Nikki Sparley - Director, IR David Anderson - President & CEO Frank Burkhartsmeyer - SVP & CFO.

Insoo Kim - RBC Capital Markets.

Good day, and welcome to the Northwest Natural Gas First Quarter 2018 Conference Call & Webcast. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Nikki Sparley. Please go ahead..

Thank you, Steven. Good morning, everyone, and welcome to our first quarter 2018 earnings call. As a reminder, some of the things that will be said this morning contain forward-looking statements. They are based on management's assumptions, which may or may not occur.

For a complete list of cautionary statements, you should refer to the language at the end of our press release and also our SEC filings for additional information. We expect to file our 10-Q later today. As mentioned, this teleconference is being recorded and will be available on our website following the call.

Please note, these conference calls are designed for the financial community. If you are an investor and have additional questions after the call, please contact me directly at 503-721-2530. Media may contact Melissa Moore at 503-220-2436.

Speaking this morning are David Anderson, President and Chief Executive Officer; and Frank Burkhartsmeyer, Senior Vice President and Chief Financial Officer. David and Frank have some prepared remarks and then will be available, along with other members of our executive team, to answer your questions.

With that, I will turn it over to David for his opening remarks..

Thanks, Nikki, and good morning, everyone. I'll start today with highlights from the quarter and then turn it over to Frank to cover our financial performance. And then finally, we'll come back and I'll wrap up the call with an update on some of our key projects and objectives. The year, frankly, is off to a good start.

Our financial results were solid, and we're making significant headway on a number of key objectives. For the first quarter of 2018, net income increased $1.2 million to $41.5 million. The utility performed well as customers continue to convert and build new homes with natural gas. Our economy remains very strong.

Oregon posted a favorable 4.1% unemployment rate for the first quarter of 2018, which is on par with the national rate. The job market continues to expand. Oregon job growth was 2.2% over the last 12 months while the U.S. increased 1.5% over that same time period. Oregon building permits increased 9% in the first quarter compared to where we ended 2017.

And while Portland single-family building permits were off slightly from the fourth quarter, the most recent Oregon forecast projects housing starts to pick up for the rest of the year. Here at Northwest Natural, we've added nearly 12,000 customers over the last 12 months, which results in a growth rate of 1.6%.

As you know, in late December 2017, we filed a general rate case in Oregon. This past March, we lowered our request to incorporate the effects of federal tax reform. With that change, we are now requesting a 4% or $25.7 million increase to the company's revenues.

All in all, we're very early in the stages of the rate case and will continue to work through things as the schedule progresses. The Oregon Commission has 10 months to review this case with an order targeted for October, and of course, new customer rates effective November 1. With that, let me turn it over to Frank to cover the financial details.

Frank?.

Thank you, David, and good morning, everyone. Before we go through the drivers of operating results today, I want to comment on the effects of the new revenue recognition accounting standard and tax reform. Like others, we have implemented the new revenue standard this quarter on a prospective basis.

While our financial results are not impacted by the standard, there is a presentation change to our income statement. We are now presenting revenue taxes grossed on our income statement. In prior periods, revenue taxes were netted with operating revenues and have not been restated.

This change did not impact the utility margin, which we continue to present net of revenue taxes and is comparable period-over-period. Regarding tax reform; until we reset customer rates, we will defer into a regulatory liability, the difference between a 35% tax rate currently used in customers' rates and a new 21% tax rate.

This deferral reduces operating revenues and utility margin, which, over the course of the year, will largely be offset by lower income tax expense.

All things considered, tax reform results in higher net income in the first and fourth quarters and lower tax benefits in the second and third quarters, with little change anticipated to full year results from the utility. We'll get into the specific numbers on this in a moment. Now moving to financial results.

Note that I'll describe individual earnings drivers on an after-tax basis using the statutory tax rate of 26.5%. Overall, results met our expectations.

We reported net income of $41.5 million or $1.44 per share for the first quarter of 2018, an increase of $1.2 million or $0.04 compared to net income of $40.3 million or $1.40 for the same period in 2017. The increase in net income reflects stable utility earnings and lower depreciation expense at our Gill Ranch facility.

Focusing on the utility segment; net income remained largely unchanged as a $6.9 million decrease in margin and slightly higher O&M and depreciation expense were offset by a $9 million decrease in tax expense. Strong customer growth, which contributed $1.2 million to margin, was more than offset by the effects of weather.

Weather in our service territory was 5% warmer than average in 2018. By contrast, 2017 weather was 26% colder than average.

While the weather normalization mechanism in Oregon provides a large degree of margin stability, weather does affect results as we do not have a normalization mechanism in Washington, and a portion of Oregon customers have opted out.

Also affecting margin this quarter was the revenue deferral related to tax reform, which decreased utility margin by $4.7 million. As noted, we also recognized a $9 million reduction in our income tax expense related to tax reform.

The resulting $4.3 million net benefit from tax reform in the first quarter will largely reverse by year-end as the revenue deferral continues to grow with volumes throughout 2018. Turning to cash flow highlights; during the first quarter, the company generated $105 million in operating cash flow.

We reinvested these proceeds back into the business with $57 million in capital expenditures, including $21 million for the construction of the North Mist storage expansion. Our balance sheet remains strong with a solid capital structure and ample liquidity.

With regards to tax reform; looking forward, we continue to work with our regulators on the means by which we will return the deferred tax benefits to customers. Several workshops with all of the utilities in Oregon have been held, and we anticipate incorporating these customer benefits with our new rates in Oregon this fall.

Another important aspect of tax reform is its impact on cash flows. The elimination of bonus depreciation for assets that go into service on or after September 27, 2017 will result in higher cash tax payments for a couple of years.

