MDU RES GROUP (MDU) is a diversified natural gas and energy company. It owns and operates public utilities distributing natural gas and electricity to over 350,000 customers in 7 states in the Western U.S. It explores for and produces natural gas and oil in the U.S.. Finally, it provides construction contracting services to the natural gas industry and construction materials to various industries across the country. Its diversified operating segments reduce MDU's exposure to risks experienced in just one of its industries. For example, in the first quarter of 2008 slowed home construction caused profits at MDU's building materials segment to plummet.
[1] The company posted large increases in net income, however, due to increases in its natural gas and oil production segment which offset the declines in the construction segment.
In 2007 26% of MDU's revenues came from regulated sources. MDU's natural gas and electric utilities are regulated by the state governments in which they operate and MDU's pipeline segment is regulated by the Federal Energy Regulatory Commission, FERC. These agencies establish what rates MDU can charge in its segments and approve expansion projects. Regulated industries are historically lower risk, as rates are established to ensure companies earn a positive rate of return. However, due to rate caps and restrictions on competition, earning rates of return above those established by regulatory agencies is unlikely.
One of the primary factors affecting MDU's performance is the demand for natural gas in the United States. Almost all MDU's business segments are centered around the natural gas industry, either producing, transporting, consuming or building infrastructure for natural gas. As demand for natural gas increases, revenues at its natural gas distribution, pipeline and natural gas production segments increase as natural gas prices and volumes transported rise. The revenues at the company's construction services and construction Materials segments are also affected by the demand for natural gas, as they supply materials and contracting services to the energy industry. The demand for natural gas infrastructure rises along with the demand for natural gas, increasing revenues at MDU's construction materials and construction services segments.
[edit] Business Financials
MDU operates six separate and distinct business segments, with a central focus on energy, particularly the natural gas industry.
- Electric Generation: The company provides retail electric services to residential and commercial customers. This unit operates four principal power generating stations, all of which use coal for fuel.[2] It also owns 4500 miles of distribution lines, used to transmit power produced at its generators to end consumers.[3] MDU's electric generation segment is regulated by the states in which it operates. Regulations include the rates it can charge customers and which expansion projects it can undertake. Income is affected by the price of gas used in its generators and rates it can charge its customers. In 2007 the electric generation division finished a large wind farm in Minnesota, representing the company's first movement into the renewable energy market.[4]
- Natural Gas Distribution: MDU owns 11,000 miles of intrastate distribution pipeline it uses to deliver natural gas at retail to over 450,000 residential, commercial and industrial customers.[5] MDU's gas distribution segment is regulated by the states in which it operates. Regulations include the rates it can charge customers and which expansion projects it can undertake. Examples of projects in this segment include a natural gas pipeline built in 2007 that will supply the ethanol to a new 55 million gallon a year ethanol plant in Minnesota, which begin operation in early 2008.[6]
- Construction Services: The company focuses on construction of energy related infrastructure, including natural gas pipelines, electrical distribution lines and inside electrical wiring.[7] This segment has been a driver of company net income growth; in 2007 construction services saw a 60% gain in net income, the largest gain of any of the company’s business segments.[8] That growth is expected to continue in 2008. As of December 31st 2007 the company had a backlog of $837M in development projects. The main driver of revenue growth in this segment is demand for electrical infrastructure. MDU reports that electric companies are expected to spend $44B over the next three years expanding infrastructure.[9]
- Pipelines: The company owns and operates 3,700 miles of natural gas pipelines and three underground natural gas storage facilities.[10] The operation of this business segment is regulated by the Federal Energy Regulatory Commission (FERC), a federal regulatory agency. This commission sets the rates MDU can charge on its pipeline business, providing income stability but little room for earning above average returns. Because rates are fixed, revenue growth at MDU's pipeline segment requires an increase in volumes transported, either through increasing market share or increasing demand for natural gas. The stable income generated from MDU's pipeline segment helps the company to expand in other areas however, as it can use the pipelines constant revenue to fund high debt service payments.
