# ONE Gas, Inc.: Form 10-Q for the period ended Jun 30, 2014

- Company: [ONE Gas, Inc.](/companies/ogs.md) (CIK 1587732)
- Form: 10-Q
- Filed: 2014-08-05
- Accepted by EDGAR: Aug 5, 2014, 17:27 ET
- Period: 2014-06-30
- Accession: 0001587732-14-000037
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/1587732/000158773214000037/onegas10-qx6302014.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/1587732/000158773214000037/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2014-06-30.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Gross profit | 3 months, 2014-04-01 to 2014-06-30 | $176.5m | us-gaap:GrossProfit |
| Gross profit | 6 months, 2014-01-01 to 2014-06-30 | $436.3m | us-gaap:GrossProfit |
| Operating income | 3 months, 2014-04-01 to 2014-06-30 | $26.8m | us-gaap:OperatingIncomeLoss |
| Operating income | 6 months, 2014-01-01 to 2014-06-30 | $136.2m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2014-04-01 to 2014-06-30 | $11.8m | us-gaap:InterestExpense |
| Interest expense | 6 months, 2014-01-01 to 2014-06-30 | $24.7m | us-gaap:InterestExpense |
| Income tax | 3 months, 2014-04-01 to 2014-06-30 | $5.9m | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 6 months, 2014-01-01 to 2014-06-30 | $42.7m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2014-04-01 to 2014-06-30 | $9.5m | us-gaap:NetIncomeLoss |
| Net income | 6 months, 2014-01-01 to 2014-06-30 | $68.5m | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2014-04-01 to 2014-06-30 | $0.18 | us-gaap:EarningsPerShareDiluted |
| Diluted EPS | 6 months, 2014-01-01 to 2014-06-30 | $1.31 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2014-04-01 to 2014-06-30 | $0.18 | us-gaap:EarningsPerShareBasic |
| Basic EPS | 6 months, 2014-01-01 to 2014-06-30 | $1.32 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2014-04-01 to 2014-06-30 | 52,446,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 6 months, 2014-01-01 to 2014-06-30 | 52,481,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 6 months, 2014-01-01 to 2014-06-30 | $261.7m | us-gaap:NetCashProvidedByUsedInOperatingActivities |
| Capital expenditure | 6 months, 2014-01-01 to 2014-06-30 | $148.6m | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Dividends paid | 6 months, 2014-01-01 to 2014-06-30 | $14.6m | us-gaap:PaymentsOfDividends |
| Cash and equivalents | at 2014-06-30 | $161.3m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2014-06-30 | $570.9m | us-gaap:AssetsCurrent |
| Total assets | at 2014-06-30 | $4.28bn | us-gaap:Assets |
| Current liabilities | at 2014-06-30 | $268.4m | us-gaap:LiabilitiesCurrent |
| Long-term debt | at 2014-06-30 | $1.20bn | us-gaap:LongTermDebtNoncurrent |
| Current portion of debt | at 2014-06-30 | $6.0k | us-gaap:LongTermDebtCurrent |
| Shareholders' equity | at 2014-06-30 | $1.78bn | us-gaap:StockholdersEquity |

## Management's discussion and analysis

As filed, 47,742 characters.

The following discussion and analysis should be read in conjunction with our unaudited financial statements and the Notes to Financial Statements in this Quarterly Report, as well as our Annual Report. Due to the seasonal nature of our business, the results of operations for the three and six months ended June 30, 2014, are not necessarily indicative of the results that may be expected for a 12-month period.

### RECENT DEVELOPMENTS

**Distribution -** On January 8, 2014, ONEOK’s board of directors approved the distribution of all the shares of our common stock to holders of ONEOK common stock.

In order to allow ONEOK to effect the distribution, we requested, and the SEC declared effective, our registration statement on Form 10 on January 10, 2014. ONEOK transferred all of the assets and liabilities primarily related to its natural gas distribution business to us. Assets and liabilities included accounts receivable and payable, natural gas in storage, regulatory assets and liabilities, pipeline and other natural gas distribution facilities, customer deposits, employee-related assets and liabilities, including amounts attributable to pension and other postretirement benefits, tax-related assets and liabilities and other assets and liabilities primarily associated with providing natural gas distribution service in Oklahoma, Kansas and Texas. Certain corporate assets, such as office space in the corporate headquarters and certain IT hardware and software, were not transferred to us; however, the Transition Services Agreement between ONEOK and us provides access to such corporate assets as necessary to operate our business for a period of time to enable us to obtain the applicable corporate assets.

Immediately prior to the contribution of the natural gas distribution business to us, ONEOK contributed to the capital of the natural gas distribution business all of the amounts outstanding on the natural gas distribution business’ short-term note payable to and long-term line of credit with ONEOK. We received approximately $1.19 billion of cash from a private placement of senior notes, then used a portion of those proceeds to fund a cash payment of approximately $1.13 billion to ONEOK in connection with the separation. On January 31, 2014, ONEOK distributed one share of our common stock for every four shares of ONEOK common stock held by ONEOK shareholders of record as of the close of business on January 21, 2014, the record date of the distribution. At the close of business on January 31, 2014, we became an independent, publicly traded company as a result of the distribution. Our common stock began trading “regular-way” under the ticker symbol “OGS” on the NYSE on February 3, 2014.

**Dividend -** On May 15, 2014, we paid dividends on our common stock to shareholders of record at the close of business on April 30, 2014, equal to $0.28 per share ($1.12 per share on an annualized basis). In July 2014, a dividend of $0.28 per share was declared for shareholders of record on August 1, 2014, payable August 15, 2014.

**Regulatory Initiatives -** Oklahoma - In October 2013, Oklahoma Natural Gas, together with the Public Utility Division of the OCC, filed a joint application to postpone its 2014 rate case. The joint stipulation and settlement agreement in support of this application was approved by the OCC in January 2014. As a result, Oklahoma Natural Gas filed a PBRC application on March 14, 2014, and will file a rate case in 2015 based on a test year consisting of the 12 months ending March 31, 2015. The March 2014, PBRC filing demonstrated that Oklahoma Natural Gas is earning below the range of allowable return on equity. In June 2014, a joint stipulation and settlement agreement associated with our PBRC filing was reached and contained an increase in base rates of approximately $13.7 million and an energy-efficiency program true-up and a utility incentive adjustment of $0.9 million. In August 2014, the settlement was approved by the OCC.

Texas - In March 2014, Texas Gas Service and the City of El Paso agreed to enter into an annual rate review mechanism called the El Paso Annual Rate Review (EPARR) in lieu of a filing under the GRIP statute with the City of El Paso. Texas Gas Service will continue to file under the GRIP statute for other cities in the El Paso service area. The EPARR provides for a streamlined review of Texas Gas Service’s revenue requirement based upon an agreed upon capital structure and return on equity. In April 2014, Texas Gas Service filed under the EPARR for an increase in revenues in the City of El Paso, and under the GRIP statute for the remainder of the El Paso service area. In July 2014, the City of El Paso approved an annual increase in revenues of $3.5 million, resulting from the EPARR filing. The GRIP filing for the remainder of the El Paso service area was approved with an increase in revenues of $0.6 million.

GRIP is a capital-recovery mechanism that allows for an interim rate adjustment providing recovery of and a return on incremental capital investments made between rate cases. We filed requests for interim rate relief under the GRIP statute with the City of Austin, Texas, and surrounding communities in February 2014 for approximately $5.2 million. The city councils approved the requested increase effective May 27, 2014.

In the normal course of business, we have received approval for increases totaling $2.1 million for interim rate relief under the GRIP and cost-of-service adjustments in other Texas jurisdictions to address investments in rate base and changes in cost of service.

General - Certain costs to be recovered through the ratemaking process have been capitalized as regulatory assets. Should recovery cease due to regulatory actions, certain of these assets may no longer meet the criteria for recognition and accordingly, a write-off of regulatory assets and stranded costs may be required.

### FINANCIAL RESULTS AND OPERATING INFORMATION

**Selected Financial Results -** The following table sets forth certain selected financial results for our operations for the periods indicated:

*(Millions of dollars, except percentages)*

| Financial Results | Three Months Ended June 30, 2014 | 2013 | Six Months Ended June 30, 2014 | 2013 | Three Months 2014 vs. 2013 Increase (Decrease) |  | Six Months 2014 vs. 2013 Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Natural gas sales | **$265.1** | $280.8 | **$989.8** | $879.0 | **$(15.7)** | **(6)%** | **$110.8** | **13%** |
| Transportation revenues | **22.2** | 22.8 | **54.7** | 52.1 | **(0.6)** | **(3)%** | **2.6** | **5%** |
| Cost of natural gas | **120.4** | 133.2 | **626.7** | 517.4 | **(12.8)** | **(10)%** | **109.3** | **21%** |
| Net margin, excluding other revenues | **166.9** | 170.4 | **417.8** | 413.7 | **(3.5)** | **(2)%** | **4.1** | **1%** |
| Other revenues | **9.6** | 8.0 | **18.5** | 16.4 | **1.6** | **20%** | **2.1** | **13%** |
| Net margin | **176.5** | 178.4 | **436.3** | 430.1 | **(1.9)** | **(1)%** | **6.2** | **1%** |
| Operating costs | **118.4** | 106.2 | **237.3** | 221.2 | **12.2** | **11%** | **16.1** | **7%** |
| Depreciation and amortization | **31.3** | 32.9 | **62.8** | 67.8 | **(1.6)** | **(5)%** | **(5.0)** | **(7)%** |
| Operating income | **$26.8** | $39.3 | **$136.2** | $141.1 | **$(12.5)** | **(32)%** | **$(4.9)** | **(3)%** |
| Capital expenditures | **$82.9** | $67.3 | **$148.6** | $130.0 | **$15.6** | **23%** | **$18.6** | **14%** |

The following table sets forth our net margin, excluding other revenues, by type of customer, for the periods indicated:

*(Millions of dollars, except percentages)*

| Net Margin, Excluding Other Revenues Natural gas sales | Three Months Ended June 30, 2014 | 2013 | Six Months Ended June 30, 2014 | 2013 | Three Months 2014 vs. 2013 Increase (Decrease) |  | Six Months 2014 vs. 2013 Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Residential | **$118.7** | $122.1 | **$298.3** | $298.4 | **$(3.4)** | **(3)%** | **$(0.1)** | **—%** |
| Commercial and industrial | **24.8** | 24.6 | **61.8** | 60.4 | **0.2** | **1%** | **1.4** | **2%** |
| Wholesale and public authority | **1.2** | 0.9 | **3.0** | 2.8 | **0.3** | **33%** | **0.2** | **7%** |
| Net margin on natural gas sales | **144.7** | 147.6 | **363.1** | 361.6 | **(2.9)** | **(2)%** | **1.5** | **—%** |
| Transportation margin | **22.2** | 22.8 | **54.7** | 52.1 | **(0.6)** | **(3)%** | **2.6** | **5%** |
| Net margin, excluding other revenues | **$166.9** | $170.4 | **$417.8** | $413.7 | **$(3.5)** | **(2)%** | **$4.1** | **1%** |

Our net margin on natural gas sales is comprised of two components, fixed and variable margin. Fixed margin reflects the portion of our net margin attributable to the monthly fixed customer charge component of our rates, which does not fluctuate based on customer usage in each period. Variable margin reflects the portion of our net margin that fluctuates with the volumes delivered and billed, which includes volumetric delivery charges and charges for riders, surcharges and other regulatory mechanisms associated with the services we provide.

We believe that the combination of the significant residential component of our customer base, the fixed charge component of our sales margin and our regulatory rate mechanisms that we have in place result in a stable cash flow profile. The following table sets forth our net margin on natural gas sales by revenue type for the periods indicated:

*(Millions of dollars, except percentages)*

| Net Margin on Natural Gas Sales Net margin on natural gas sales | Three Months Ended June 30, 2014 | 2013 | Six Months Ended June 30, 2014 | 2013 | Three Months 2014 vs. 2013 Increase (Decrease) |  | Six Months 2014 vs. 2013 Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Fixed margin | **$122.3** | $117.3 | **$243.9** | $234.6 | **$5.0** | **4%** | **$9.3** | **4%** |
| Variable margin | **22.4** | 30.3 | **119.2** | 127.0 | **(7.9)** | **(26)%** | **(7.8)** | **(6)%** |
| Net margin on natural gas sales | **$144.7** | $147.6 | **$363.1** | $361.6 | **$(2.9)** | **(2)%** | **$1.5** | **—%** |

Net margin decreased $1.9 million for the three months ended June 30, 2014, compared with the same period last year, due primarily to the following:

- a decrease of $4.9 million in variable margin as residential volumes sold declined 17 percent due primarily to warmer weather, net of weather normalization; and
- a decrease of $2.8 million in rider and surcharge recoveries due primarily to lower ad-valorem surcharge in Kansas and the expiration of the rider associated with the recovery of take-or-pay settlements in Oklahoma, both of which are offset by lower regulatory amortization in depreciation and amortization expense; offset partially by
- an increase of $3.1 million from new rates primarily in Texas;
- an increase of $1.4 million in residential sales due primarily to customer growth; and
- an increase of $0.6 million due to higher line extension revenue from commercial and industrial customers in Oklahoma.

Net margin increased $6.2 million for the six months ended June 30, 2014, compared with the same period last year, due primarily to the following:

- an increase of $7.6 million from new rates primarily in Texas;
- an increase of $3.3 million from higher transportation volumes due primarily to weather-sensitive customers;
- an increase of $2.6 million in residential sales due primarily to customer growth; and
- an increase of $1.0 million due to higher line extension revenue from commercial and industrial customers in Oklahoma; offset partially by
- a decrease of $1.3 million due to lower sales volumes primarily in Kansas due to warmer weather in second quarter of 2014 compared with colder-than-normal weather in the second quarter of 2013, net of weather normalization; and
- a decrease of $8.1 million in rider and surcharge recoveries due to lower ad-valorem surcharge in Kansas and the expiration of the rider associated with the recovery of a take-or-pay settlements in Oklahoma, both of which are offset by lower regulatory amortization in depreciation and amortization expense.

Operating costs increased $12.2 million for the three months ended June 30, 2014, compared with the same period last year, due primarily to the following:

- an increase of $5.3 million in employee-related expenses resulting from higher labor and compensation costs, which includes share-based compensation that in the prior period was impacted by a decrease in ONEOK’s share price;
- an increase of $4.2 million in outside service costs related to a $3.4 million increase in pipeline maintenance activities and $1.3 million of costs associated with our separation from ONEOK; and
- an increase of $2.5 million in insurance and information technology expenses; offset partially by
- a decrease of $2.1 million in benefit costs related primarily to lower pension and other postretirement benefit costs resulting from an annual change in the estimated discount rate.

Operating costs increased $16.1 million for the six months ended June 30, 2014, compared with the same period last year, due primarily to the following:

- an increase of $9.3 million in employee-related expenses resulting from higher labor and compensation costs;
- an increase of $4.5 million in insurance and information technology expenses;
- an increase of $3.6 million in outside service costs related primarily to $2.6 million of costs associated with our separation from ONEOK; and
- an increase of $1.0 million in bad debt expense as a result of higher net margin; offset partially by
- a decrease of $4.1 million in benefit costs related primarily to lower pension and other postretirement benefit costs resulting from an annual change in the estimated discount rate.

Depreciation and amortization expense decreased for the three and six months ended June 30, 2014, compared with the same periods last year, due primarily to a decrease in the amortization of a deferred ad-valorem surcharge rider in Kansas and take-or-pay rider in Oklahoma, offset partially by increased depreciation from our capital expenditures.

Capital Expenditures - Our capital expenditures program includes expenditures for pipeline integrity, automated meter reading, extending service to new areas, modifications to customer service lines, increasing system capabilities and replacements. It is our practice to maintain and upgrade facilities to ensure safe, reliable and efficient operations.

**Selected Operating Information -** The following tables set forth certain selected operating information for the periods indicated:

*(in thousands)*

| Average Number of Customers | Three Months Ended June 30, 2014 OK | KS | TX | Total | 2013 OK | KS | TX | Total | Variances 2014 vs. 2013 Increase (Decrease) OK | KS | TX | Total |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Residential | **778** | **579** | **602** | **1,959** | 772 | 581 | 598 | 1,951 | **6** | **(2)** | **4** | **8** |
| Commercial and industrial | **72** | **50** | **34** | **156** | 72 | 50 | 34 | 156 | **—** | **—** | **—** | **—** |
| Wholesale and public authority | **—** | **—** | **3** | **3** | — | — | 3 | 3 | **—** | **—** | **—** | **—** |
| Transportation | **5** | **6** | **1** | **12** | 5 | 6 | 1 | 12 | **—** | **—** | **—** | **—** |
| Total customers | **855** | **635** | **640** | **2,130** | 849 | 637 | 636 | 2,122 | **6** | **(2)** | **4** | **8** |

*(in thousands)*

| Average Number of Customers | Six Months Ended June 30, 2014 OK | KS | TX | Total | 2013 OK | KS | TX | Total | Variances 2014 vs. 2013 Increase (Decrease) OK | KS | TX | Total |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Residential | **780** | **584** | **602** | **1,966** | 774 | 583 | 596 | 1,953 | **6** | **1** | **6** | **13** |
| Commercial and industrial | **73** | **51** | **35** | **159** | 73 | 50 | 34 | 157 | **—** | **1** | **1** | **2** |
| Wholesale and public authority | **—** | **—** | **3** | **3** | — | — | 3 | 3 | **—** | **—** | **—** | **—** |
| Transportation | **5** | **6** | **1** | **12** | 5 | 6 | 1 | 12 | **—** | **—** | **—** | **—** |
| Total customers | **858** | **641** | **641** | **2,140** | 852 | 639 | 634 | 2,125 | **6** | **2** | **7** | **15** |

| Volumes (MMcf) Natural gas sales | Three Months Ended June 30, 2014 | 2013 | Six Months Ended June 30, 2014 | 2013 |
| --- | ---: | ---: | ---: | ---: |
| Residential | **13,551** | 16,367 | **76,965** | 71,592 |
| Commercial and industrial | **4,724** | 5,785 | **23,043** | 21,032 |
| Wholesale and public authority | **422** | 337 | **1,231** | 2,820 |
| Total volumes sold | **18,697** | 22,489 | **101,239** | 95,444 |
| Transportation | **48,372** | 49,802 | **115,349** | 108,511 |
| Total volumes delivered | **67,069** | 72,291 | **216,588** | 203,955 |

Residential, commercial and industrial natural gas sales volumes decreased for the three months ended June 30, 2014, compared with the same period last year, due primarily to warmer temperatures in the second quarter of 2014. Residential, commercial and industrial natural gas sales volumes increased for the six months ended June 30, 2014, compared with the same period last year, due primarily to colder temperatures in the first quarter of 2014. The impact on margins was mitigated largely by weather-normalization mechanisms.

Wholesale sales represent contracted natural gas volumes that exceed the needs of our residential, commercial and industrial customer base and are available for sale to other parties. The impact to net margin from changes in volumes associated with these customers is minimal.

| Heating Degree Days | Three Months Ended June 30, 2014 Actual | Normal | 2013 Actual | Normal | 2014 vs 2013 Actual Variance | 2014 Actual as a percent of Normal | 2013 |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Oklahoma | **228** | **195** | 381 | 195 | **(40)%** | **117%** | 195% |
| Kansas | **409** | **411** | 586 | 411 | **(30)%** | **100%** | 143% |
| Texas | **63** | **58** | 85 | 52 | **(26)%** | **109%** | 163% |

| Heating Degree Days | Six Months Ended June 30, 2014 Actual | Normal | 2013 Actual | Normal | 2014 vs 2013 Actual Variance | 2014 Actual as a percent of Normal | 2013 |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Oklahoma | **2,370** | **1,998** | 2,282 | 1,998 | **4%** | **119%** | 114% |
| Kansas | **3,288** | **2,913** | 3,156 | 2,913 | **4%** | **113%** | 108% |
| Texas | **1,041** | **1,037** | 1,110 | 1,040 | **(6)%** | **100%** | 107% |

Normal HDDs are established through rate proceedings in each of our rate jurisdictions for use primarily in weather normalization billing calculations. Normal HDDs disclosed above are based on:

- 10-year weighted average HDDs as of December 31, 2008, for years 1999-2008, as calculated using 11 weather stations across Oklahoma and weighted on average customer count for Oklahoma;
- 30-year average for years 1981-2010 published by the National Oceanic and Atmospheric Administration, as calculated using 13 weather stations across Kansas and weighted on HDDs by weather station and customers for Kansas; and
- HDDs, which are used primarily in the weather normalization billing calculations for each service area of Texas, are weighted using a rolling 10-year average of actual natural gas distribution sales volumes by service area for Texas.

Actual HDDs are based on quarter-to-date and year-to-date, weighted average of:

- 11 weather stations and customers by month for Oklahoma;
- 13 weather stations and customers by month for Kansas; and
- 9 weather stations and natural gas distribution sales volumes by service area for Texas.

### CONTINGENCIES

**Legal Proceedings -** We are a party to various litigation matters and claims that have arisen in the normal course of our operations. While the results of litigation and claims cannot be predicted with certainty, we believe the reasonably possible losses from such matters, individually and in the aggregate, are not material. Additionally, we believe the probable final outcome of such matters will not have a material adverse effect on our results of operations, financial position or cash flows.

### LIQUIDITY AND CAPITAL RESOURCES

**General -** From the date of the separation, we have funded operating expenses, working capital requirements, including purchases of natural gas, and capital expenditures primarily with cash from operations and the retained proceeds from our private placement of senior notes in January 2014. Prior to the separation, we relied primarily on operating cash flow and participation in ONEOK’s cash management program for our liquidity and capital resource requirements.

We entered into the ONE Gas Credit Agreement, which is a $700 million unsecured revolving credit facility that became effective upon our separation from ONEOK. In the future, we expect to enter into a commercial paper program to support our working capital requirements and general corporate needs.

