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AltaGas Utility Group Inc. Announces First Quarter 2007 Results and a Quarterly Dividend of $0.035 Per Share

May 07, 2007

CALGARY, ALBERTA--(CCNMatthews - May 7, 2007) - The Board of Directors of AltaGas Utility Group Inc. (Utility Group) (TSX:AUI) today announced net income of $3.8 million ($0.46 per share) for the first quarter of 2007, up from $3.2 million ($0.40 per share) for the first quarter of 2006. Results increased primarily as a result of new business growth and colder weather compared to 2006. The strong first quarter results are indicative of the seasonal nature of the gas distribution business. A dividend of $0.035 per common share payable on July 16, 2007 to shareholders of record at the close of business on June 29, 2007 was also declared. "We are very pleased to begin our second full year of reporting on a strong note," said Patricia Newson, President and Chief Executive Officer. "Although the first quarter of each year is typically strong, first quarter 2007 net income was 19 percent higher than the prior year's. The strong Alberta economy and emerging gas distribution business in Nova Scotia are continuing to build on our asset base as we head into the end of the heating season." Net revenue for the first quarter of 2007 was $13.7 million, up from $12.0 million in the first quarter of 2006. Customer growth at both AltaGas Utilities Inc. and Heritage Gas Limited contributed to stronger earnings in the first quarter of 2007 than in the first quarter of 2006. Weather in the first quarter of 2007 was colder than the same quarter in the prior year which also positively impacted net revenue. Lower delivered volumes in the first quarter of 2006 were a result of warmer than normal weather but the impact was offset by a $0.5 million increase in net revenue due to a change in the method of billing for the fixed charge component of AltaGas Utilities Inc.'s delivery rates. Operating income in the first three months of 2007 was $6.0 million compared to $5.7 million in the first three months of 2006. After interest expense of $1.0 million and income tax expense of $1.3 million, net income was $3.8 million. Funds generated from operations were $5.7 million in the first three months of 2007 compared to $5.1 million in the first three months of 2006. AltaGas Utility Group Inc. is a publicly traded company holding interests in AltaGas Utilities Inc., Heritage Gas Limited and Inuvik Gas Ltd. Combined, these regulated natural gas distribution businesses serve more than 65,000 customers in three areas of Canada through an infrastructure of nearly 20,000 kilometres of pipelines. Utility Group intends to pursue opportunities to invest in infrastructure-based utility and related businesses with long-term, stable returns. AltaGas Utility Group's 8.2 million common shares began trading on the Toronto Stock Exchange under the symbol AUI on November 17, 2005. MANAGEMENT'S DISCUSSION AND ANALYSIS The following Management's Discussion and Analysis (MD&A) of financial condition and results of operations dated May 7, 2007 is a review of the results of operations and the liquidity and capital resources of AltaGas Utility Group Inc. (Utility Group) for the three months ended March 31, 2007 compared to the three months ended March 31, 2006. The MD&A should be read in conjunction with the accompanying unaudited consolidated financial statements and notes thereto for the three months ended March 31, 2007 and the audited consolidated financial statements and MD&A contained in Utility Group's Annual Report for the period ended December 31, 2006. This MD&A contains forward-looking statements. When used in this MD&A the words "may", "would", "could", "will", "intend", "plan", "anticipate", "believe", "seek", "propose", "estimate", "expect", and similar expressions, as they relate to Utility Group or an affiliate of Utility Group, are intended to identify forward-looking statements. In particular, this MD&A contains forward-looking statements with respect to, among other things, business objectives, expected growth, results of operations, performance, business projects and opportunities and financial results. These statements involve known and unknown risks, uncertainties and other factors that may cause actual results or events to differ materially from those anticipated in such forward-looking statements. Such statements reflect Utility Group's current views with respect to future events based on certain material factors and assumptions and are subject to certain risks and uncertainties. Many factors could cause Utility Group's actual results, performance or achievements to vary from those described in this MD&A including, without limitation, changes in market, competition, governmental or regulatory developments, general economic conditions and other factors set out in Utility Group's public disclosure documents. These factors should not be construed as exhaustive. Should one or more of these risks or uncertainties materialize, or should assumptions underlying forward-looking statements prove incorrect, actual results may vary materially from those described in this MD&A as intended, planned, anticipated, believed, sought, proposed, estimated or expected, and accordingly such forward-looking statements included in, or incorporated by reference in this MD&A should not be unduly relied upon. Such statements speak only as of the date of this MD&A. Utility Group does not intend, and does not assume any obligation, to update these forward-looking statements except as required by law. The forward-looking statements contained in this MD&A are expressly qualified as cautionary statements. Additional information regarding Utility Group can be found on its website at www.altagasutilitygroup.com. The continuous disclosure materials of Utility Group, including its prospectus, MD&A and audited financial statements, Annual Information Form, Information Circular and Proxy Statement, material change reports and press releases issued by Utility Group are available through Utility Group's website or directly through the SEDAR system at www.sedar.com. I. ALTAGAS UTILITY GROUP INC. Utility Group was incorporated under the Canada Business Corporations Act as 6414958 Canada Limited on July 6, 2005 and changed its name to AltaGas Utility Group Inc. on July 28, 2005. Through a series of transactions which closed on November 17, 2005, Utility Group listed on the TSX and acquired all of the outstanding shares of AltaGas Utility Holdings Inc. (AUHI). AUHI owns 100 percent of AltaGas Utilities Inc. (AUI), an indirect 24.9 percent share in Heritage Gas Limited (Heritage Gas) and a one-third share in Inuvik Gas Ltd. (Inuvik Gas). II. OVERVIEW OF THE BUSINESS AND STRATEGY The business of Utility Group is the ownership and operation of regulated natural gas transmission and distribution facilities in Alberta, Nova Scotia and the Northwest Territories, Canada that deliver or sell natural gas to end-users. Utility Group's earnings are highly seasonal, as revenues are primarily based on the demand for space heating in the winter months, mainly from