- Natural Gas and Oil Production: MDU explores for and produces natural gas and oil in the United States.[11] MDU earns revenue in this segment by selling the natural gas and oil it produces. Income in this segment depends on MDU's ability to find undiscovered reserves of oil and natural gas, extract them at a cost effective basis and sell them at a high price.[12] In 2007, 73% of revenues in this business segment came from the sale of natural gas.[13]
- Construction Materials and Contracting: It takes 22,000 pounds of sand, gravel and stone per person, per year, to maintain the United States' roads, sidewalks, buildings and other infrastructure.[14] MDU´s materials and contracting segments helps to fill that need, selling rock, cement, asphalt and concrete, its extracts from company owned rock pits and quarries. In the long run, MDU estimates that the demand for these materials will increase 20% by 2020, a need which the company will be able to meet with 1.2B tons of reserves.[15] In the short run, however, demand for MDU's construction materials has declined due to the slowdown in the U.S. Housing Market.[16] This slowdown has decreased the demand for MDU's building materials, and lowered revenues and income at the segment. The company intends to offset this slowdown by providing materials to the growing energy construction industry.
Natural Gas and Oil Production were high margin businesses for MDU in 2007, accounting for only 11% of revenue but 45% of net income. The company's construction businesses, though producing the majority of the company's revenue, produced much smaller portions of the company's net income. The majority of the company's net income came from business segments directly affected by the price and demand for natural gas, including electrical generation, natural gas production, natural gas distribution and pipelines.
In 2007 revenue increased due to an acquisition in the company's natural gas distribution segment.[18] Operating income also climbed, driven by decreased expenses in the company's construction services segment, and increased earnings from the company's natural gas distribution segment.[19] The company has been steadily increasing its efficiency, over the last few years as operating income as a percentage of revenue has slowly climbed. This is due to a couple of factors. The first is increasing efficiency and higher margins fueled by increased demand at the company's Construction Services segment.[20] The second is high oil and gas prices increasing revenues at the company's Oil and Gas Production segment.[21] Because this segments operates with high margins, increasing percentages of revenues coming from this segment increases operating income as a percentage of revenues.
[edit] Trends And Forces
[edit] Slowdown in U.S. Housing Market is Decreasing Demand at MDU's Building Materials Segment
The slowdown in the U.S. housing market has created a slowdown in the homebuilding industry. In April of 2008, a survey of The National Association of Home Builders revealed homebuilders were pessimistic about the demand for newly built homes due to tightening credit conditions, increasing defaults and consumer's waiting for housing prices to decline further.[23] In an April conference call, Fitch Ratings Service said they expect the housing market to contract more in 2008 and 2009, further hurting homebuilders.[24] MDU is affected by the slowdown because it supplies construction materials to these homebuilders. In 2008 operating at MDU's construction materials and contracting segment decreased by $17.5M, or 13%, due to lower volumes in its sales of materials and contracting services.[25] The company intends to offset the slowdown in housing by switching its focus to supplying materials in growing energy construction industry.
[edit] Fluctuating Natural Gas Prices Affect Demand for Natural Gas
The price of natural gas has undergone wide fluctuations in the past five years. The price has declined slightly in the past two years, down 5% since a record high in 2005, though the price is still up 43% since 2002.[26] These price fluctuations affect demand for natural gas as other fuels become cheaper substitutes, especially among facilities with the capacity to switch to other types of fuels. For example many electrical power companies, who consumed 32% of all natural gas produced in 2007, switch to coal power during periods of high natural gas prices.[27] The price of coal has risen slower than the price of natural gas, and provides cheaper power during periods of high gas prices.[28] Many industrial users, who used 31% of natural gas produced in 2007, also have built in fuel switching capacities. [29] While residential and commercial users usually have no built in switching capacity many still conserve energy during periods of high gas prices. When demand for natural gas falls, MDU feels the affects in most of its business segments. In pipelines and natural gas distribution, revenue falls as smaller volumes are transported to end users. Similarly in gas production, smaller volumes demanded can counteract high prices and lead to decreased total revenues. Finally, MDU's construction services and construction materials segments build infrastructure and provide construction materials to the natural gas industry. As demand for natural gas falls construction of new wellheads, processing plants and pipelines slows, lowering revenues at MDU's construction businesses.