We believe that the combination of the significant residential component of our customer base, the fixed-charge component of our natural gas sales net margin and our regulatory rate mechanisms that we have in place result in a stable cash flow profile. Because the energy consumption of residential customers is less volatile compared with commercial and industrial customers, our business historically has generated stable and predictable net margin and cash flows. Additionally, we have several regulatory rate mechanisms in place to reduce the lag in earning a return on our capital expenditures. We anticipate that our cash flow generated from operations and our expected short- and long-term financing arrangements will enable us to maintain our current and planned level of operations and provide us flexibility to finance our infrastructure investments.

Our ability to access capital markets for debt and equity financing under reasonable terms depends on market conditions and our financial condition and credit ratings. We believe that stronger credit ratings will provide a significant advantage to our business. By maintaining a conservative financial profile and stable revenue base, we believe that we will be able to maintain an investment-grade credit rating, which we believe will provide us access to diverse sources of capital at favorable rates in order to finance our infrastructure investments.

**Short-term Financing -** We entered into the ONE Gas Credit Agreement, which is scheduled to expire in January 2019. The ONE Gas Credit Agreement contains certain financial, operational and legal covenants. Among other things, these covenants include maintaining a debt-to-capital ratio of no more than 70 percent at the end of any calendar quarter. The ONE Gas Credit Agreement also contains customary affirmative and negative covenants, including covenants relating to liens, indebtedness of subsidiaries, investments, changes in the nature of business, fundamental changes, transactions with affiliates, burdensome agreements, and use of proceeds. In the event of a breach of certain covenants by us, amounts outstanding under the ONE Gas Credit Agreement may become due and payable immediately. At June 30, 2014, our debt-to-capital ratio was 40 percent, and we were in compliance with all covenants under the ONE Gas Credit Agreement.

The ONE Gas Credit Agreement includes a $50 million sublimit for the issuance of standby letters of credit and also features an option to request an increase in the size of the facility to an aggregate of $1.2 billion from $700 million, upon satisfaction of customary conditions, including receipt of commitments from new lenders or increased commitments from existing lenders. Borrowings made under the facility are available for general corporate purposes. The ONE Gas Credit Agreement contains provisions for an applicable margin rate and an annual facility fee, both of which adjust with changes in our credit rating. Based on our credit ratings, borrowings, if any, will accrue interest at LIBOR plus 79.5 basis points, and the annual facility fee is 8 basis points. The total amount of short-term borrowings authorized by ONE Gas’ Board of Directors is $1.2 billion. At June 30, 2014, we had no short-term borrowings, $0.7 million in letters of credit issued under the ONE Gas Credit Agreement and approximately $161.3 million of cash and cash equivalents. At June 30, 2014, we had $699.3 million of credit available under the ONE Gas Credit Agreement.

We may reduce the unutilized portion of the ONE Gas Credit Agreement in whole or in part without premium or penalty. The ONE Gas Credit Agreement contains customary events of default. Upon the occurrence of certain events of default, the obligations under the ONE Gas Credit Agreement may be accelerated and the commitments may be terminated.

**Debt Issuance -** In January 2014, we completed a private placement of Senior Notes, consisting of $300 million of 2.07 percent senior notes due 2019, $300 million of 3.61 percent senior notes due 2024 and $600 million of 4.658 percent notes due 2044. The net proceeds from the private placement were approximately $1.19 billion and were used to fund a one-time cash payment to ONEOK of approximately $1.13 billion in connection with the separation. The remaining portion of the net proceeds was retained in order to provide sufficient financial flexibility and to support working capital requirements and capital expenditures.

The indenture governing our Senior Notes includes an event of default upon the acceleration of other indebtedness of $100 million or more. Such events of default would entitle the trustee or the holders of 25 percent in aggregate principal amount of the outstanding senior notes to declare those senior notes immediately due and payable in full.

We may redeem our Senior Notes at par, plus accrued and unpaid interest to the redemption date, starting one month, three months, and six months, respectively, before their maturity dates. Prior to these dates, we may redeem these Senior Notes, in whole or in part, at a redemption price equal to the principal amount, plus accrued and unpaid interest and a make-whole premium. The redemption price will never be less than 100 percent of the principal amount of the respective Senior Notes plus accrued and unpaid interest to the redemption date. Our Senior Notes are senior unsecured obligations, ranking equally in right of payment with all of our existing and future unsecured senior indebtedness.

In connection with the issuance of our Senior Notes, we entered into a registration rights agreement, pursuant to which we are obligated to use our commercially reasonable efforts to file with the SEC and cause to become effective a registration statement with respect to an offer to exchange each series of our Senior Notes for new notes, with terms substantially identical in all material respects to each such series of our Senior Notes. Alternatively, if the exchange offers are not available, cannot be completed or the Senior Notes are ineligible to be exchanged in the exchange offers for one or more series of senior notes, we will be required to use our commercially reasonable efforts to file a shelf registration statement to cover resales of our Senior Notes under the Securities Act. If we do not comply with these obligations, we will be required to pay additional interest on our Senior Notes under specified circumstances. We expect to complete the exchange offer for our Senior Notes in the third quarter of 2014.

**Credit Ratings -** Our credit ratings as of June 30, 2014 were:

| Rating Agency | Rating | Outlook |
| --- | --- | --- |
| Moody’s | A2 | Stable |
| S&P | A- | Stable |

We intend to maintain strong credit metrics while we pursue a balanced approach to capital investment and a return of capital to shareholders via a dividend that we believe will be competitive with our peer group.

**Capitalization structure -** As of June 30, 2014, our total capitalization structure is 40 percent debt to 60 percent equity.

**Pension and Postretirement Benefit Plans -** Information about our pension and postretirement benefits plans, including anticipated contributions, is included under Note 8 of the ONE Gas Predecessor Notes to Financial Statements in our Annual Report. See Note 6 of the Notes to Financial Statements in this Quarterly Report for additional information.