We continue to estimate that cash from operations will be approximately $40 million lower during the 2018-'19 period as we transition away from bonus depreciation. In summary, our thoughts on tax reform have not changed from the last quarter.

We continue to work through the details with our regulators seeking to balance our opportunities and obligations. We continue to see tax reform as generally favorable over the long term with some modest near-term cash flow impacts.

Moving to the 2018 guidance; capital expenditures for the year are expected to range from $190 million to $220 million, including about $25 million associated with completing our North Mist Expansion. For the five-year period ending 2022, we estimate utility capital expenditures to range from $750 million to $850 million.

While tax reform enhanced earnings this quarter, we expect the benefit to reverse as we move through the year. We anticipated these impacts, and the company reaffirmed 2018 earnings guidance today in the range of $2.10 to $2.30 per share.

Guidance assumes continued customer growth from our utility segment, average weather conditions and no significant changes in prevailing regulatory policies, mechanisms or outcomes or significant laws or regulations. With that, I'll turn the call back over to David for his concluding remarks..

Thanks, Frank. Let me give you an update on our North Mist Expansion Project. As you know, we've been operating our natural gas storage facility in Mist, Oregon for nearly 30 years. The Oregon storage market is uniquely situated.

With just a single pipeline serving the region, storage is essential to support reliable service and thus is extremely valuable. Our Mist capacity is in a premium location with limited competition from other storage facilities and consistently provides high-value long-term contracts.

The majority of the facility, around 11 Bcf, is used for our core utility customers. Over the last several years, we focused on expanding this facility with the construction of the North Mist gas storage project.

The project will support grid reliability by supplying unique, no-notice storage service to Portland General Electric, allowing them to balance the variability of additional renewable power on the electric grid.

The estimated cost of the expansion, which includes the development of a new 2.5 Bcf reservoir compressor station and a 13-mile pipeline, is $132 million. To date, we have completed the pipeline from the North Mist facility to PGE's industrial park. At this stage, we're connecting the pipeline to the wellheads.

And while slightly delayed, we expect to begin free flow injections into the reservoir in the coming weeks. Another key aspect of the project is the completion of the compressor station. All major plant components have been delivered to the site, and we expect construction to be completed this summer.

We are approaching the final stages of this project. It is essential that we move from free flow injections to compressed injections this summer to meet a December 2018 in-service date. This team will -- our team will be driving hard to reach that goal.

As a reminder, when the expansion is placed into service, the investment will immediately be rate based under an already established tariff schedule that has been approved by the PUC. The facility is contracted for an initial 30-year period to PGE with renewal options up to 50 years beyond that.

Before we close out the call today, I want to provide a quick update on our water utility strategy. In December, we announced agreements to acquire two utilities in Oregon and Idaho. We continue to progress the regulatory dockets for those acquisitions and expect them to close in the second half of 2018.

Although the financial implications of these transactions are small, I continue to believe this is an exciting opportunity for the company over the long term.

As we've discussed in the past, we strive to provide stable, growing gas utility earnings while seeking to add earnings streams that have a similar risk and cash flow profile as our regulated gas utility. We will remain disciplined and focused as we continue to pursue this strategy. Overall, I feel very good about the opportunities in front of us.

We remain focused on working with policymakers and customers to continue providing value for both our customers and our investors. Thanks again for taking time to join us this morning. And with that, Steven, I think we're ready to open it up for questions..

[Operator Instructions] And our first question comes from Insoo Kim with RBC Capital Markets..

Could you just give an update on timing and latest thoughts on the Gill Ranch optimization strategy?.

Yes, not a lot to update at this point, Insoo. As you know, we took a major impairment of the asset in the fourth quarter last year and also indicated to the market and others that the asset is no longer strategic to us. Obviously, it's still in the portfolio. We'll continue to run it very safely and do what we need to do to serve customers.

But at this point, there's no update on long-term outcome of that asset..

So there's no real -- we shouldn't be considering any type of action within 2018 time frame or anything like that?.

No. Again, I didn't say that. What I did say is that it's no longer strategic to the company, and at this point, we don't have any updates for you..

And then in the Oregon rate case, could you just give maybe your comments on some of the main items that the staff have recommended versus what you guys have proposed in the revised case and whether -- how much of it you think is kind of resolvable?.

Yes. No, it's a good question. We're -- as I indicated in my prepared remarks, we're really early in the process, Insoo.

And if you've looked at other rate cases, and specifically, in Oregon, this is not an unusual pattern that when the first round of testimony comes out from staff and, to some degree, interveners, it has a lot of items in there that, over the period of time, will hopefully be reconciled. And it's normal items.

The good news is, on our rate case, it's a fairly straightforward rate case. It's really more about rate based and expenses. There's not a lot of policy-level items in there. So typically, with the first round of testimonies come out, people are questioning CapEx, and they're questioning rate-based levels, they're questioning expense levels.

And we're just, right now, in the process of going back and making sure people understand this is the numbers we filed, this is the level of rate base we have, this is why it's in the rate case and things like that. So at this juncture, it's fairly early.

It's obviously -- we'd like it to be going a little bit quicker than it already is, but this is just part of the process that you go through. And we'll continue to move through and work through the parties, which include meetings this week and continue the process. And hopefully, our goal, frankly, would hopefully be able to settle.

But in the event that we can't settle, then we'll go to full route as we have in the past with the commission..

I'm showing no further questions. This concludes our question-and-answer session. I'd like to turn the conference back over to David Anderson for any closing remarks..

All right, Steven. Well, that was quick. I hope everybody has a great day. If you have any questions, reach out to Nikki Sparley directly. I will be happy to follow up. And for a lot of analysts out there, we look forward to seeing you at the American Gas Association Financial Conference here in a couple of weeks. Thanks, Steven..

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect..