ONE Gas

Moat: 3/5

Understandability: 2/5

Balance Sheet Health: 3/5

ONE Gas, Inc. is a natural gas distribution company that delivers natural gas to over 2.3 million customers in Oklahoma, Kansas, and Texas.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

ONE Gas operates as a regulated utility, primarily distributing natural gas to residential, commercial, and transportation customers in Oklahoma, Kansas, and Texas. The company’s revenues are largely derived from delivery service fees, which are influenced by regulatory frameworks and rate structures, rather than from the price of natural gas itself. The company’s core strategy is to operate its business with safety as a priority.

  • Revenue Distribution: ONE Gas generates revenue from three primary streams:
    • Gas Delivery: Revenues are primarily derived from fees charged for the transportation and distribution of natural gas through their pipelines and distribution system to the customers. These revenues are subject to regulatory approval.
    • Other Revenues: Also includes revenues generated from sale of natural gas at retail and to the wholesale market, the transportation of natural gas for others, the processing, storage, and gathering and sales of natural gas.
  • Trends in the Industry:
    • The natural gas distribution industry is fairly stable, but it is also subject to certain changes like commodity prices, regulatory issues and environmental regulations.
  • There is increasing pressure to transition towards sustainable fuel options, which can affect the demand for natural gas in the long term.
  • Margins: While ONE Gas aims to achieve a profitable growth rate, their operations are heavily scrutinized by regulatory bodies. Regulatory structures can often limit the profitability of companies, such as ONE Gas, and may not allow them to pass on increased costs to customers.
  • Competitive Landscape:
  • ONE Gas is a regulated utility with high barriers to entry, making its operating environment more favorable.
  • The barriers to entry are mostly related to the infrastructure needed for distribution, and regulatory licenses that are hard to secure.
  • Although the markets of natural gas distribution in the region are largely served by 2-3 players, pricing still matters.
  • What Makes ONE Gas Different: One Gas emphasizes safety, reliability, and community involvement, and seeks to promote efficient gas usage and offer good value to its customers through continuous improvement and innovation. Moreover, a substantial number of its employees have deep roots in the region they serve.
  • Financials:
    • Total revenues and net income have both increased significantly from 2019 to 2022.
    • One Gas generated operating profits in the range of 450 to 550 million dollars in each of the years 2020, 2021 and 2022.
      • Revenues are very sensitive to weather conditions and demand patterns.
    • The company’s total capitalization at the end of 2022 was around 5.7 billion dollars.
  • 2023: The company reported a 6 percent revenue increase year over year. Earnings are down by 6.5% during the same period. There was a slight fall in the company’s net income in the three quarters ended on September 30, 2023.
  • The company stated that there was increased revenue growth due to increases in customer rates and the effect of weather, which was offset by increases in operating expenses and interest expenses.
  • There were no extraordinary items during the period.
  • Recent Concerns / Controversies/Problems
  • ONE Gas faces challenges with ongoing inflation, extreme weather conditions, commodity market volatility, supply chain disruptions and changing regulations.
    • Specifically, extreme weather patterns can significantly affect their business, as can rising or high costs of natural gas.
    • The company faces regulatory uncertainties, especially around cost recovery and sustainability. There is also pressure to lower their rates from regulators.
  • Despite these challenges, ONE Gas claims that it has improved its operating margin and returns on invested capital.
  • One gas also expects to continue its infrastructure improvement projects.
  • Management feels they are in a position to manage any negative impacts of regulatory changes through their ongoing operations and improvements.

Moat Analysis

I would rate ONE Gas’s moat as a 3 out of 5.

  • Intangible Assets: While the company has a recognized name in the region, brands are not as important a factor in the regulated utility business. Rather the company relies on its long history and track record in the region.
  • Switching Costs: Customers have difficulty switching gas providers, because their local distribution network and related service quality are important. However, a customer’s choice in a local gas utility is also based on rates, which implies some vulnerability.
  • Network Effects: These are not present in the natural gas distribution business, since networks tend to be localized and do not produce a network effect. * Cost Advantages: ONE Gas enjoys some cost advantages due to its economies of scale, but these do not constitute a dominant competitive edge, since they face price caps from regulatory authorities.
  • Barriers to Entry: The natural gas distribution business features high barriers to entry due to the infrastructure investment needed for distribution, and regulatory licenses that are hard to secure. This does prevent new competitors from readily entering the market.