### CASH FLOW ANALYSIS

We use the indirect method to prepare our Statements of Cash Flows. Under this method, we reconcile net income to cash flows provided by operating activities by adjusting net income for those items that impact net income but may not result in actual cash receipts or payments and changes in our assets and liabilities not classified as investing or financing activities during the period. Items that impact net income but may not result in actual cash receipts or payments include, but are not limited to, depreciation and amortization, deferred income taxes and provision for doubtful accounts.

Prior to the separation, we utilized ONEOK’s centralized cash management program that concentrated the cash assets of its operating divisions and subsidiaries in joint accounts for the purpose of providing financial flexibility and lowering the cost of borrowing, transaction costs and bank fees. Under this cash management program, depending on whether we had a short-term cash surplus or cash requirement, we provided cash to ONEOK or ONEOK provided cash to us when necessary. Subsequent to the separation, we maintain separate cash accounts from ONEOK, and our interest expense is related only to our borrowings.

The following table sets forth the changes in cash flows by operating, investing and financing activities for the periods indicated:

| Total cash provided by (used in): | Six Months Ended June 30, 2014 (Millions of dollars) | 2013 | Variances 2014 vs. 2013 Increase (Decrease) |
| --- | ---: | ---: | ---: |
| Operating activities | **$261.7** | $225.0 | **$36.7** |
| Investing activities | **(148.6)** | (126.9) | **(21.7)** |
| Financing activities | **45.1** | (98.3) | **143.4** |
| Change in cash and cash equivalents | **158.2** | (0.2) | **158.4** |
| Cash and cash equivalents at beginning of period | **3.1** | 4.0 | **(0.9)** |
| Cash and cash equivalents at end of period | **$161.3** | $3.8 | **$157.5** |

**Operating Cash Flows -** Operating cash flows are affected by earnings from our business activities. Changes in natural gas prices and demand for our services or natural gas, whether because of general economic conditions, changes in supply or increased competition from other service providers, could affect our earnings and operating cash flows.

2014 vs. 2013 - Cash flows from operating activities increased for the six months ended June 30, 2014, compared with the same period in 2013. The increase was due primarily to the collection of trade receivables, payment of trade payables and the recovery of gas purchase costs through our purchased-gas cost mechanisms. The timing of cash collections from customers and payments to vendors and suppliers vary from period to period in the normal course of business and directly impact our cash flows from operations. Typically, our cash flow from operations are greater in the first half of the year compared with the second half of the year.

**Investing Cash Flows -** Cash used in investing activities increased for the six months ended June 30, 2014, compared with the prior period due primarily to capital expenditures for pipeline replacements.

**Financing Cash Flows -** The changes in cash flows from financing activities are the result of our $1.19 billion debt issuance and $1.13 billion cash payment to ONEOK in connection with our separation from ONEOK in 2014, compared with our participation in ONEOK’s cash management program and our distributions to ONEOK in 2013.

### ENVIRONMENTAL, SAFETY AND REGULATORY MATTERS

**Environmental Matters -** We are subject to multiple historical, wildlife preservation and environmental laws and/or regulations, which affect many aspects of our present and future operations. Regulated activities include, but are not limited to, those involving air emissions, storm water and wastewater discharges, handling and disposal of solid and hazardous wastes, wetland preservation, hazardous materials transportation, and pipeline and facility construction. These laws and regulations require us to obtain and/or comply with a wide variety of environmental clearances, registrations, licenses, permits and other approvals. Failure to comply with these laws, regulations, licenses and permits may expose us to fines, penalties and/or interruptions in our operations that could be material to our results of operations. In addition, emission controls and/or other regulatory or permitting mandates under the Clean Air Act and other similar federal and state laws could require unexpected capital expenditures at our facilities. We cannot assure that existing environmental statutes and regulations will not be revised or that new regulations will not be adopted or become applicable to us. Revised or additional statutes or regulations that result in increased compliance costs or additional operating restrictions could have a material adverse effect on our business, financial condition, results of operations and cash flows.

**Pipeline Safety -** We are subject to PHMSA regulations, including integrity-management regulations. The Pipeline Safety Improvement Act requires pipeline companies operating high-pressure pipelines to perform integrity assessments on pipeline segments that pass through densely populated areas or near specifically designated high-consequence areas. In January 2012, the Pipeline Safety, Regulatory Certainty and Job Creation Act was signed into law. The new law increased maximum penalties for violating federal pipeline safety regulations and directs the DOT and the Secretary of Transportation to conduct further review or studies on issues that may or may not be material to us. These issues include but are not limited to the following:

- an evaluation on whether natural gas pipeline integrity-management requirements should be expanded beyond current high-consequence areas;
- a verification of records for pipelines in class 3 and 4 locations and high-consequence areas to confirm maximum allowable operating pressures; and
- a requirement to test previously untested pipelines operating above 30 percent yield strength in high-consequence areas.

The potential capital and operating expenditures related to this legislation, the associated regulations or other new pipeline safety regulations are unknown.

**Air and Water Emissions -** The Clean Air Act, the Clean Water Act, analogous state laws and/or regulations promulgated thereunder, impose restrictions and controls regarding the discharge of pollutants into the air and water in the United States. Under the Clean Air Act, a federally enforceable operating permit is required for sources of significant air emissions. We may be required to incur certain capital expenditures for air-pollution-control equipment in connection with obtaining or maintaining permits and approvals for sources of air emissions. The Clean Water Act imposes substantial potential liability for the removal of pollutants discharged to waters of the United States and remediation of waters affected by such discharge.