November to March. Costs, on the other hand, are generally incurred more uniformly over the year. This typically results in profitable first and fourth quarters and net losses in the second and third quarters. Earnings can be impacted by variations from normal weather resulting in delivered volumes being different than anticipated. Increases in the number of customers or changes in customer usage are examples of factors that might typically offset the impacts of weather variations. AUI and Heritage Gas operate in regulated marketplaces where, as franchise holders, they are allowed the opportunity to earn regulated rates of return that provide for recovery of costs and a return on capital from the franchise capital investment base. Return on rate base comprises regulatory allowed financing costs and return on common equity. Inuvik Gas operates a natural gas distribution franchise in a "light-handed" regulatory environment where delivery service and natural gas pricing are market based. Utility Group's strategy is to grow its existing business through infill and expansion of services within current franchise areas or, in the case of Heritage Gas, to develop new systems in new market areas. In addition, Utility Group actively pursues the prudent acquisition of other utility infrastructure and related businesses in Canada. Utility Group's management team and Board of Directors have significant utility management, acquisition and capital markets experience. Management of Utility Group believes this experience will ensure prudent management and financing of existing capital commitments to support the expansion of AUI's systems, the build-out of the Heritage Gas system and new growth opportunities as they are identified. III. FINANCIAL AND OPERATING RESULTS Utility Group's financial information and the related discussion of financial results in the MD&A are for the three months ended March 31, 2007 and March 31, 2006. /T/ ---------------------------------------------------------------------------- Consolidated Financial Results ($ millions, except per share amounts Three Months Ended March 31 or as otherwise noted) 2007 2006 ---------------------------------------------------------------------------- Revenue 55.7 58.4 Net revenue(1) 13.7 12.0 EBITDA(1) 7.9 7.4 Operating income(1) 6.0 5.7 Net income 3.8 3.2 Funds generated from operations(1) 5.7 5.1 Total assets 185.7 172.0 Long-term liabilities 86.1 80.2 ---------------------------------------------------------------------------- Shares outstanding (thousands) Basic 8,190 8,190 Diluted 8,193 8,214 Net income per share - basic $ 0.46 $ 0.40 Net income per share - diluted $ 0.46 $ 0.40 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- (1) Non-GAAP financial measure: see discussion in "Non-GAAP Financial Measures" section of this MD&A. /T/ 1. Discussion of Consolidated Financial Results for the three months ended March 31, 2007 Net income for the three months ended March 31, 2007 was $3.8 million or $0.46 per share, compared to $3.2 million, or $0.40 per share for the three months ended March 31, 2006. The significant contributing factor to the net income increase of $0.6 million quarter-over-quarter was improved operating income of $0.3 million as a result of a colder winter, new service sites and a full quarter's effect of higher rates approved in March 2006. A decrease in income tax expense of $0.5 million due to a reduction in the effective tax rate also contributed to the increase in net income. Offsetting these favourable variances was an increase of $0.2 million in interest expense as result of higher average debt balances and interest rates. Utility Group's revenue for the three months ended March 31, 2007 was $55.7 million, compared to $58.4 million for the three months ended March 31, 2006. Revenues from AUI comprised 96 percent of consolidated revenue and were $3.3 million lower than in 2006. For the three months ended March 31, 2007 Utility Group reported net revenue of $13.7 million ($12.0 million - 2006), after natural gas costs of $42.0 million ($46.4 million - 2006). The variance from last year was due to lower cost of gas recoverable, partially offset by higher volumes due to colder weather, increased usage and additional service sites, and a higher revenue requirement applied for in the 2007 General Tariff Application (GTA) filing. Net revenues at AUI in the first quarter of 2006 were positively impacted by a $0.5 million increase due to a change in the method of billing for the fixed charge component of AUI's delivery rates. Operating and administrative expenses of $5.8 million for the first quarter of 2007, compared to $4.6 million for the first quarter of 2006, increased quarter-over-quarter due to increased staffing to support business growth and general cost increases including salary and benefits. Depreciation and amortization expense was $1.9 million in the three months ended March 31, 2007 compared to $1.7 million for the three months ended March 31, 2006, all of which was related to higher investment in property, plant and equipment. Interest expense for the three months ended March 31, 2007 was $1.0 million, compared to $0.8 million for the three months ended March 31, 2006. Average debt outstanding on the long-term credit facility for the period was $78.6 million and the average interest rate was 4.89 percent compared to $74.2 million average borrowing in 2006 with an average interest rate of 4.20 percent. Utility Group's income tax expense for the three months ended March 31, 2007 was $1.2 million ($1.7 million - 2006). Current income tax expense was incurred primarily by AUI which, under utility board regulation, accounts for income tax expense using the taxes payable method and therefore reports only income tax due on current taxable earnings. Income tax expense decreased by $0.5 million in the quarter as a result of a reduction in the effective tax rate. /T/ 2. Business Operations ---------------------------------------------------------------------------- Operating Information Three Months Ended March 31 2007 2006 ---------------------------------------------------------------------------- Deliveries (PJ)(1)(2) End-use 6.5 5.8 Transportation 2.1 2.4 ---------------------------------------------------------------------------- 8.6 8.2 ---------------------------------------------------------------------------- Service sites at period end (3) 65,785 63,278 Degree day variance (percent)(4) (1.5) (6.4) ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- (1) A petajoule (PJ) is 1 million gigajoules. (2) Deliveries reflect Utility Group's 100 percent share in AUI and its proportionate share of Heritage Gas (24.9 percent) and Inuvik Gas (one-third). (3) Service sites reflect all of the service sites of AUI, Heritage Gas and Inuvik Gas. (4) Degree days relate to AUI's service area. A degree day is the cumulative extent to which the daily mean temperature falls below 18 degrees Celsius. Normal degree days are based on a 20-year rolling average. Positive variances from normal lead to increased delivery volumes from normal expectations. ---------------------------------------------------------------------------- Natural Gas Deliveries March 31, 2007 March 31, 2006 Service Sites(1) PJs(2)(3) Service Sites(1) PJs(2)(3) ---------------------------------------------------------------------------- Operating Business AUI 64,115 8.4 62,105 8.2 Heritage Gas 865 0.1 415 - Inuvik Gas 805 0.1 758 - ---------------------------------------------------------------------------- 65,785 8.6 63,278 8.2 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- (1) Service sites reflect all of the service sites of AUI, Heritage Gas and Inuvik Gas. (2) A petajoule (PJ) is 1 million gigajoules. (3) Deliveries reflect Utility Group's 100 percent share in AUI and its proportionate share of Heritage Gas (24.9 percent) and Inuvik Gas (one-third). /T/ 3. Regulatory Update AltaGas Utilities Inc. In December 2006 AUI filed a Phase 2 tariff application dealing with the 2005/2006 GTA cost of service, rate design and terms and conditions of service. A Phase 2 hearing is scheduled for June 2007, with a decision expected in the fourth quarter of 2007. On December 29, 2006 AUI filed Phase 1 of its 2007 General Tariff Application. AUI is seeking approval of a forecast net rate base of $104.6 million, an increase of $7.4 million from its 2006 approved net rate base of $97.2 million. AUI is also seeking approval of a revenue requirement net of gas costs, of $37.5 million, which is an increase of $4.4 million (13.3 percent) from the 2006 allowed net revenue requirement of $33.1 million. As of March 31, 2007 AUI had accrued $1.3 million in revenue requirement. A hearing is scheduled for August 2007 and a decision from the Alberta Energy and Utilities Board (EUB) is expected in the fourth quarter of 2007. Heritage Gas Limited During the first quarter of 2007, the Nova Scotia Utility and Review Board (NSUARB) approved Heritage Gas' completion of a series of undertakings outlined in the December 2006 decision on Heritage Gas' 2006 Tariff Application. Inuvik Gas Ltd On August 21, 2006 Inuvik Gas notified the Northwest Territories Public Utilities Board (NWTPUB) of a natural gas rate increase effective October 22, 2006. In October 2006 the Town of Inuvik filed a complaint regarding the applied-for price increases. Inuvik Gas, the Town of Inuvik and the NWTPUB met on February 15, 2007 to discuss the rate increase. Discussions between Inuvik Gas and the Town of Inuvik are ongoing, and the complaint is expected to be withdrawn by the end of the second quarter. 4. Non-GAAP Financial Measures Utility Group provides financial measures in this MD&A that do not have a standardized meaning prescribed by Canadian Generally Accepted Accounting Principles (GAAP). These non-GAAP financial measures may not be comparable to similar measures presented by other corporations. The purpose of these financial measures and their reconciliation to GAAP financial measures is discussed below. /T/ ---------------------------------------------------------------------------- Net revenue Three Months Ended March 31 ($ millions) 2007 2006 ---------------------------------------------------------------------------- Net revenue 13.7 12.0 Add: Cost of natural gas 42.0 46.4 ---------------------------------------------------------------------------- Revenue (GAAP financial measure) 55.7 58.4 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- Management believes that net revenue better reflects operating performance than does revenue as changes in the market price of natural gas purchased for resale affect both revenue and the cost of natural gas. ---------------------------------------------------------------------------- Operating income Three Months Ended March 31 ($ millions) 2007 2006 ---------------------------------------------------------------------------- Operating income 6.0 5.7 Deduct: Interest expense 1.0 0.8 Income taxes (1) 1.2 1.7 ---------------------------------------------------------------------------- Net income (GAAP financial measure) 3.8 3.2 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- (1) Income taxes consist of current and future income taxes. Operating income is used by management to measure operating performance without reference to financing decisions and income tax impacts, which are not controlled by the operating businesses. ---------------------------------------------------------------------------- EBITDA Three Months Ended March 31 ($ millions) 2007 2006 ---------------------------------------------------------------------------- EBITDA 7.9 7.4 Deduct: Depreciation and amortization 1.9 1.7 Interest expense 1.0 0.8 Income taxes(1) 1.2 1.7 ---------------------------------------------------------------------------- Net income (GAAP financial measure) 3.8 3.2 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- (1) Income taxes consist of current and future income taxes. Earnings before interest, taxes, depreciation and amortization (EBITDA) are used by management to understand the ability of the business to generate cash and to cover interest payments, fund capital expenditures and pay cash income taxes. ---------------------------------------------------------------------------- Funds Generated from Operations Three Months Ended March 31 ($ millions) 2007 2006 ---------------------------------------------------------------------------- Funds generated from operations 5.7 5.1 Net change in non-cash working capital (0.9) 2.4 ---------------------------------------------------------------------------- Cash from operations (GAAP financial measure) 4.8 7.5 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ Funds generated from operations are provided to assist in determining Utility Group's ability to generate cash from operations, after interest and taxes, without regard to changes in non-cash working capital in the period. 5. Summary of Most Recently Completed Quarters Utility Group began operations on November 17, 2005. Results for the first financial reporting period include results of operations from November 17 to December 31, 2005. /T/ ---------------------------------------------------------------------------- 2007 2006 2005 ($ millions) Q1 Q4 Q3 Q2 Q1 Q4 ---------------------------------------------------------------------------- Net revenue(1) 13.7 11.4 6.0 6.3 12.0 5.6 Operating income (loss)(1) 6.0 4.2 (0.5) (0.6) 5.7 2.0 Net income (loss) 3.8 2.6 (0.9) (0.7) 3.2 1.3 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- 2007 2006 2005 ($ per share) Q1 Q4 Q3 Q2 Q1 Q4 ---------------------------------------------------------------------------- Net income (loss) Basic 0.46 0.32 (0.11) (0.09) 0.40 0.15 Diluted 0.46 0.32 (0.11) (0.09) 0.40 0.15 Dividends declared 0.035 0.03 0.03 0.03 0.03 - ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- (1) Non-GAAP financial measure. See "Non-GAAP Financial Measures" section of this MD&A. IV. UTILITY GROUP'S FINANCIAL POSITION The following table outlines the significant changes in the consolidated balance sheets of Utility Group from December 31, 2006 to March 31, 2007. ---------------------------------------------------------------------------- Balance Sheet Item Increase ($ millions) (decrease) Explanation ---------------------------------------------------------------------------- Accounts receivable Reduction in gas account receivables due (1.2) to lower gas cost recovery rate and volumes. Property, plant and 2.7 Organic growth at both Heritage Gas and equipment (net of AUI. accumulated depreciation) Deferred cost of gas, 1.3 Gas costs are included in allowed rates net of income taxes on a monthly forecast basis. Differences between forecast and actual gas costs in the month are held for collection or refund in the following month. The deferral can swing between assets and liabilities. At year-end 2006 the deferral was an asset, whereas at March 31, 2007 the deferral was a liability. Accounts payable (3.6) Reduction in trade payables reflecting gas prices and volumes purchased. Income and other taxes 1.5 Increased income taxes payable due to payable increased income. ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ V. INVESTED CAPITAL During the first quarter of 2007 Utility Group invested $4.5 million in property, plant and equipment and regulatory and other assets, compared to $4.3 million in the first quarter of 2006. The first quarter 2007 investment in property, plant and equipment included $3.9 million at AUI and $0.4 million at Heritage Gas. Of the $4.5 million invested in 2007, $3.8 million, or 84 percent, was spent to expand the systems to service new sites, while $3.2 million, or 74 percent, was spent in 2006. /T/ ---------------------------------------------------------------------------- Net Capital Invested Three months ended March 31 ($ millions) 2007 2006 ---------------------------------------------------------------------------- Invested capital: New business 3.8 3.2 System betterment and gas supply 0.3 0.4 General plant 0.2 0.4 Regulatory and other assets 0.2 0.3 ---------------------------------------------------------------------------- 4.5 4.3 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ VI. LIQUIDITY AND CAPITAL RESOURCES Utility Group expects that 2007 funds from operations will be sufficient to meet the majority of its budgeted maintenance and growth capital. The balance of its budgeted growth capital and a certain value of acquisitions will be financed through existing bank lines. Should larger acquisitions require financing beyond existing lines, management believes equity and debt capital markets could be accessed to provide additional financing. At this time, Utility Group does not reasonably expect any presently known trend or uncertainty to affect Utility Group's ability to access its anticipated sources of cash. /T/ ---------------------------------------------------------------------------- Cash Position Three months ended March 31 ($ millions) 2007 2006 ---------------------------------------------------------------------------- Cash, beginning of period 0.3 0.7 Operating activities 4.8 7.5 Investing activities (4.1) (3.7) Financing activities (0.3) (3.9) ---------------------------------------------------------------------------- Cash, end of period 0.7 0.6 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ Cash from Operations Cash provided by operations of $4.8 million in the first quarter of 2007 decreased significantly from $7.5 million in the first quarter of 2006, primarily due to changes in non-cash working capital. The variance of $3.3 million in non-cash working capital included $1.6 million of deferred cost of gas and income taxes as a result of weather differences and income tax expense timing differences with the balance attributable to variances in the price and volume of natural gas. Investing Activities During first quarter 2007 cash used in investing activities was $4.1 million. Additions to property, plant and equipment of $4.3 million and $0.2 million in investments in regulatory and other assets were partially offset by $0.3 million in contributions in aid of construction. During first quarter 2006, Utility Group reported cash used for investing activities of $3.7 million, the majority of which was additions to property, plant and equipment. Financing Activities During first quarter 2007 cash used by financing activities was $0.3 million, $0.1 million of which was used to repay bank lines with the balance of the $0.2 million for dividends paid. During first quarter 2006 Utility Group repaid $3.9 million of long-term debt. Capital Resources Utility Group believes that its access to debt and equity markets, unused bank credit facilities and its funds generated from operations will provide it with sufficient capital resources and liquidity to fund existing operations and certain acquisition and expansion opportunities in 2007. The use of debt or equity funding is based on Utility Group's target capital structure, which is determined by considering the norms and risks associated with each of its businesses and capital structures deemed by the EUB and the NSUARB. Utility Group targets a debt-to-total capitalization ratio of between 50 and 60 percent. Utility Group's debt-to-total capitalization ratio as at March 31, 2007 was 55.1 percent (54.0 percent - 2006). Utility Group funds its long and short-term borrowing requirements with credit facilities from a syndicate of Canadian chartered banks and from the Province of Nova Scotia. /T/ ---------------------------------------------------------------------------- Credit Facilities Drawn at Drawn at ($ millions) March 31, 2007 December 31, 2006 ---------------------------------------------------------------------------- Demand operating credit facility 2.1 2.2 Revolving, term credit facility 81.7 81.8 Loan from Province of Nova Scotia 1.4 1.4 ---------------------------------------------------------------------------- 85.2 85.4 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ Effective March 31, 2007 Utility Group had banking arrangements as follows: - An extendible revolving credit facility with a syndicate of Canadian chartered banks for $100.0 million under which prime rate loans, USBR loans, letters of credit, bankers' acceptances and LIBOR loans may be drawn, repayable on November 17, 2009. The maturity date is extendible upon consent of each lender for further successive one-year periods. At March 31, 2007, bankers' acceptances with short-term maturities of $81.7 million ($81.8 million - December 31, 2006) had been issued. - A demand operating credit facility with a Canadian chartered bank for $10.0 million under which prime rate loans, USBR loans, letters of credit, bankers' acceptances and LIBOR loans may be obtained, repayable in full upon demand. Loans draws as of March 31, 2007 were $2.1 million ($2.2 million - December 31, 2006) against this facility. Utility Group has not been rated by any credit agencies, nor does Utility Group expect to be rated. All of the borrowing facilities have financial tests and other covenants customary for these types of facilities, which must be met at each quarter-end. At March 31, 2007 Utility Group was in compliance with these covenants. VII. SHARE CAPITAL Authorized - An unlimited number of common shares without nominal or par value; and - An unlimited number of preferred shares without nominal or par