company, Inc. For the ninemonths ended June 30, 2010, NFG earned $2.27 per share compared to $2.25 per share for the same period the prior year. Seneca earned $1.03 per share for the first nine months ended June 30 compared to $0.88 for the same period the prior year. Higher results were due to higher natural gas production and higher crude oil prices realized after hedging. The pipeline and storage segment contributed $0.39 per share compared with $0.52 per share for the same period last year. The utility segment contributed $0.75 per share, which was flat with the same period last year. Valuation We value the utility business at $18 per share, the pipeline at $15, the nonmarcellus reserves at $19, timber at $2 and net debt at $12 for $42 per share before including the value of the Marcellus. This methodology uses an EBITDA multiple for each segment (8.75X Utility, 9.5X Pipeline, 15.0X Timber) as well as a value of $2.25 per mmcfe of proved reserves. Assuming natural gas prices of $5/mmbtu or $6/mmbtu, results in Marcellus values of estimates of $37$59/share, which results in a consolidated total of $77 to $99 value per share. Table 2 National Fuel Gas Company Private Market Value Analysis, 2006A2013P Sept. 30 Fiscal Years ($ in millions, except per share data) 2006A 2007A 2008A 2009A 2010E 2011P 2012P 2013P Total Revenue $2,311.7 $2,039.6 $2,400.4 $2,057.9 $2,302.5 $2,456.5 $2,606.1 $2,800.0 Utility EBITDA $151.0 $150.0 $164.6 $167.9 $171.3 $173.6 $177.7 $182.4 Valuation Multiple Segment Value $1,283.8 $1,275.1 $1,398.9 $1,468.7 $1,499.3 $1,519.4 $1,555.1 $1,595.9 Pipeline & Storage EBITDA $132.0 $133.6 $129.2 $130.9 $129.6 $139.7 $153.0 $170.0 Valuation Multiple Segment Value $1,187.9 $1,269.5 $1,227.1 $1,243.1 $1,231.4 $1,327.3 $1,453.3 $1,615.0 Proved Reserves (Bcfe) Wtd avg. $2.25 $2.25 $2.25 $2.25 $2.25 $2.25 $2.25 $2.25 $2.25 Value excluding undeveloped land $519.2 $1,118.3 $1,131.8 $1,189.1 $1,573.8 $1,573.8 $1,573.8 $1,573.8 Undeveloped acreage (1) $0.0 $0.0 $0.0 $3,021.9 $3,324.1 $3,656.5 $4,022.2 $4,424.4 Segment Value $519.2 $1,118.3 $1,131.8 $4,211.0 $4,632.1 $5,095.3 $5,604.9 $6,165.3 Timber EBITDA $17.8 $14.5 $7.7 $12.0 $10.0 $10.0 $10.0 $10.0 Valuation Multiple Segment Value $267.0 $217.5 $114.8 $180.0 $150.0 $150.0 $150.0 $150.0 Total Value $3,257.9 $3,880.4 $3,872.5 $7,102.9 $7,512.8 $8,092.0 $8,763.2 $9,526.2 Less: Net Debt & Preferred 1, , , , ,151.1 Less: Net Options Payments (2) Private Market Value $2,075.8 $2,907.5 $2,796.6 $6,134.7 $6,422.9 $6,669.5 $6,937.8 $7,284.6 Shares outstanding PMV $25 $35 $34 $77 $79 $82 $85 $89 Discount to PMV 118% 54% 59% 30% 31% 34% 37% 40% Year End Book Value $19.61 $19.50 $19.95 $21.17 $22.49 $23.99 $25.78 P/B 275% 277% 270% 255% 240% 225% 209% (1) Assumes $5 /mmbtu natural gas price (2) Payments to buy out options holders at PMV, net of taxes. Source: Company data and Gabelli & Company, Inc. estimates Seneca ResourcesStrong Legacy Operations With Significant Reserve Potential Headquartered in Houston, Texas, NFGs exploration and production company, Seneca Resources, operates in 3 regions: West Coast, Gulf of Mexico, and Appalachia (East). Seneca s preliminary FY 2010 proved reserve estimate was 699 Bcfe, consisting of 40% oil and 60% natural gas. In November of 2006 and as NFGs Marcellus reserve potential was internally recognized, NFG hired Matthew D. Cabell as Seneca President to help formulate its E&P strategy. Prior to joining Seneca, Mr. Cabell served as Executive Vice President and General Manager of Marubeni Oil & Gas (USA) from June 2003 to December 2006 and had over 26 years in the energy industry. Seneca Resources produced 42.5 Bcfe in 2009, including 20.1 Bcfe in California, 8.7 Bcfe in Appalachia and 13.7 Bcfe in the GOM. Production is expected to grow to 50 Bcfe in 2010 and 6070 Bcfe in production guidance includes 3239 Bcfe from Appalachia (2530 from the Marcellus) up from around 1720 Bcfe in Marcellus Shale production is expected to total 7.3 bcfe in FY 2010 and grow to 2530 Bcfe by