[edit] The United States is Switching Towards Eco-Friendly Energy Sources, Which Hurts MDU´s Electric Operations and Has A Mixed Effect On Demand For Natural Gas
Increasing environmental concern has a direct affect on the demand for natural gas. In the long run, increasing consumer concern over Global Climate Change will decrease the demand for natural gas. Already increasing environmental consciousness has led both consumers and electric companies to seek out and invest in renewable energy sources such as nuclear, solar, and wind power to heat homes and generate electricity.[30] To date, 24 states have adopted renewable portfolio standards, which require power companies to purchase a certain percentage of their electricity from renewable sources by a certain date (percentages and dates vary from state to state).[31] As residential customers and electric power plants switch to other forms of energy, the demand for natural gas will fall. However, these renewable sources of energy are not yet developed enough to provide for the majority of energy uses in the United States. In the short run natural gas is one of the cleanest burning fuels in widespread use today.[32] Many electric companies are switching to natural gas as a cleaner alternative to coal and oil power plants.[33] The movement in the United States to combat Global Climate Change and will likely increase the demand for natural gas in the short run as other, more environmentally energy sources are not yet fully developed.
This shift in consumer consciousness also affects MDU´s electric utilities. Virtually all of the company´s electric power is generated from coal. Coal combustion produces more Carbon Dioxide, Carbon Monoxide, Nitrogen Oxides, Sulfur Dioxide, Ash and Mercury, all pollutants and contributors to global warming, per billion BTU's of energy produced than either oil or natural gas.[34] Though consumers do not have the choice to purchase electricity from another operator, increasing consumer consciousness about the effects of coal will likely lead many consumers to conserve electricity and lobby for more environmental regulations.
[edit] Many of MDU's Segments are Dependent on the Weather, Creating Seasonality in Revenues
All of MDU´s business segments have some seasonality in revenue. For example, demand for natural gas is highest during the coldest months of winter when it is used to heat homes.[35] Due to the shift towards natural gas for generating electricity, demand for natural gas is also high during the summer months when people are using large amounts of electricity to cool their homes.[36] During the temperate fall and spring seasons demand for natural gas drops sharply.[37] Revenues at MDU's Gas Production, Pipeline, and Distribution segments decline during the spring and fall as producers transport less gas to accommodate low consumer demand. Revenues at MDU´s Electric segment are typically highest during the summer months when consumers use less electricity to heat their homes. Revenues at MDU's Materials and Construction Services segments also vary seasonally. Construction projects increase during the summer due to better weather and decrease during the winter as harsh weather stalls many projects.[38] During 2007 and 2006 MDU´s first quarter (January through March) operating revenues were $790M and $803M respectively. MDU´s third quarter revenues (July through September), however, were $1.2B in both 2007 and 2006 due to the seasonal affects at MDU´s construction, gas, and electrical generation businesses
[edit] Competition
Because MDU is diversified, it competes with many different companies, some in only one or two business segments. The charts below compare MDU with competitors in its pipeline, natural gas and oil production, and utilities segments.