value, issuable in series, to which the directors may fix before issuance the designation, rights, privileges, restrictions and conditions to attach to the preferred shares of each series. - The issued and outstanding shares as at March 31, 2007 were 8,189,905. - As at May 7, 2007 there has been no change from March 31, 2007 in the issued and outstanding shares. VIII. OFF-BALANCE-SHEET ARRANGEMENTS Utility Group is not party to any contractual arrangement under which an unconsolidated entity may have any obligation under certain guarantee contracts, a retained or contingent interest in assets transferred to an unconsolidated entity or similar arrangement that serves as credit, liquidity or market risk support to that entity for such assets. Utility Group has no obligation under derivative instruments, or a material variable interest in an unconsolidated entity that provides financing, liquidity, market risk or credit risk support to Utility Group, or engages in leasing, hedging or research and development services with Utility Group. IX. DISCLOSURE CONTROLS AND PROCEDURES Utility Group maintains disclosure controls and procedures designed to ensure that information required to be disclosed in reports filed or submitted under the Securities Act (Ontario) is accumulated and communicated to management, including the President and Chief Executive Officer and the Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In accordance with Multilateral Instrument 52-109 (Certification of Disclosure in Issuers' Annual and Interim Filings), an evaluation was conducted under the supervision and with the participation of management, including the President and Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the President and Chief Executive Officer and the Chief Financial Officer concluded that the disclosure controls and procedures were effective as of March 31, 2007 to provide reasonable assurance that information required to be disclosed is recorded, processed, summarized, and reported within the time periods specified in the Ontario Securities Commission's rules and forms. X. INTERNAL CONTROLS OVER FINANCIAL REPORTING Management of Utility Group is responsible for establishing and maintaining adequate internal controls over financial reporting. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be designed effectively can provide only reasonable assurance with respect to financial statement preparation and presentation. Utility Group has used the Committee of Sponsoring Organizations of the Treadway Commission (COSO) framework to evaluate the design of internal controls over financial reporting. As at March 31, 2007 management assessed the design of Utility Group's internal control over financial reporting and concluded that internal control over financial reporting is suitably designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP and that there were no material weaknesses in the design of Utility Group's internal control over financial reporting that have been identified by management. There have been no changes in the design of internal control over financial reporting during the quarter ended March 31, 2007 that have materially affected or are reasonably likely to materially affect its internal control over financial reporting. XI. TRANSACTIONS WITH RELATED PARTIES For the quarter ended March 31, 2007 Utility Group purchased natural gas from AltaGas Income Trust (the Trust) for $38.3 million, compared to $37.9 million in the first quarter of 2006. Utility Group also paid the Trust $0.1 million ($0.05 million - 2006) for operating services. The Trust purchased transportation for $0.1 million ($0.1 million - 2006) and administrative, management and other services of $0.04 million from Utility Group ($0.1 million - 2006). For the quarter ended March 31, 2007 Utility Group purchased natural gas from the Ikhil Joint Venture for $0.6 million ($0.4 million - 2006), and the Ikhil Joint Venture in turn paid Utility Group $0.1 million ($0.1 million - 2006) for administration, management and other services. There is an Administrative Service Agreement between the Trust and Utility Group whereby the Trust provides certain administrative and support services to Utility Group until December 31, 2007, and which may be extended by mutual agreement of the parties. The Trust will receive $30,000 per year for the services provided. See notes to the interim consolidated financial statements. XII. CRITICAL ACCOUNTING ESTIMATES Since a determination of the value of many assets, liabilities, revenues and expenses is dependent upon future events, the preparation of Utility Group's consolidated financial statements requires the use of estimates and assumptions which have been made using careful judgment by management. Management has discussed the development and selection of these critical accounting estimates with the Audit and Governance Committee of the Board of Directors and its independent auditors, who have reviewed and approved Utility Group's disclosure relating to critical accounting estimates in this MD&A. Utility Group's significant accounting policies are described in the Notes to the audited consolidated financial statements of Utility Group for the year ended December 31, 2006. The most critical of these policies with respect to estimates are those related to rate regulation, determination of pension and other employee benefits, amortization and depreciation expense, goodwill impairment assessment and asset retirement obligation. Actual results may differ from these estimates. XIII. CHANGES IN ACCOUNTING POLICIES Effective January 1, 2007 Utility Group adopted the Canadian Institute of Chartered Accountants Handbook Section 3855, Financial Instruments - Recognition and Measurement; Section 3861, Financial Instruments - Disclosure and Presentation; Section 3865, Hedges; and Section 1530, Comprehensive Income, retroactively without restatement. As at January 1, 2007 no transitional adjustments had been made to the opening balance of retained earnings or to the opening balance of accumulated other comprehensive income arising from the adoption of sections 1530, 3855, and 3865. XIV. RISKS AND UNCERTAINTIES In the natural gas distribution business, where parties are subject to return on rate base regulation, rates are set to allow the regulated entity the opportunity to recover its costs and earn a reasonable return on a set capital structure. There is no guarantee that the entity will earn its allowed return because rates are set to cover future estimated costs and estimated demand is based on normal weather conditions. The entity's actual revenues may be more or less than forecast due to variations from normal weather, conservation and other factors which impact customer usage. Expenses and other revenues may also be higher or lower than forecast. Financial results for Utility Group are subject to a variety of risks including: regulation; franchise renewal; gas demand (including relating to weather, customer additions/mix, alternative energy sources and climate change); gas supply; environmental and safety; competition; physical; insurance; credit; contingencies; human