Questar Corporation First-quarter 2011 earnings teleconference script Kevin Hadlock, Executive Vice President and CFO April 27, 2010 Thank you, Michelle [operator]. Good morning, everyone, and thank you for joining us for Questar's first-quarter 2011 earnings conference call. I am Kevin Hadlock, Questar s chief financial officer. With me today are Ron Jibson, president and CEO of Questar Corporation; Jim Livsey, executive vice president of Wexpro; Allan Bradley, CEO of Questar Pipeline; and Craig Wagstaff, senior vice president of Questar Gas. Before we begin, let me remind you that we will be making forward-looking statements during our call today and actual results could differ from our estimates for a variety of reasons that we describe in our SEC filings. Also, this call may reference non- GAAP financial measures. Our earnings release provides reconciliations to these measures. Yesterday we reported first-quarter earnings results and affirmed our 2011 earnings guidance range of $1.07 to $1.11 per diluted share. Questar s first-quarter earnings from continuing operations totaled $69.9 million or 39 cents per diluted share compared to first-quarter 2010 results of $72.2 million or 41 cents per diluted share. Wexpro, our cost-of-service natural gas development company, grew net income to $22.3 million, an increase of 5 percent from the first quarter of 2010. Additionally, Wexpro generated about $51 million of EBITDA in the quarter and increased its investment base to about $445 million, a year-over-year increase of more than 4 percent. First quarter net income attributable to Questar Pipeline, our interstate natural gas pipeline and storage business, was $15.3 million, down from $17.2 million in the first quarter of 2010. Transportation revenues increased with the completion of the Overthrust Loop Expansion in March 2011. Pipeline s slightly higher transportation revenues were partially offset by lower revenues from natural gas liquids or NGLs. Overall, Pipeline s earnings were down primarily due to higher operating and maintenance costs and increased general and administrative expenses. 1
Questar Gas, our retail gas distribution utility, reported first quarter 2011 earnings of $33.4 million for the year, up 1 percent from the first quarter of 2010, and generated over $71 million of EBITDA. Questar Gas benefited in the first quarter from an increase in new customer connections, added revenue from the infrastructure cost tracker and higher margin associated with a Utah general rate increase that went into effect in August 2010. With regard to costs, Questar s first quarter 2011 general and administrative expense totaled $33 million, compared to $26 million in the same period last year. This increase was primarily the result of increased employee transition costs and higher share-based compensation expense. Excluding Questar Gas s demand side management costs, which are passed through dollar-for-dollar in rates, the corporation s consolidated operating and maintenance expense totaled about $35 million in the first quarter of 2011, about $1 million higher than the same period last year. Production and other taxes declined 7 percent for the quarter, consistent with the decline in the taxable value of natural gas. Production taxes are recovered in Wexpro s cost of service under the Wexpro Agreement. Depreciation expense in the first quarter of 2011 rose 1 percent versus the same period in 2010, driven by continuing capital investment. Capital expenditures totaled $76 million in the first quarter of 2011. Of that amount, Wexpro accounted for $24 million, Questar Pipeline invested $26 million, and Questar Gas also spent $26 million. We experienced strong cash flow in the first quarter of 2011. Cash flow from continuing operations before working capital changes totaled $146 million, a 25 percent increase over the first quarter of last year. Cash used in continuing operations for the first quarter of 2011 was approximately $22 million, which included a reduction in shortterm debt of $156 million. Questar maintains a strong balance sheet, which supports our A-minus corporate credit rating from S&P and A3 senior unsecured rating from Moody s. Consolidated debt to capital finished the quarter at 52 percent. 2
