American Water Works Company, Inc. — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. The filing also reports unaudited fourth-quarter results. Unless noted, financial figures are in millions of dollars.
Business context
American Water is a regulated water and wastewater utility operating in 16 U.S. states, alongside market-based services. It reported serving more than 14 million people across 46 states and Ontario, with approximately 3.4 million regulated network customers. Regulated businesses generated 87% of 2018 revenue.
Financial results and liquidity
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Operating revenue | $3,440 | $3,357 | +2.5% |
| Operating income | $1,102 | $1,253 | −12.1% |
| Net income attributable to common shareholders | $567 | $426 | +33.1% |
| Diluted EPS (GAAP) | $3.15 | $2.38 | +32.4% |
| Adjusted diluted EPS (non-GAAP) | $3.30 | $3.03 | +8.9% |
| Cash from operating activities | $1,386 | $1,449 | −$63 |
| Capital expenditures | $1,586 | $1,434 | +$152 |
Operating margin was approximately 32.0%, compared with 37.3% in 2017, as operating expenses rose 11.1%, faster than revenue. Regulated revenue increased 0.9% to $2,984; market-based revenue rose 12.8% to $476, principally reflecting the Pivotal acquisition. Regulated billed water volume fell 0.8%.
At year-end, cash and cash equivalents were $130; total debt and mandatorily redeemable preferred stock were approximately $8.6 billion, including $964 of short-term debt and $71 of current long-term debt. Working capital was in deficit. The company reported $2.177 billion of available revolving-credit capacity and $1.146 billion of remaining commercial-paper capacity. Its debt-to-capitalization covenant ratio was 0.59 against a 0.70 limit. Dividends declared were $1.82 per share, versus $1.66 in 2017.
Fourth quarter: Revenue was $850 versus $821 in Q4 2017; operating income was $248 versus $281; and net income attributable to common shareholders was $112 versus a loss of $1. Diluted EPS was $0.62 versus zero, as reported.
Material changes and unusual items
- GAAP net income benefited from the lower tax provision compared with 2017, which included a $125 non-cash charge related to the Tax Cuts and Jobs Act (TCJA). The 2018 effective tax rate was 28.2%, versus 53.3% in 2017.
- Adjusted EPS excludes specified items and rose 8.9%; the measure is non-GAAP and should be considered alongside, not instead of, GAAP results.
- American Water acquired Pivotal Home Solutions for $365 million and issued $183 million of common stock to help fund the purchase. It sold most Contract Services Group operating and maintenance contracts for $27 million, recognizing a $14 million pre-tax gain.
- A $57 million non-cash impairment charge was recorded for Keystone after exiting its construction and water-trucking businesses and narrowing its focus to water transfer services.
- Operating cash flow declined despite higher net income, partly due to lower revenue associated with TCJA customer benefits and working-capital changes. Investing cash outflow increased to $2,036, including acquisitions.
Outlook, risks and contingencies
Management expects $8.0–$8.6 billion of investment during 2019–2023, including $7.3 billion for regulated infrastructure. Planned 2019 investment is $1.7–$1.8 billion, including $1.6 billion in regulated infrastructure and $120–$240 million for regulated acquisitions. The company targets an adjusted regulated O&M efficiency ratio of 31.5% by 2023; the 2018 ratio was 35.6%, compared with 35.3% in 2017.
Management expects to begin paying federal income taxes toward the end of 2019 and to be a full-year cash taxpayer in 2020, subject to results and regulatory outcomes. No annual EPS guidance is provided in the filing text.
Key risks include rate-case and cost-recovery delays, rising infrastructure and compliance needs, weather and water-supply variability, emerging contaminants, cyber and physical security, interest rates and access to capital. The TCJA’s regulatory treatment remained unresolved in three jurisdictions. The company estimates lead service lines affect approximately 5% of its service lines and estimates replacement costs of $600 million–$1.2 billion; the timing and recovery of costs remain important uncertainties.
The Monterey Peninsula Water Supply Project is intended to help meet a December 31, 2021 deadline to reduce Carmel River diversions. Although the CPUC approved the project, permitting, litigation and local opposition remain; the earliest estimated completion was sometime in 2021, with no assurance of timely completion. Other notable matters include a Monterey-area feasibility study concerning possible acquisition of water assets, an Illinois eminent-domain pipeline case, and a West Virginia water-main-break class action with unspecified damages. The filing reports $54 million of accrued probable loss contingencies and $26 million of reasonably possible losses that could be estimated; some matters could not be estimated. A New York regulatory settlement included up to $4.5 million in customer benefits not recoverable in rates and accelerated customer credits of approximately $6.4 million.
The auditor gave an unqualified opinion on the financial statements and internal control over financial reporting; management also concluded controls were effective. Pivotal was excluded from the 2018 internal-control assessment while integration continued.
Important facts for investors to verify
- Whether planned capital spending, rate authorizations and regulatory mechanisms support timely recovery of investment and costs.
- Progress, permits, costs and schedule for the Monterey water-supply project, including compliance with the Carmel River diversion deadline.
- Actual TCJA customer credits, remaining regulatory proceedings and the timing of the company’s transition to cash-taxpayer status.
- Debt funding needs, refinancing access, interest costs and the ability to maintain covenant and credit-rating metrics amid substantial investment plans.
- Execution of the 2023 efficiency-ratio target and the trajectory of regulated operating costs and water volumes.
- Developments in the lead-service-line program, water-quality requirements, condemnation matters and other litigation or contingencies.