Federal, state and regional initiatives to measure and regulate greenhouse gas emissions are underway. We monitor all relevant federal and state legislation to assess the potential impact on our operations. The EPA’s Mandatory Greenhouse Gas Reporting Rule requires annual greenhouse gas emissions reporting as carbon dioxide equivalents from affected facilities and for the natural gas delivered by us to our natural gas distribution customers who are not otherwise required to report their own emissions. Our 2013 total reported emissions were approximately 14.0 million metric tons of carbon dioxide equivalents. This total includes the carbon dioxide equivalents from natural gas delivered to customers as if all such gas were combusted and the carbon dioxide equivalents of certain fugitive methane emissions from our pipelines. The additional cost to gather and report this emission data did not have, and we do not expect it to have, a material impact on our results of operations, financial position or cash flows. In addition, Congress has considered, and may consider in the future, legislation to reduce greenhouse gas emissions, including carbon dioxide and methane. Likewise, the EPA may institute additional regulatory rulemaking associated with greenhouse gas emissions. At this time, no rule or legislation has been enacted that assesses any costs, fees or expenses on any of these emissions.

**CERCLA -** The federal Comprehensive Environmental Response, Compensation and Liability Act, also commonly known as Superfund, imposes strict, joint and several liability, without regard to fault or the legality of the original act, on certain classes of “persons” that caused and/or contributed to the release of a hazardous substance into the environment. These persons include but are not limited to the owner or operator of a facility where the release occurred and/or companies that disposed or arranged for the disposal of the hazardous substances found at the facility. Under CERCLA, these persons may be liable for the costs of cleaning up the hazardous substances released into the environment, damages to natural resources and the costs of certain health studies. We do not expect that our responsibilities under CERCLA will have a material impact on our respective results of operations, financial position or cash flows.

**Pipeline Security -** The United States Department of Homeland Security’s Transportation Security Administration issued updated pipeline security guidelines in April 2012. Our pipeline facilities have been reviewed according to the current guidelines and no material changes have been required to date.

**Environmental Footprint -** Our environmental and climate change strategy focuses on taking steps to minimize the impact of our operations on the environment. These strategies include: (1) developing and maintaining an accurate greenhouse gas emissions inventory according to current rules issued by the EPA; (2) improving the efficiency of our various pipelines; (3) following developing technologies for emission control; and (4) utilizing practices to reduce the loss of methane from our facilities.

We participate in the EPA’s Natural Gas STAR Program to voluntarily reduce methane emissions. We continue to focus on maintaining low rates of lost-and-unaccounted-for natural gas through expanded implementation of best practices to limit the release of natural gas during pipeline and facility maintenance and operations.

**Regulatory** - Several regulatory initiatives impacted the earnings and future earnings potential of our business. See discussion of our regulatory initiatives in Management’s Discussion and Analysis of Financial Condition and Results of Operations.

### IMPACT OF NEW ACCOUNTING STANDARDS

Information about the impact of new accounting standards, if any, is included in Note 1 of the Notes to Financial Statements in this Quarterly Report.

### ESTIMATES AND CRITICAL ACCOUNTING POLICIES

The preparation of our financial statements and related disclosures in accordance with GAAP requires us to make estimates and assumptions with respect to values or conditions that cannot be known with certainty that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements. These estimates and assumptions also affect the reported amounts of revenue and expenses during the reporting period. Although we believe these estimates and assumptions are reasonable, actual results could differ from our estimates.

Information about our estimates and critical accounting policies is included under Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, “Estimates and Critical Accounting Policies,” in our Annual Report.

### FORWARD-LOOKING STATEMENTS

Some of the statements contained and incorporated in this Quarterly Report are forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. The forward-looking statements relate to our anticipated financial performance, liquidity, management’s plans and objectives for our future operations, our business prospects, the outcome of regulatory and legal proceedings, market conditions and other matters. We make these forward-looking statements in reliance on the safe harbor protections provided under the Private Securities Litigation Reform Act of 1995. The following discussion is intended to identify important factors that could cause future outcomes to differ materially from those set forth in the forward-looking statements.

Forward-looking statements include the items identified in the preceding paragraph, the information concerning possible or assumed future results of our operations and other statements contained or incorporated in this Quarterly Report identified by words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe,” “should,” “goal,” “forecast,” “guidance,” “could,” “may,” “continue,” “might,” “potential,” “scheduled,” and other words and terms of similar meaning.

One should not place undue reliance on forward-looking statements, which are applicable only as of the date of this Quarterly Report. Known and unknown risks, uncertainties and other factors may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by forward-looking statements. Those factors may affect our operations, markets, products, services and prices. In addition to any assumptions and other factors referred to specifically in connection with the forward-looking statements, factors that could cause our actual results to differ materially from those contemplated in any forward-looking statement include, among others, the following:

- our ability to recover operating costs and amounts equivalent to income taxes, costs of property, plant and equipment and regulatory assets in our regulated rates;
- our ability to manage our operations and maintenance costs;
- changes in regulation, including the application of market rates by state and local agencies;
- the economic climate and, particularly, its effect on the natural gas requirements of our residential and

commercial industrial customers;