15 Gabelli & Company, Inc. FY Seneca Resources West Coast Division assets, which are primarily oil, provide a stable and predictable cash flow that can be redeployed in to areas with higher growth rates, such as the Marcellus Shale. Management also intends to deploy less focus and capital on Gulf Coast development given opportunities in Appalachia. Table 3 Seneca Resources Reserve and Production Statistics Proved Reserves (Bcfe) Production (Bcfe) 2009A 2010E 2007A 2008A 2009A 2010E 2011P Appalchian Upper Devonian Gulf of Mexico West California Marcellus Source: Company documents & Gabelli & Company, Inc. estimates Marcellus Shale Has Potential to Add Significant Value The Marcellus Shale is Devonianaged shale that stretches approximately 20 million acres across portions of Ohio, West Virginia, Pennsylvania and New York. Recent studies estimate that the Marcellus might contain more than 500 TCFe of natural gas, which represents 20% of total estimated US reserves of 2,587 TCFe of technically recoverable natural gas reserves. While long considered unrecoverable, recent advances in horizontal drilling and hydraulic fracturing methods initially applied in the Barnett Shale of Texas have provided the likelihood that roughly 10% of the 500 TCF, or 50 TCF, could be recoverable. Range Resources drilled the first successful well in 2004 in Washington County, Pennsylvania and the first Marcellus gas production began in Figure 2 and 3 Marcellus Shale Formation Source: Geology.com NFG owns roughly 800,000 acres in the Marcellus Shale, including 740,000 acres in the fairway of the Pennsylvania shale. The majority of the acreage is held in fee and carries no royalty or lease expiration. As a result, we believe Seneca s acreage has greater value and its strategic development plans can be more opportunistic and/or flexible. For example, even at a $4.00/mcf natural gas price, NFG believes it can earn 22%43% pretax IRRs on its wells. Initial drilling activity and well results have been encouraging as management has stated for the past few quarters that it was drilling to gather insight as to the potential of its acreage. After the third quarter call, NFG raised its Marcellus reserve potential to 815 Tcfe, from 48 Tcfe, driven by lower risk factor of 52%, from 35%, and increasing the EUR (estimated ultimate recovery) per well to 3 Bcfe from 2.5 Bcfe. Anticipated well costs are $3.5 to $4.5 million per horizontal with 100 acre well spacing. On October 11, the company increased the preliminary reserve estimate to 201 Bcfe, from 21 Bcfe. 13

16 Figure 4 NFG Marcellus Shale PreTax IRR Evaluation Gabelli & Company, Inc. Source: Company Reports Seneca drilled 3 horizontal wells in FY 2009 and expects to drill 29 in 2010 and 6080 in The company s joint venture with EOG Resources completed 11 wells in 2009 and expects 29 in 2010 and 3545 wells in In total, Seneca plans 65 drilled wells in 2010 and in Seneca had the highest average daily natural gas production per well at 4.3 million cubic feet from July 1, 2009 through June 30, 2010, according to data released by the Pennsylvania Department of Environmental Protection. Figure 5 Source: Company Reports, PA DEP Joint Venture Opportunities On September 23, NFG announced that it had hired an advisor to explore joint venture opportunities in the Marcellus. The announcement followed strong initial production rates of 15.8 million and 8.9 million cubic feet per day of gas for two completed wells in Lycoming and Clearfield counties, which management considered demonstrative of the quality of the acreage and Seneca s ability to execute. As a result, they believe they have derisked the acreage to the point where they can consider joint venture opportunities to further accelerate development plans. We believe management is considering opportunities that allow Seneca to continue operating across most of its acreage position, but allows for a minority interest partner to pay a significant portion of early drilling costs. Valuing NFGs Marcellus Position While the resource value is uncertain, the price paid per acre has increased over the past several months as successful wells were drilled. As recently as 2005 there was very little interest in leasing properties for Marcellus Shale gas production. When the potential of the Marcellus was first suspected in 2006 a small number of speculators began leasing land with signing bonuses as high as $100 per acre. By early 2008 several 14