The company also maintains sufficient liquidity to meet the growing needs of our businesses. At March 31, 2011, we had $86 million of commercial paper outstanding. We expect continued strong cash flow to result in paying down commercial paper balances to near zero during the second quarter, which is the seasonal low point of our working capital needs. Commercial paper balances will begin to grow again as we approach the fall gas injection and heating season. Our commercial paper program is currently supported by $600 million of committed bank credit lines. At the end of the second quarter, the $250 million, 364-day credit facility will mature. Currently, we do not plan to renew this facility and believe the $350 million facility maturing in 2013 will be sufficient to manage the liquidity needs of the company. As you ll recall, in December 2010, Questar Corporation issued $250 million of 2.75 percent notes that mature in 2016 to replace short-term debt issued to fund the equity infusion in QEP Resources just prior to spin-off. Given the current and anticipated strong cash flow position of the company, we are expecting lower floating rate commercial paper balances in the coming years. To take advantage of today s low interest rates and steep yield curve, Questar executed a fixed-to-floating interest rate swap on $125 million of Questar parent-company debt. We estimate that this transaction could reduce 2011 interest expense by up to $2 million, depending on shortterm interest rate fluctuations. Lastly, Questar Pipeline has debt maturities of approximately $180 million in 2011. We expect to refinance these maturities in the capital markets during the third quarter of this year. With that, I ll turn it over to our president and CEO, Ron Jibson to discuss operations results and Questar s outlook. 3
Questar Corporation 2011-1Q Earnings Teleconference Script Ron Jibson, Questar President and CEO April 27, 2011 Good morning, everyone, and thanks, Kevin, for that summary. We appreciate all of you joining us today. I ll comment briefly on our first-quarter results and update our outlook for the remainder of 2011 and beyond. We ve come through the first quarter of 2011 in good shape and have enjoyed visiting with many of you over the past nine months about the newly rebalanced and refocused Questar and our uniquely integrated mix of natural gas businesses. As one analyst recently wrote: The new Questar is the old Questar, meaning that the company looks much like it did 10 to 15 years ago, before the exploration and production arm began its rapid growth. But it also means that the new Questar continues to provide the same, long-standing tradition of creating strong value for our shareholders. We ll continue to be on the road often this year answering your questions about what we believe is the most compelling investment opportunity in our space. We are on track to meet our earnings guidance this year of between $1.07 and $1.11 per diluted share. Our three businesses Wexpro, Questar Pipeline and Questar Gas should generate $192 million to $200 million of net income this year from continuing operations. We anticipate strong cash flows of between $520 million and $535 million of EBITDA and expect to earn about 17 percent to 18 percent return on average common equity. We then cap our story with strong dividend growth, evidenced by the two recent increases of almost 8 percent last August and 9 percent last month. Our projections are to continue to grow future dividends by 5 percent to 10 percent annually. Let s review individual business unit results and forward projections starting with Wexpro, our most distinctive and unique competitive advantage. Wexpro earned a 20.3 percent after-tax unlevered return on its investment base for the 12 months-ended March 31. Largely due to drilling efficiencies and lower finding costs during the first quarter, we have recently increased Wexpro s 2011 capital budget to $108 million, up from our previous capital budget of $100 million. Wexpro s average investment base for 2011 is now forecast to be about $458 million compared to $444 million in 2010. The growth of Wexpro s investment base is impacted by bonus depreciation, which increases deferred taxes used in the calculation of the investment base. That said, 1
even with 100 percent bonus depreciation in 2011, we estimate that the announced $8 million of incremental spending by Wexpro will still grow the investment base by about $4.5 million, assuming successful development drilling. Wexpro is unique in the industry. The company develops natural gas and oil on a defined set of producing properties in the Rockies and earns an approximate 20 percent after-tax unlevered return on its net investment base. The natural gas produced from these properties is delivered to our utility, Questar Gas, at a cost-of-service that includes the 20 percent return. So while Wexpro s operations are similar to those of an E&P company, its economic model is much like that of a regulated utility noted for its stable and predictable earnings and cash flow, but without the need for rate cases. Over the past 12 months, Wexpro produced 50 billion cubic feet of natural gas about half of Questar Gas s annual supply requirement. We continue to expect that Wexpro will invest between $500 million and $700 million over the next five years in our low-cost and low-risk development-drilling program. This outlook is based on Wexpro s expected cost competitiveness versus today s natural gas forward pricing curve. Currently, the forward curve indicates that Wexpro s cost-of-service gas will be increasingly competitive with market prices, especially as Wexpro s finding and development costs are further reduced. Wexpro s current