In its gas distribution and electric utility divisions MDU's operations are regulated and customers often don't have the choice to choose another electric company or gas provider. In the case where customers can choose another electric or gas provider, MDU is permitted to charge transportation rates for use of its distribution infrastructure that yield margins equal to those the company would have earned if it had sold the natural gas or electricity.
| Company
| Revenues (12/31/2007, $ in Millions)
| Market Cap($ in Billions, 05/15/08)
| Natural Gas Customers
| Electric Customers
| States With Utility Operations
|
| MDU RES GROUP (MDU)
| $4,247.00[39]
| $5.73[40]
| 256,000[41]
| 120,000[42]
| 7[43]
|
| NiSource, Inc (NI)
| $7,939.80[44]
| $4.96[45]
| 3,300,000[46]
| 457,000[47]
| 10[48]
|
| Vectren (VVC)
| $2,281.90[49]
| $2.16[50]
| 998,000[51]
| 122,000[52]
| 2[53]
|
| Atmos Energy (ATO)
| $1,361.41[54]
| $2.56[55]
| 3,200,000[56]
| N/A[57]
| 12[58]
|
| Puget Sound Energy (PSD)
| $3,220.15[59]
| $3.61[60]
| 730,000[61]
| 1,100,000[62]
| 1[63]
|
In interstate pipelines and exploration and production, MDU competes with other companies for market share and long term gas transportation contracts. Though it has government rate caps for natural gas transmission, it sometimes lowers its rate below these caps to maintain competitive within the market. In all its markets, MDU not only competes with other natural gas companies, but with suppliers of alternative fuels. Increasing consumer demand for alternative sources of energy is leading to a rise in the amount of nuclear, solar, and wind power available to heat homes and generate electricity. As the market share of these renewable energy sources increases, the demand for MDU's natural gas and natural gas transportation services will fall.
| Company
| Revenues (12/31/2007, $ in Millions)
| Market Cap($ in Billions, 05/15/08)
| Miles of Interstate Pipeline
| Proved Reserves (Measured in Cubic Feet of Natural Gas Equivalents)
|
| MDU RES GROUP (MDU)
| $4,247.00[64]
| $5.73[65]
| 5,600[66]
| 0.707 Trillion[67]
|
| El Paso (EP)
| $4,648.00[68]
| $13.85[69]
| 42,000[70]
| 2.9 Trillion[71]
|
| Williams Companies (WMB)
| $10,558.00[72]
| $21.62[73]
| 14,200[74]
| 3.7 Trillion[75]
|
| Equitable Resources (EQT)
| $1,361.41[76]
| $8.80[77]
| 3,200[78]
| 2.7 Trillion[79]
|
| Questar (STR)
| $2,726.6[80]
| $11.37[81]
| 2505[82]
| 1.87 Trillion[83]
|
| Kinder Morgan Energy Partners, L.P. (KMP)
| $9,217.7[84]
| $15.27[85]
| 25,000[86]
| 0.73 Trillion[87]
|
[edit] References
- ↑ Courtney Schlisserman ´´U.S. Builders Break Ground On Fewest Houses Since 2003¨ Bloomberg News Service 5/16/2008
- ↑ MDU 2007 Form 10-K page 32
- ↑ MDU 2007 Form 10-K page 35
- ↑ MDU 2007 Annual Report Page 19
- ↑ MDU 2007 Form 10-K page 35
- ↑ MDU 2007 Annual Report Page 22
- ↑ 2007 Form 10-K page 36
- ↑ 2007 Annual Report Page 21
- ↑ 2007 Annual Report Page 20
- ↑ 2007 Form 10-K page 36
- ↑ 2007 Form 10-K page 36
- ↑ 2007 Form 10-K page 36
- ↑ 2007 Annual Report Page 16
- ↑ 2007 Annual Report Page 14
- ↑ 2007 Annual Report Page 16
- ↑ 2007 Annual Report Page 16
- ↑ Google Finance: Company Income Statement: Annual Data
- ↑ MDU 2007 Form 10-K Page 51
- ↑ MDU 2007 Form 10-K Page 51
- ↑ MDU 2007 Form 10-K Page 51
- ↑ MDU 2007 Form 10-K Page 55
- ↑ Google Finance: Company Income Statement: Annual Data