17 15 Gabelli & Company, Inc. wells with strong production rates were drilled, numerous investors began leasing and the signing bonuses rose from a few hundred dollars per acre up to over $6,000 per acre for the most desirable properties. Recent transactions have been as high as $14,000 per acre. If we were to use the midpoint of recent comparable transactions, the acreage would be worth $3.2 billion, or roughly $40 per share. Alternately, our discounted cash flow analysis of NFG s Marcellus acreage, assuming a $5/mcf natural gas price, a 3 Bcfe EUR per well, an average initial production rate of 3.5 million cubic feet per well and $3.5M well costs, also yields a value of $39 per share. Table 4 Marcellus Shale Acreage Transactions Seller Purchaser Date Cash Acreage $/Per Acre Linn Energy XTO Energy 4/1/ ,000 3,947 Dominion Resources Antero Resources 6/30/ ,000 2,693 PA lease sale APC, XOM, Seneca, Hunt Oil, TLM 9/3/ ,023 2,053 Chesapeake Energy Statoil Hydro 11/11/08 3, ,000 5,769 East Resources KKR Private Investment 6/9/ ,000 1,944 Chief Oil & Gas Enerplus 8/19/ ,000 3,500 Rex Energy Williams Cos. 6/22/ ,000 1,664 Private Company Ultra Petroleum 12/21/ ,000 5,000 PA lease sale Seneca, XCO, PVA, CHK & APC 1/13/ ,947 4,019 Anadarko Mitsui 2/16/10 1, ,750 12,308 Private Sellers EQT Resources 3/2/ ,000 4,828 Dominion Resources CONSOL Energy 3/15/10 3,475 1,460,000 2,380 Chesapeake Energy Statoil Hydro 3/25/ ,000 4,288 Atlas Energy Reliance Industries 4/9/10 1, ,000 14,167 Not disclosed Atlas & Reliance 4/21/ ,344 4,532 EXCO Resources BG Group 5/10/ ,000 2,905 PA Lease Anadarko 5/12/ ,000 3,636 Alta Resources Williams Cos. 5/25/ ,000 11,929 Private Penn Virginia 5/28/ ,000 1,950 East Resources Royal Dutch Shell " 4,700 1,050,000 4,476 Trans Energy Republic Energy Ventures 7/20/ ,100 5,294 Carrizo Oil & Gas Reliance Industries 8/5/ ,600 6,262 Rex Energy Sumitomo 8/31/ ,900 9,006 Gastar Atinum Partners 9/22/ ,100 4,094 Mean price $5,110 Median Price $4,191 Source: Company releases and Gabelli & Company, Inc. estimates Regulated Pipeline and Storage Footprint Well Positioned To Expand National Fuel Gas Supply Corporation provides interstate natural gas transportation and storage services through a 3,000 mile pipeline system extending from southwestern Pennsylvania to the New YorkCanadian border at the Niagara River and eastward to Ellisburg and Leidy, Pennsylvania. The company owns 34 underground natural gas storage fields. Empire, an interstate pipeline company, transports natural gas for NFGs distribution utility and for other utilities, large industrial customers and power producers in New York State. The Empire Pipeline is a 157mile pipeline that extends from the United States/Canadian border at the Niagara River near Buffalo, New York to near Syracuse, New York, and the Empire Connector, is a 76mile pipeline extension from near Rochester, New York to an interconnection with the Millennium Pipeline near Corning, New York. The Millennium Pipeline serves the New York City area. At the end of 2008, the Empire Pipeline was expanded through the "Empire Connector project, which created a new route to New York City and the MidAtlantic region for $187 million. Services and rates are regulated by the Federal Energy Regulatory Commission (FERC), which has more recently stressed the need for robust gas pipeline growth. The Pipeline and Storage segment earned $0.59 per share in FY 2009 and $0.64 per share in fiscal We expect the contribution to decline to $0.53 per share in 2010, but expect earnings to grow strongly thereafter as numerous expansion projects contribute in 2011 and beyond. The existing pipeline/storage footprint provides a natural competitive advantage in building pipeline, storage and gathering projects necessary to support the growing Marcellus production and move it to the densely populated area in New Jersey, New York and New England. Roughly 75% of the pipeline corridor s footprint has existing rights of way through the Northeast, and would allow for storage capacity along the way.