resources; conflicts of interest; access to additional financing; and decommissioning, abandonment and reclamation costs. XV. OUTLOOK 1. Operations For the remainder of 2007 Utility Group's management expects that the three operating businesses will continue to generate strong earnings and solid growth. AUI will continue to actively pursue opportunities in its existing franchise areas and is well-positioned to capture opportunities arising in the areas around Edmonton, Alberta. AUI completed a $1.3 million oil processing battery project which will start generating revenue in April 2007. At Heritage Gas, construction on the harbour crossing between Halifax and Dartmouth in Nova Scotia is anticipated to begin in the latter half of 2007. Utility Group's objective is to grow the business, both through growth of its three operating businesses as outlined above, and through acquisitions of infrastructure-based utility and related businesses. Management evaluates acquisition opportunities on an ongoing basis, and will pursue opportunities that will provide accretive shareholder value. 2. Regulatory It was also announced in April 2007 that the Alberta government will introduce legislation at the spring session of the Legislature which will split the Alberta Energy and Utilities Board into two agencies. The split organizations are expected to be in place by January 2008. The former Energy Resources Conservation Board (ERCB) will re-emerge to deal with oil and gas exploration and development applications and regulations. A second agency, the Alberta Utilities Commission (AUC), will be responsible primarily for regulating the distribution and sale of electricity and natural gas to consumers. XVI. SUBSEQUENT EVENTS On April 2, 2007 Utility Group purchased an additional 122,606 common shares of Heritage Gas for $0.1 million and advanced $0.3 million under its long-term loan agreement to fund capital expenditures. Contributions were also made by the other shareholders of Heritage Gas, resulting in no change to Utility Group's proportionate ownership share in Heritage Gas. /T/ ALTAGAS UTILITY GROUP INC. CONSOLIDATED BALANCE SHEETS (unaudited) ($ thousands) ---------------------------------------------------------------------------- March 31 December 31 As at 2007 2006 ---------------------------------------------------------------------------- ASSETS Current assets Cash $ 695 $ 296 Accounts receivable (note 6) 25,283 26,487 Inventory 281 231 Deferred cost of gas, net of income taxes - 1,057 Future income tax asset 16 16 Prepaid expenses and deferred charges 2,245 1,434 ---------------------------------------------------------------------------- 28,520 29,521 Property, plant and equipment 120,440 117,723 Goodwill 31,575 31,575 Regulatory assets 5,014 4,983 Future income tax asset 97 87 Other assets 25 142 ---------------------------------------------------------------------------- $185,671 $184,031 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities Short-term debt $ 2,129 $ 2,221 Accounts payable and accrued liabilities (note 6) 25,398 28,955 Dividends payable 287 246 Income and other taxes payable 1,903 382 Deferred cost of gas, net of income taxes 260 - ---------------------------------------------------------------------------- 29,977 31,804 Long-term debt 83,073 83,157 Customer deposits and other liabilities 2,942 2,920 Future income tax liability 99 99 ---------------------------------------------------------------------------- 116,091 117,980 ---------------------------------------------------------------------------- Shareholders' equity Share capital 61,278 61,278 Contributed surplus 310 257 Retained earnings 7,992 4,516 ---------------------------------------------------------------------------- 69,580 66,051 ---------------------------------------------------------------------------- $185,671 $184,031 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- See accompanying notes to the interim consolidated financial statements ALTAGAS UTILITY GROUP INC. CONSOLIDATED STATEMENTS OF INCOME, COMPREHENSIVE INCOME AND RETAINED EARNINGS (unaudited) ($ thousands except per share amounts) ---------------------------------------------------------------------------- Three months ended March 31 For the 2007 2006 ---------------------------------------------------------------------------- REVENUE (note 6) $ 55,750 $ 58,449 EXPENSES (note 6) Cost of natural gas 42,046 46,381 Operating and administrative 5,840 4,633 Depreciation and amortization 1,859 1,723 ---------------------------------------------------------------------------- 49,745 52,737 ---------------------------------------------------------------------------- Operating income 6,005 5,712 Interest expense 987 805 ---------------------------------------------------------------------------- Income before income taxes 5,018 4,907 ---------------------------------------------------------------------------- Income taxes Current income taxes 1,265 1,539 Future income taxes (10) 117 ---------------------------------------------------------------------------- 1,255 1,656 ---------------------------------------------------------------------------- Net income and comprehensive income 3,763 3,251 Retained earnings, beginning of period 4,516 1,269 Dividends declared (287) (246) ---------------------------------------------------------------------------- Retained earnings, end of period $ 7,992 $ 4,274 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- Net income per share (note 3) Basic $ 0.46 $ 0.40 Diluted $ 0.46 $ 0.40 Number of shares outstanding (note 3) Basic 8,189,905 8,189,905 Diluted 8,193,224 8,214,158 See accompanying notes to the interim consolidated financial statements ALTAGAS UTILITY GROUP INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) ($ thousands) ---------------------------------------------------------------------------- Three months ended March 31 For the 2007 2006 ---------------------------------------------------------------------------- CASH FROM OPERATIONS Net income $ 3,763 $ 3,251 Items not involving cash: Revenue deficiency accrual (339) (242) Allowance for funds used during construction (93) (65) Depreciation and amortization 1,859 1,723 Operating and administrative 468 243 Future income taxes (10) 117 Other 53 31 ---------------------------------------------------------------------------- Funds generated from operations 5,701 5,058 Net change in non-cash working capital (note 5) (924) 2,436 ---------------------------------------------------------------------------- 4,777 7,494 ---------------------------------------------------------------------------- INVESTING ACTIVITIES Additions to property, plant and equipment (4,291) (4,006) Contributions in aid of construction 342 503 Proceeds on disposition of property, plant and equipment 14 67 Investment in regulatory and other assets (160) (289) ---------------------------------------------------------------------------- (4,095) (3,725) ---------------------------------------------------------------------------- FINANCING ACTIVITIES Decrease in short-term debt (92) - Increase (decrease) in long-term debt 33 (3,941) Dividends