- ↑ CNBC "Builders Pessimistic About Housing Market" April 18, 2008
- ↑ CNBC "Builders Pessimistic About Housing Market" April 18, 2008
- ↑ MDU 2007 Form 10-K
- ↑ Energy Information Association, Natural Gas Price Summary
- ↑ NaturalGas.Org: Factors Affecting The Demand For Natural Gas
- ↑ National Coal Mining Association, Average Price of Electricity Used at Electrical Plants, 2002-2006
- ↑ NaturalGas.Org: Factors Affecting The Demand For Natural Gas
- ↑ NaturalGas.Org: Factors Affecting The Demand For Natural Gas
- ↑ U.S. Department Of Energy, Information Resources, ¨Factors Affecting Demand For Natural Gas¨
- ↑ U.S. DOE: Natural Gas and The Environment: Table Listing Pollutants From Natural Gas and Other Major Fuels
- ↑ Amber Esponosa, Minnesota Public Radio, April 23, 2008
- ↑ NaturalGas.Org; Natural Gas and the Environment
- ↑ Natural Gas.Org: Factors Affecting Consumer Demand For Natural Gas
- ↑ Natural Gas.Org: Factors Affecting Consumer Demand For Natural Gas
- ↑ Natural Gas.Org: Factors Affecting Consumer Demand For Natural Gas
- ↑ 2007 Annual Report Page 36
- ↑ Google Finance: MDU Income Statement: Annual Data
- ↑ Google Finance: MDU Company Profile
- ↑ Reuters: MDU Company Page: Full Description
- ↑ Reuters: MDU Company Page: Full Description
- ↑ Reuters: MDU Company Page: Full Description
- ↑ Google Finance: NI Income Statement: Annual Data
- ↑ Google Finance: NI Company Profile
- ↑ Reuters: NI Company Page: Full Description
- ↑ Reuters: NI Company Page: Full Description
- ↑ Reuters: NI Company Page: Full Description
- ↑ Google Finance: VVC Income Statement: Annual Data
- ↑ Google Finance: VVC Company Profile
- ↑ Reuters: VVC Company Page: Full Description
- ↑ Reuters: VVC Company Page: Full Description
- ↑ Reuters: VVC Company Page: Full Description
- ↑ Google Finance: ATO Income Statement: Annual Data
- ↑ Google Finance: ATO Company Profile
- ↑ Reuters: ATO Company Page: Full Description
- ↑ Reuters: ATO Company Page: Full Description
- ↑ Reuters: ATO Company Page: Full Description
- ↑ Google Finance: PSD Income Statement: Annual Data
- ↑ Google Finance: PSD Company Profile
- ↑ Reuters: PSD Company Page: Full Description
- ↑ Reuters: PSD Company Page: Full Description
- ↑ Reuters: PSD Company Page: Full Description
- ↑ Google Finance: MDU Income Statement: Annual Data
- ↑ Finance: MDU Company Profile
- ↑ Reuters: MDU Company Page: Full Description
- ↑ Reuters: MDU Company Page: Full Description
- ↑ Google Finance: EP Income Statement: Annual Data
- ↑ Finance: EP Company Profile
- ↑ Reuters: EP Company Page: Full Description
- ↑ Reuters: EP Company Page: Full Description
- ↑ Google Finance: WMB Income Statement: Annual Data
- ↑ Finance: WMB Company Profile
- ↑ Reuters: WMB Company Page: Full Description
- ↑ WMB Company Website, About Us
- ↑ Google Finance: EQT Income Statement: Annual Data
- ↑ Finance: EQT Company Profile
- ↑ EQT 2007 Form 10-K Page 16
- ↑ EQT 2007 Annual Report Page 1
- ↑ Google Finance: STR Income Statement: Annual Data
- ↑ Finance: STR Company Profile
- ↑ Reuters: STR Company Page: Full Description
- ↑ Reuters: STR Company Page: Full Description
- ↑ Google Finance: KMP Income Statement: Annual Data
- ↑ Finance: STR Company Profile
- ↑ Google Finance: KMP Company Page: Company Profile
- ↑ KMP 2007 Form 10-K Page 206
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