Justification: While ONE Gas enjoys a good position in a highly-regulated industry, which gives it some stability in revenue, its profits are still heavily dependent on external factors like inflation, regulatory frameworks and weather conditions. Hence, their returns on invested capital are not guaranteed to be stable, or above average, over the long term.

Risks to the Moat and Business Resilience

  • Regulatory Risks: The company’s operations and profitability are highly dependent on regulatory decisions regarding rates, allowed cost recovery, and environmental mandates. Changes in regulations may lead to revenue shortfalls, increase operating costs, or both.
  • Weather and Commodity Prices: Variations in weather patterns and natural gas prices directly impact the demand for natural gas. For instance, if there is an unusually mild winter, the demand for natural gas could fall sharply. This can affect the company’s profits, even if its costs are largely fixed.
  • Operational risks One Gas’ operations are subject to operational hazards and emergencies that could materially and adversely affect the company, its business, or operating expenses.
  • Supply disruptions Natural gas supply is subject to potential disruptions from weather, mechanical failures or other issues, which can also result in an increase to the company’s purchase costs.
  • Competition from Alternative Energy Sources: The long-term demand for natural gas will be affected by competition from alternative energy sources like solar, wind and geothermal energies. This also increases the risk that customers might switch towards these sources.
  • Cybersecurity Risks The company’s assets and operation systems are subject to potential cyber security threats, which can have an enormous negative impact on operations or financials.
  • Capital structure risks The debt burden of the company is also not inconsequential, especially considering that they are a regulated utility, so the interest payments need to be regularly met.

Business Resilience: Despite risks, the company is likely to remain resilient because it has a stable customer base, is in a regulated industry, has strong expertise in the sector, and is in an essential sector. The company has a long track record and a relatively good reputation. As a utility, even if they lose some profitability due to external conditions or factors, its business operations are still important for the region it serves.

Understandability: 2 / 5

ONE Gas is not that complicated to understand, its business is primarily distribution of natural gas, however the intricacies of its regulatory system and the impacts that can occur through a range of events and circumstances can make it a little difficult to understand for all types of investors.

  • Operating Complexity: ONE Gas operates in a fairly complex regulatory environment that defines its revenues and cost recovery mechanisms. Their contracts and other financial statements are not the easiest to understand.
  • External Factors: Weather patterns, commodity price volatility, and regulatory decisions makes it difficult to make reliable long-term predictions about the company’s operations. This reduces the investor’s understanding of their financial health.

Balance Sheet Health: 3 / 5

ONE Gas is leveraged, and as a utility it has a relatively high level of debt, especially since it is obligated to make large infrastructure investments to modernize its operations. While the financial reports of the company does indicate consistent revenue generation, it is not completely risk free from a bankruptcy standpoint.

  • Debt to Equity: The debt to equity ratio is not very favorable, and it remains a crucial area of concern.
  • Debt Coverage: The company’s revenues can sometimes struggle to cover the large interest burden it has to face due to high amounts of debt. However, given the regulatory oversight over tariffs and price caps, the risks of default are relatively low.
  • Current Ratio: The company’s current ratio, while above 1, can be a little tight, so the company might have some challenges meeting its immediate liabilities if economic conditions are worse than expected.
  • Solvency: The company’s assets and equity to debt ratios have not shown that their financials are extraordinarily solvent, which means they are vulnerable to extreme or unexpected events.
  • Asset quality: Company’s assets are mostly tangible but are subject to regular wear-and-tear and depreciation, so they may not offer any significant value.

Overall, while ONE Gas is a stable business with some important positive characteristics, such as good brand recognition, and reasonable competitive dynamics, it is also beset by regulatory, weather-related and debt-related risks which makes long-term projections very uncertain for the company.