paid (246) - Increase in customer deposits and other liabilities 22 70 ---------------------------------------------------------------------------- (283) (3,871) ---------------------------------------------------------------------------- Change in cash 399 (102) Cash, beginning of period 296 732 ---------------------------------------------------------------------------- Cash, end of period $ 695 $ 630 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- See accompanying notes to the interim consolidated financial statements /T/ AltaGas Utility Group Inc. Selected Notes to the Consolidated Financial Statements (Tabular amounts in thousands of dollars unless otherwise indicated) 1. STRUCTURE AND NATURE OF OPERATIONS AltaGas Utility Group Inc. was incorporated with nominal capital under the Canada Business Corporations Act as 6414958 Canada Limited on July 6, 2005 and filed a certificate of amendment to change its name to AltaGas Utility Group Inc. (Utility Group) on July 28, 2005. Utility Group began active operations with the acquisition of all the issued and outstanding common shares of AltaGas Utility Holdings Inc. (AUHI) on November 17, 2005. AUHI, through its ownership interests in AltaGas Utilities Inc. (AUI), AltaGas Utility Holdings (Nova Scotia) Inc. (AUH(NS)) and Inuvik Gas Ltd. (Inuvik Gas), holds interests in regulated natural gas distribution utility businesses operating in Alberta, Nova Scotia and the Northwest Territories, respectively. AUI and AUH(NS) are wholly owned subsidiaries of AUHI, while Inuvik Gas is one-third owned by AUHI. AUH(NS) owns a 24.9 percent interest in Heritage Gas Limited (Heritage Gas). The investments in Inuvik Gas and Heritage Gas are each jointly controlled by AUHI, along with their other shareholders. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Basis of Presentation These consolidated financial statements include the accounts of Utility Group and all of its wholly owned subsidiaries and its proportionate interests in Heritage Gas and Inuvik Gas from date of acquisition of AUHI on November 17, 2005. Transactions between Utility Group, wholly owned subsidiaries and the proportionately consolidated entities are eliminated on consolidation. These consolidated financial statements are prepared by management in accordance with Canadian generally accepted accounting principles (GAAP), including accounting policies for which guidance has been provided by regulations and recommendations of the Alberta Energy and Utilities Board (EUB) and of the Nova Scotia Utility and Review Board (NSUARB). These consolidated financial statements do not include all of the disclosures required in the annual financial statements and should be read in conjunction with the audited consolidated financial statements for the period ended December 31, 2006. The accounting policies applied in these consolidated financial statements are consistent with those outlined in Utility Group's annual financial statements, except as described below. Certain comparative figures have been reclassified to conform to the current presentation. Changes in Accounting Policy Effective January 1, 2007 Utility Group adopted the Canadian Institute of Chartered Accountants Handbook Section 3855, Financial Instruments - Recognition and Measurement; Section 3861, Financial Instruments - Disclosure and Presentation; Section 3865, Hedges; and Section 1530, Comprehensive Income, retroactively without restatement. The adoption of these new financial instrument standards resulted in changes in the accounting for financial instruments. Financial Assets and Financial Liabilities Under the new standards, financial assets and financial liabilities are initially recognized at fair value as at the adoption date of January 1, 2007, and must be classified into one of the following five categories: held-for trading; held-to maturity; loans and receivables; available-for-sale financial assets; or other financial liabilities. The classification depends on the purpose for which the financial instruments were acquired and their characteristics. Utility Group adopted the following three classifications: - Cash is classified as held for trading. Measurement made subsequent to the adoption date of this new standard is at fair value; - Accounts receivable are classified as loans and receivables. Measurements made subsequent to the adoption date of this new standard are recorded at amortized cost using the effective interest rate method. For Utility Group, this measurement generally corresponds to cost; and - Bank loans, accounts payable, accrued liabilities, income taxes payable and long-term debt are classified under other financial liabilities. Measurements made subsequent to the adoption date of this new standard are recorded at amortized cost using the effective interest method. For Utility Group, this measurement generally corresponds to cost. Derivatives and Hedge Accounting Derivatives may be embedded in other financial instruments (the "host instrument"). Prior to the adoption of the new standards, such embedded derivatives were not accounted for separately from the host instrument. Under the new standards, embedded derivatives are treated as separate derivatives when their economic characteristics and risks are not clearly and closely related to those of the host instrument, the terms of the embedded derivative are the same as those of the stand-alone derivative, and the combined contract is not held for trading or designated at fair value. A review of Utility Group's financial contracts determined that there were no embedded derivatives. In the event that Utility Group enters into a contract that contains an embedded derivative, the embedded derivative will be measured at fair value with subsequent changes recognized in income. Comprehensive Income Comprehensive income is the change in shareholders' equity during a period from transactions and other events and circumstances from non-owner sources. Accumulated other comprehensive income, if applicable, is included in the shareholders' equity section of the balance sheet. The components of the new category will include unrealized gains and losses on financial instruments classified as available-for-sale and the effective portion of cash flow hedges. Utility Group had no "other comprehensive income/loss" transactions during the three months ended March 31, 2007. As at January 1, 2007 no transitional adjustments had been made to the opening balance of retained earnings or to the opening balance of accumulated other comprehensive income arising from the adoption of sections 1530, 3855, and 3865. Regulation AUI and Heritage Gas engage in the delivery and sale of natural gas and are regulated by the EUB and the NSUARB, respectively. The EUB and NSUARB exercise statutory authority over matters such as tariffs, rates, construction, operations, financing, returns, accounting and certain contracts with customers. In order to recognize the economic effects of the actions and decisions of the EUB and NSUARB, the timing of recognition of certain assets, liabilities, revenues and expenses as a result of regulation may differ from that otherwise expected using Canadian GAAP for entities not subject to rate regulation. Inuvik Gas is subject to light-handed regulation by the Northwest Territories Public Utilities Board (NWTPUB), whereby rates are set by Inuvik Gas based on a competitive market place. The NWTPUB is satisfied that competition for alternative fuel exists in Inuvik and that competition is sufficient to negate the need for full regulation. Inuvik Gas is required to file its rates, terms and conditions of service with the NWTPUB when they are revised. The NWTPUB can take action should any complaints be received and may review the affairs, earnings and accounts of Inuvik Gas as it deems necessary. Utility Group records the impact of regulatory decisions in the period in which decisions are rendered. 