Artesian Resources Corporation — Q3 2011 Form 10-Q
Reporting period: Three and nine months ended September 30, 2011; financial statements are unaudited. Amounts below are in millions of dollars unless otherwise noted.
Business context and reporting period
Artesian is a regulated water and wastewater utility, principally serving Delaware, with operations in Maryland and Pennsylvania and non-regulated contract, engineering, and service-line protection businesses. Water sales are the primary revenue source and are seasonal and weather-sensitive. At quarter-end, the company served approximately 78,500 metered water customers in Delaware, about 800 more than a year earlier; Maryland customers increased by about 300.
Financial performance and liquidity
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Operating revenue | $17.730 | $17.963 | $48.997 | $48.950 |
| Operating income | $4.367 | $4.706 | $10.175 | $11.113 |
| Net income | $2.238 | $2.897 | $5.000 | $6.341 |
| Basic earnings per share | $0.26 | $0.38 | $0.63 | $0.84 |
| Cash dividend per share | $0.1902 | $0.1882 | $0.5696 | $0.5637 |
- Revenue was nearly flat year to date, while net income declined 21.1%. Q3 revenue fell 1.3% and net income fell 22.8% year over year.
- Operating expenses excluding depreciation and income taxes were 56.2% of revenue in Q3 (53.4% in 2010) and 60.9% year to date (58.0% in 2010), indicating weaker expense margins.
- Management attributed lower water demand to unusually wet weather, particularly in July–September. Year-to-date water sales nevertheless increased 1.4%, supported by added territory, resale water revenue, temporary rates, and higher Distribution System Improvement Charge revenue.
- Operating cash flow was $13.900, versus $13.266 in the first nine months of 2010. Capital expenditures were $10.730, compared with $11.650.
- At September 30, cash was $0.207; current assets were $13.647 and current liabilities were $26.808. The resulting working-capital deficit was $13.161. Current liabilities included $12.195 of line-of-credit borrowings.
- Long-term debt, including its current portion, was $107.671; lines of credit were $12.195. Debt to total capitalization, including short-term debt, was 49.3%, and the company reported compliance with its debt covenants.
- Cash from financing included $16.740 of net common-stock issuance proceeds and $2.892 of long-term debt issuance; dividends paid were $4.532. The July and August 2011 stock offerings generated approximately $15.6 million net and were used primarily to reduce short-term borrowing and support capital needs.
Material changes, outlook, and risks
- Rate proceedings: Artesian Water requested a 19.45% Delaware revenue increase, approximately $10.9 million annualized. Temporary rates effective June 10 were designed to yield $2.5 million annually; a second temporary step, estimated at $3.8 million annually, was scheduled for November 11, 2011. These rates remain subject to the final regulatory decision and potential refunds. Maryland regulators approved an annualized increase of approximately $51,000, below the $65,000 requested.
- Unusual expense: Termination of Cecil County wastewater asset-purchase and franchise agreements led to a $349,000 write-off of deferred acquisition costs in miscellaneous expense. The termination requires Maryland Public Service Commission approval. The company also ended a separate Cecil County facilities-operations agreement effective September 30.
- Projects and financing: The company continued utility investment, including treatment, metering, transmission, and distribution improvements. A $3.6 million Delaware revolving-fund loan for water-main replacements carried 1.7% interest plus a 1.7% administrative fee; no funds had been drawn by quarter-end. Management expected to fund the next 12 months with operating cash flow, available cash, and bank credit lines. Citizens’ $40 million demand line had $27.8 million available and expires no later than May 31, 2012; the $20 million CoBank line had no borrowings and expires January 17, 2012.
- Business outlook: Management’s strategy emphasizes customer and territory growth, utility investment, wastewater expansion, contract operations, and service-line protection plans. It cited weather, economic and construction conditions, regulatory approvals, cost inflation, and timely recovery of investment through rates as uncertainties. The filing provides no quantified earnings or revenue guidance.
- Legal and regulatory exposure: Artesian Water received a federal grand jury subpoena concerning eight Pennsylvania wastewater facilities formerly operated by a subsidiary; the company is cooperating and said it cannot predict the outcome or potential loss. It warned that possible charges or claims could result in significant fines, damages, or regulatory consequences. The company also reported ongoing litigation with Chester Water Authority over purchased-water rates. Separately, an appeal challenged Maryland’s approval of Cecil County water franchises; the water-asset transaction was expected to close by December 31, 2011, subject to approvals and proceedings.
- Other changes: Artesian Consulting Engineers reduced staffing and discontinued outside development and architectural services because of weak development demand. The company reported no material change in its previously disclosed risk factors and no off-balance-sheet arrangements.
Most important facts for investors to verify
- Final outcome, timing, and refund exposure of the Delaware rate case and temporary rate increases.
- Whether the company can sustain earnings and margins as weather-sensitive demand, operating costs, and non-utility contract activity change.
- Resolution and potential financial or regulatory consequences of the federal investigation and Chester Water Authority litigation.
- Status of Cecil County water and wastewater approvals, the expected water-asset closing, and the consequences of the wastewater agreement termination.
- Renewal or replacement of the near-term-expiring credit facilities, availability of operating cash, and funding for planned capital investment and debt maturities.