- competition from alternative forms of energy, including, but not limited to, solar power, wind power, geothermal energy and biofuels;
- variations in weather, including seasonal effects on demand, the occurrence of storms and disasters, and climate change;
- indebtedness could make us more vulnerable to general adverse economic and industry conditions, limit our ability to borrow additional funds and/or place us at competitive disadvantage compared with competitors;
- our ability to secure reliable, competitively priced and flexible natural gas supply;
- the mechanical integrity of facilities operated;
- adverse labor relations;
- the effectiveness of our strategies to reduce earnings lag, margin protection strategies and risk mitigation strategies;
- our ability to generate sufficient cash flows to meet all our cash needs;
- changes in the financial markets during the periods covered by the forward-looking statements, particularly those affecting the availability of capital and our ability to refinance existing debt and fund investments and acquisitions;
- actions of rating agencies, including the ratings of debt, general corporate ratings and changes in the rating agencies’ ratings criteria;
- changes in inflation and interest rates;
- our ability to purchase and sell assets at attractive prices and on other attractive terms;
- our ability to recover the costs of natural gas purchased for our customers, including the cost of derivative instruments used to mitigate the volatility of natural gas supply for our customers;
- impact of potential impairment charges;
- volatility and changes in markets for natural gas;
- possible loss of LDC franchises or other adverse effects caused by the actions of municipalities;
- changes in regulation of natural gas distribution services, particularly those in Oklahoma, Kansas and Texas;
- changes in law resulting from new federal or state energy legislation;
- changes in environmental, safety, tax and other laws to which we and our subsidiaries are subject;
- advances in technology;
- acts of nature and the potential effects of threatened or actual terrorism, including cyber attacks, and war;
- the sufficiency of insurance coverage to cover losses;
- the effects of our strategies to reduce tax payments;
- the effects of litigation and regulatory investigations, proceedings, including our rate cases, or inquiries;
- changes in accounting standards and corporate governance;
- our ability to attract and retain talented management and directors;
- the results of financing efforts, including our ability to obtain financing on favorable terms, which can be affected by various factors, including our credit ratings and general economic conditions;
- declines in the market prices of equity securities and resulting funding requirements for our defined benefit pension plans;
- the ability to successfully complete merger, acquisition or divestiture plans, regulatory or other limitations imposed as a result of a merger, acquisition or divestiture, and the success of the business following a merger, acquisition or divestiture;
- the final resolutions or outcomes with respect to our contingent and other corporate liabilities related to the natural gas distribution business and any related actions for indemnification made pursuant to the Separation and Distribution Agreement;
- our ability to operate effectively as a separate, publicly traded company;
- the costs associated with becoming compliant with the Sarbanes-Oxley Act of 2002 as a stand-alone company and the consequences of failing to implement effective internal controls over financial reporting as required by Section 404 of the Sarbanes-Oxley Act of 2002; and
- the costs associated with increased regulation and enhanced disclosure and corporate governance requirements pursuant to the Dodd-Frank Wall Street Reform and the Consumer Protection Act of 2010.

These factors are not necessarily all of the important factors that could cause actual results to differ materially from those expressed in any of our forward-looking statements. Other factors could also have material adverse effects on our future results. These and other risks are described in greater detail in Item 1A, Risk Factors, in our Annual Report. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by these factors. Other than as required under securities laws, we undertake no obligation to update publicly any forward-looking statement whether as a result of new information, subsequent events or change in circumstances, expectations or otherwise.

## Market risk

As filed, 2,061 characters.

Our quantitative and qualitative disclosures about market risk are consistent with those discussed in Part II, Item 7A, Quantitative and Qualitative Disclosures About Market Risk, in our Annual Report.

### Commodity Price Risk

Our commodity price risk, driven primarily by fluctuations in the price of natural gas, is mitigated by our purchased-gas cost adjustment mechanisms. Additionally, we inject natural gas into storage during the summer months and withdraw the natural gas during the winter heating season. We use derivative instruments to mitigate the volatility of natural gas prices for anticipated natural gas purchases during the winter heating months. Premiums paid and any cash settlements received associated with these derivative instruments are included in, and recoverable through our purchased-gas cost adjustment mechanisms. These costs are subject to review by regulatory authorities.

### Interest-Rate Risk

We would be exposed to interest-rate risk with any new debt financing. We are able to manage interest-rate risk through the use of fixed-rate debt, floating-rate debt and, at times, interest-rate swaps. Fixed-rate swaps may be used to reduce our risk of increased interest costs during periods of rising interest rates. Floating-rate swaps may be used to convert the fixed rates of long-term borrowings into short-term variable rates.

### Counterparty Credit Risk

We assess the creditworthiness of our customers. Those customers who do not meet minimum standards are required to provide security, including deposits and other forms of collateral, when appropriate. With more than 2 million customers across three states, we are not exposed materially to a concentration of credit risk. We maintain a provision for doubtful accounts based upon factors surrounding the credit risk of customers, historical trends, consideration of the current credit environment and other information. In most jurisdictions, we are able to recover the natural gas cost component of our uncollectible accounts through our purchased-gas cost mechanisms.

## Controls and procedures

As filed, 719 characters.

**Quarterly Evaluation of Disclosure Controls and Procedures** - Our Chief Executive Officer (Principal Executive Officer) and Chief Financial Officer (Principal Financial Officer) have concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report based on the evaluation of the controls and procedures required by Rules 13(a)-15(b) of the Exchange Act.

**Changes in Internal Control Over Financial Reporting** - There have been no changes in our internal control over financial reporting during the second quarter ended June 30, 2014, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

## Risk factors

As filed, 736 characters.

Our investors should consider the risks set forth in Part I, Item 1A, Risk Factors, of our Annual Report that could affect us and our business. Although we have tried to discuss key factors, our investors need to be aware that other risks may prove to be important in the future. New risks may emerge at any time, and we cannot predict such risks or estimate the extent to which they may affect our financial performance. Investors should carefully consider the discussion of risks and the other information included or incorporated by reference in this Quarterly Report, including “Forward-Looking Statements,” which are included in Part I, Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Filed Aug 5, 2014.
Source: SEC EDGAR, the filing index for accession 0001587732-14-000037. Last ingested by Listed: Nov 3, 2026, 18:56 ET. No prices; not investment advice.