3. SHARE CAPITAL Stock Option Plan Utility Group has an employee share option plan under which both employees and directors are eligible to receive grants. At March 31, 2007, 818,990 shares were reserved for issuance under the plan. To March 31, 2007 options granted under the plan had a term of 10 years to expiry and vested no longer than over a four-year period. At March 31, 2007 outstanding options are exercisable to the year 2016. Options outstanding under the plan have a weighted average exercise price of $7.25 and a weighted average remaining term of 9.10 years. Stock option compensation expense charged to operating and administrative expense for the period ended March 31, 2007 was $53,000 (2006 - $18,000), with a corresponding increase to contributed surplus. /T/ As at March 31, 2007 As at December 31, 2006 ---------------------------------------------------------------------------- Weighted Weighted Number average Number average of exercise of exercise options price options price ---------------------------------------------------------------------------- Stock options outstanding, beginning of period 310,500 $7.25 170,000 $7.50 Granted - - 150,500 6.98 Cancelled - - (10,000) 7.50 ---------------------------------------------------------------------------- Stock options outstanding, end of period 310,500 $7.25 310,500 $7.25 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- Exercisable at end of period 82,500 $7.52 80,000 $7.50 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ 4. PENSION AND OTHER RETIREMENT BENEFIT PLANS Utility Group has pension plans which provide either defined benefit or defined contribution pension benefits for qualified employees. These pension plans may be fully funded, partially funded, or unfunded. Utility Group also provides post-employment benefits other than pensions for qualifying retired employees which are unfunded. The expense recognized for these plans is as follows: /T/ Three months ended March 31 2007 2006 ---------------------------------------------------------------------------- Defined benefit plans $ 234 $ 280 Defined contribution plan 41 - Other post-employment benefit plans 48 50 ---------------------------------------------------------------------------- $ 323 $ 330 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- 5. NET CHANGE IN NON-CASH WORKING CAPITAL The net change in the following non-cash working capital items increased/ (reduced) cash flows from operations as follows: Three months ended March 31 2007 2006 ---------------------------------------------------------------------------- Accounts receivable $ 1,204 $ 7,284 Inventory, prepaid expenses and deferred charges (860) 397 Accounts payable and accrued liabilities (3,557) (10,573) Deferred cost of gas, net of income taxes 1,317 2,310 Income and other taxes payable 1,521 2,089 ---------------------------------------------------------------------------- (375) 1,507 Increase in capital costs receivable (76) (271) Decrease (increase) in capital costs payable (473) 1,200 ---------------------------------------------------------------------------- Net change in non-cash working capital related to operations $ (924) $ 2,436 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- The following cash payments have been included in the determination of net income: Three months ended March 31 2007 2006 ---------------------------------------------------------------------------- Interest paid $ 935 $ 804 Income taxes paid $ 512 $ 553 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- 6. RELATED PARTY TRANSACTIONS In the normal course of business, Utility Group and its affiliates transact with related parties. The following related party transactions were measured at their exchange amount: Three months ended March 31 2007 2006 ---------------------------------------------------------------------------- Fees for administration, management and other services paid by: Utility Group to the Trust $ 8 $ 8 The Trust to Utility Group $ 42 $ 96 The Trust to AUI $ 2 $ 19 Ikhil Joint Venture to Inuvik Gas $ 94 $ 73 Fees for operating services paid by AUI to the Trust $ 66 $ 46 Gas purchases for resale by Inuvik Gas from the Ikhil Joint Venture $ 584 $ 425 Transportation services provided by AUI to the Trust $ 124 $ 143 Gas purchases for resale by AUI from the Trust $ 38,332 $ 37,881 ---------------------------------------------------------------------------- ---------------------------------------------------------------------------- /T/ The resulting amounts due from and to related parties are non-interest bearing and are related to transactions in the normal course of business. Included in accounts receivable at March 31, 2007 is $0.1 million ($0.7 million at December 31, 2006) due to Utility Group from the Trust. Included in accounts payable and accrued liabilities at March 31, 2007 is $13.0 million ($21.0 million at December 31, 2006) due from Utility Group to the Trust. 7. SEASONALITY The natural gas distribution business is highly seasonal, with the majority of natural gas deliveries occurring during the winter heating season. Gas sales during the winter typically account for approximately two-thirds of annual revenue, resulting in strong first and fourth quarter results and losses in the second and third quarters. 8. SUBSEQUENT EVENTS On April 2, 2007 Utility Group purchased an additional 122,606 common shares of Heritage Gas for $0.1 million and advanced $0.3 million under its long-term loan agreement to fund capital expenditures. Contributions were also made by the other shareholders of Heritage Gas, resulting in no change to Utility Group's proportionate ownership share in Heritage Gas. ABOUT ALTAGAS UTILITY GROUP INC. AltaGas Utility Group Inc. is a publicly traded company holding interests in AltaGas Utilities Inc., Heritage Gas Limited and Inuvik Gas Ltd. Combined, these regulated natural gas distribution businesses serve more than 65,000 customers in three areas of Canada through an infrastructure of nearly 20,000 kilometres of pipelines. Utility Group intends to pursue opportunities to invest in infrastructure-based utility and related businesses with long-term, stable returns. AltaGas Utility Group's 8.2 million common shares began trading on the Toronto Stock Exchange under the symbol AUI on November 17, 2005.
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