focus on our lowest cost development plays in the Vermillion Basin and Powder Wash has resulted in finding costs that average less than $1 per Mcfe for recently completed wells in those areas. Turning next to Questar Pipeline, our natural gas transportation and storage business Questar Pipeline earned an 11.4 percent return on equity for the 12 months ended March 31. Questar Pipeline s processing activities continue to benefit from strong NGL pricing in the first three months of this year, but lower volumes reduced total NGL revenues by about $500,000. This decline in NGL revenues was more than offset by growing transportation revenues. In March, Questar Pipeline completed and put into service our Overthrust Loop Expansion project this is a 43-mile, 36-inch-diameter pipeline loop west of Rock Springs, Wyo. This project is underwritten by long-term contracts to move gas west for delivery initially to Kern River Pipeline and ultimately to Ruby Pipeline which is currently under construction. The Overthrust project, originally budgeted at $99 million, was 2
completed on-time and under-budget, resulting in an ROE of about 12.9 percent. It also has additional unsubscribed capacity of approximately 300,000 decatherms per day that can be contracted in the future. The completion of Ruby Pipeline later this year could stimulate the demand for this excess capacity. For 2011, Questar Pipeline s capital budget is about $105 million. We expect the company to generate positive cash flows before dividends of about $50 million this year, and could generate cash flows in excess of capital requirements of about $350 million through 2015. These strong cash flows enable internal financing of projects across the Questar family of companies and support annual dividend growth. Finally, turning to our gas utility Questar Gas earned a 10.2 percent return on average equity for the 12 months ended March 31, 2011. We continue to benefit from above-average customer growth in our service area and added over 10,000 customers during the past 12 months, a 1.1 percent increase. This growth added over $1 million of incremental margin in the quarter. Effective Aug. 1, 2010, Questar Gas s allowed return on equity in Utah increased from 10 percent to 10.35 percent in a rate case settlement that extended our revenuedecoupling tariff indefinitely. Also approved by the Utah Public Service Commission was an infrastructure-cost tracker that allows us to earn on our multi-year high-pressure pipeline replacement program as we place the new facilities into service. This cost tracker is extremely important for Questar Gas, for our customers and shareholders. Everyone benefits as necessary improvements are made to the distribution system without costly and unnecessary rate proceedings. This large-diameter high-pressure pipeline replacement program also continues our commitment to our customers and shareholders in our efforts to lower our risk profile by replacing the older pipe in our system. We continue our tradition of pipeline safety. In the 1980s we replaced all cast-iron pipe. The bare steel pipe was replaced during the 90s and now we re investing about $45 million per year to replace our reconditioned steel pipe. Combined with a continued strong customer growth outlook, this could drive 8 percent to 9 percent annual growth in Questar Gas s rate base through 2015. Questar Gas s approved capital budget, including the pipeline replacement investment, is expected to be $132 million in 2011. 3
Questar Gas continues to lead the nation in developing and improving natural gas vehicle fueling infrastructure. Over the past 18 months, we ve substantially increased our capacity to refuel NGVs. Utah made a public-policy decision to support NGVs nearly three decades ago. Questar Gas remains committed to support natural gas vehicles as a viable solution to air-quality and energy dependence challenges. To summarize, we affirm prior guidance of $1.07 to $1.11 per diluted share and remain confident we can hit this target despite anticipated impacts of higher interest expense, 100 percent bonus depreciation and lower NGL revenues. Wexpro is on track to grow investment base 4 percent to 8 percent annually through 2015. Questar Gas is expected to grow rate base 8 percent to 9 percent annually and our pipeline replacement tracker will allow cost and return recovery without regulatory lag. Questar Pipeline looks to generate strong cash flows in excess of capital requirements that will help fund company-wide capital projects and support our 5 percent to 10 percent annual dividend growth strategy. As I said at the start, Questar is unique. Still, it s all about execution, and we have the balance sheet, the assets and experienced people to execute and deliver. Our integrated businesses provide what value-driven investors want most: stable high returns and strong cash flow to support a growing dividend and investment growth opportunities. With that, Michelle, let s open the line for questions. 4