18 Gabelli & Company, Inc. Currently, however, a large majority of the leased land is not adjacent to natural gas pipelines, and the current pipeline capacity is a fraction of what is predicted will be required. As result, the construction of several new large pipeline systems will be needed in order to transport natural gas to these major markets. Expansion initiatives underway are as follows: Table 5 Pipeline & Storage / Midstream Expansion Initiatives Capacity Estimated InService Project Name (Dth/D) CapEx Date Status ($ millions) Covington Gathering System 145,000 $16 11/17/2009 Completed Lamont Compressor Station 40, /15/2010 Completed Lamont Phase II Project 50, /1/2011 Line "N" Expansion 160, /1/2011 Tioga County Extension 350, " Trout Run Gathering System 250, Fall 2011 Northern Access Expansion 320, Late 2012 Line "N" Expansion Phase 2 195, /1/2012 W2E Overbeck to Leidy 425, Source: Company documents Mature and LowRisk Gas Utility Provides Steady Earnings Stream National Fuel Gas Distribution is a local gas distribution utility serving 731,000 customers in western New York and northwestern Pennsylvania. Major areas served include Buffalo, Niagara Falls and Jamestown in New York, and Erie and Sharon in Pennsylvania. As of yearend 2009, the New York jurisdictional rate base totaled $730 million and earned a 9.7% ROE for the twelvemonths ended June 30, 2010 while the Pennsylvania rate base totaled $305 million and earned a 14.3% ROE. The utility contributed $0.73 per share in 2009 and 2008 and we project $0.74 per share contribution in 2010 and Given healthy earned returns and reasonable capital expenditure budgets, we do not expect a rate case in either jurisdiction over the nearterm. The last rate case in New York was in 2007 where a rate base of $699 million and an allowed ROE of 9.1%. The New York PSC has multiple rate relief mechanisms, including revenue decoupling, a conservation incentive program, symmetrical sharing, and weather normalization adjustment clauses. These allow the rate base of the distribution company to earn a proper return even as customer usage fluctuates due to various demand factors and makes the utility whole for a modestly declining per capita usage. Moreover, in 2006 the company reached a black box settlement with the Pennsylvania commission for a $14.3 million, or 5.4% increase, for a total rate base of $ million with an allowed ROE of 1011%. Capital Expenditures We consider NFGs more recent capital allocation program to be prudent and conservative and its most drilling plans are based on cash on hand and the ability to access debt markets. 75%85% of its 2010 and 2011 capital expenditure budget ($ million in 2010 and $595$735 million in 2011) is directed toward Marcellus development. Balance Sheet As of June 30, 2010, NFG s common equity ratio was 58% of total capitalization, with an additional $459 million of available cash and ample credit availability. Credit ratings are solid from the major rating agencies, including Standard & Poor s (BBB), Moody s (Baa1) and Fitch (BBB+). 16

19 Gabelli & Company, Inc. Table 6 National Fuel Gas Capital Expenditures By Segment 2007A 2008A 2009A 2010E 2011P Low High Low High Exploration & Production $166.5 $192.2 $188.3 $320.0 $370.0 $425.0 $500.0 Pipeline & Storage Utility All Other Consolidated $276.7 $397.7 $309.9 $430.0 $505.0 $595.0 $735.0 Source: Company presentation Dividend Policy Shares yield 2.6% on the $1.38 annual dividend, which has been raised for 40 consecutive years. The annual dividend is supported by the utility and pipeline business, which are expected to contribute roughly $0.73 and $0.60 per share to 2011 earnings, respectively. National Fuel Gas is one of a handful of companies to increase the dividend yearly for over 100 years. Other Companies Mentioned: Anadarko Petroleum (APC NYSE) Exxon Mobil (XOM NYSE) Atlas Energy (ATLS NASDAQ) Gastar Exploration (GST NYSE) Carrizo Oil & Gas (CRZO NASDAQ) Linn Energy (LINE NASDAQ) Chesapeake Energy (CHK NYSE) Penn Virginia (PVA NYSE) Consol Energy (CNX NYSE) Rex Energy (REXX NASDAQ) Dominion Resources (D NYSE) Royal Dutch Shell (RDS NYSE) EQT Corporation (EQT NYSE) Statoil (STO NYSE) Exco Resources (XCO NYSE) Talisman Energy (TLM NYSE) Williams Companies (WMB NYSE) We, Tim Winter, CFA, Andrea Sharkey, CFA, and Jose Garza, the Research Analysts who prepared this report, hereby certify that the views expressed in this report accurately reflect the analyst s personal views about the subject companies and their securities. The Research Analysts have not been, is not and will not be receiving direct or indirect compensation for expressing the specific recommendation or view in this report. Tim Winter, CFA (314) Gabelli & Company, Inc Andrea Sharkey, CFA (914) Jose Garza (914) Important Disclosures ONE CORPORATE CENTER RYE, NY GABELLI & COMPANY, INC. TEL (914) FAX (914) Gabelli & Company, Inc. ("we" or "us") attempts to provide timely, valueadded insights into companies or industry dynamics for institutional investors. Our research reports generally contain a recommendation of "buy," "hold," "sell" or "nonrated. We do not undertake to "upgrade" or "downgrade" ratings after publishing a report. We currently have reports on 741 companies, of which 44%, 39%, 2% and 15% have a recommendation of buy, hold, sell or nonrated, respectively. The percentage of companies so rated for which we provided investment banking services within the past 12 months is 0%, 0%, 0% and less than 1%. Ratings Analysts ratings are largely (but not always) determined by our private market value, or PMV methodology. Our basic goal is to understand in absolute terms what a rational, strategic buyer would pay for an asset in an open, armslength transaction. At the same time, analysts also look for underlying catalysts that could encourage those private market values to surface. A Buy rated stock is one that in our view is trading at a meaningful discount to our estimated PMV. We could expect a more modest private market value to increase at an accelerated pace, the discount of the public stock price to PMV to narrow through the emergence of a catalyst, or some combination of the two to occur. A Hold is a stock that may be trading at or near our estimated private market value. We may not anticipate a large increase in the PMV, or see some other factors at work. A Sell is a stock that may be trading at or above our estimated PMV. There may be little upside to the value, or limited opportunity to realize the value. Economic or sector risk could also be increasing. We prepared this report as a matter of general information. We do not intend for this report to be a complete description of any security or company and it is not an offer or solicitation to buy or sell any security. All facts and statistics are from sources we believe to be reliable, but we do not guarantee their accuracy. We do not undertake to advise you of changes in our opinion or information. Unless otherwise noted, all stock prices reflect the closing price on the business day immediately prior to the date of this report. We do not use "price targets" predicting future stock performance. We do refer to "private market value" or PMV, which is the price that we believe an informed buyer would pay to acquire 100% of a company. There is no assurance that there are any willing buyers of a company at this price and we do not intend to suggest that any acquisition is likely. Additional information is available on request. As of December 31, 2010, our affiliates beneficially own on behalf of their investment advisory clients or otherwise approximately 7.11% of National Fuel Gas, and less than 1% of Anadarko Petroleum, Chesapeake Energy, Consol Energy, Dominion Resources, Exxon Mobil, Royal Dutch Shell, Talisman Energy and Williams Companies. Because the portfolio managers at our affiliates make individual investment decisions with respect to the client accounts they manage, these accounts may have transactions inconsistent with the recommendations in this report. These portfolio managers may know the substance of our research reports prior to their publication as a result of joint participation in research meetings or otherwise. The analyst who wrote this report may receive commissions from our customers' transactions in the securities mentioned in this report. Our affiliates may receive compensation from the companies referred to in this report for noninvestment banking securitiesrelated services, or may be soliciting these companies as clients for noninvestment banking securitiesrelated services. The analysts who wrote this report, or members of his household, owns no shares of National Fuel Gas Co. 17

20 Monthly Distribution Policy for Common Shareholders The Board of Trustees of the Fund (the Board ) has reaffirmed the continuation of the Fund s monthly distribution policy for January and February Pursuant to its distribution policy, the Fund paid $0.06 per share cash distributions on October 22, 2010, November 22, 2010, and December 17, 2010 to common shareholders of record on October 15, 2010, November 15, 2010, and December 14, 2010, respectively, for a total distribution of $0.18 per share during the fourth quarter of Under the Fund s current distribution policy in 2011, the Fund has declared a distribution of $0.05 per share for January and February ($0.60 per share on an annual basis) and will declare monthly distributions throughout the year with an adjusting distribution in December if necessary which includes any additional income and net realized capital gains in excess of the monthly distributions for that year to satisfy the minimum distribution requirements of the Internal Revenue Code. Each quarter, the Board reviews the amount of any potential distribution and the income, capital gain, or capital available. The Board will continue to monitor the Fund s distribution level, taking into consideration the Fund s net asset value and the financial market environment. The Fund s distribution policy is subject to modification by the Board at any time. If the Fund does not generate sufficient earnings from dividends and interest and net realized capital gains to satisfy the aggregate distributions paid by the Fund in a given year, then the amount distributed in excess of the Fund s investment income and net realized capital gains would be deemed a return of capital. Since this would be considered a return of a portion of a shareholder s original investment, it is generally not taxable and is treated as a reduction in the shareholder s cost basis. Under federal tax regulations, some or all of the return of capital distributed by the Fund may be taxable as ordinary income in certain circumstances. This may occur when the Fund has a capital loss carry forward, net capital gains are realized in a fiscal year and distributions are made in excess of investment company taxable income. Despite the challenges of the extra record keeping, a distribution that is occasionally supplemented with a return of capital serves as a smoothing mechanism resulting in a more stable and consistent cash flow available to shareholders. A portion of the distribution may be treated as longterm capital gain and qualified dividend income for individuals, each subject to the maximum federal income tax rate, which is currently 15% in taxable accounts for individuals. Longterm capital gains, qualified dividend income, ordinary income, and paidin capital, if any, are allocated on a prorata basis to all distributions to common shareholders for the year. Based on the distribution allocations of the Fund as of December 31, 2010, the distributions paid in 2010 represent approximately 11% from net investment income and 89% from paidin capital. The estimated components of each distribution are provided to shareholders of record in a notice accompanying the distribution and are available on our website ( All shareholders with taxable accounts will receive written notification regarding the components and tax treatment for all 2010 distributions in early 2011 via Form 1099DIV % Series A Cumulative Preferred Shares The Fund s 5.625% Series A Cumulative Preferred Shares paid a $ per share cash distribution on December 27, 2010 to preferred shareholders of record on December 17, The Series A Preferred Shares, which trade on the NYSE under the symbol GUT Pr A, are rated Aaa by Moody s Investors Service and have an annual dividend rate of $ per share. The Series A Preferred Shares were issued on July 31, 2003 at $25.00 per share and pay distributions quarterly. After five years of call protection, the Series A Preferred Shares became callable at any time at the liquidation value of $25.00 per share plus accrued dividends. The next distribution is scheduled for March The Fund is authorized to purchase its Series A Preferred Shares in the open market from time to time when such shares are trading at a discount to the liquidation value of $25.00 per share. In total through December 31, 2010, the Fund has repurchased and retired 46,712 Series A Preferred Shares in the open market under this share repurchase authorization. The Fund did not repurchase any Series A Preferred Shares during the fourth quarter of