California Water Service Group — Q3 2011 Form 10-Q
Reporting period: Three and nine months ended September 30, 2011. Unaudited consolidated results; amounts below are in millions except per-share data. The company provides regulated water services in California, Washington, New Mexico, and Hawaii, plus nonregulated utility-related services. Share and per-share figures reflect the June 2011 two-for-one stock split.
Financial performance
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Operating revenue | $169.3 | $146.3 | $398.8 | $354.9 |
| Net operating income | $30.1 | $25.9 | $59.6 | $49.9 |
| Net income | $20.9 | $20.4 | $35.8 | $32.8 |
| Diluted EPS | $0.50 | $0.49 | $0.86 | $0.79 |
| Operating margin | 17.8% | 17.7% | 14.9% | 14.1% |
| Net margin | 12.4% | 13.9% | 9.0% | 9.2% |
| Net interest expense | $7.3 | $6.5 | $22.7 | $18.0 |
- Cash flow, nine months: Operating cash flow was $97.7, up from $77.5. Utility plant expenditures were $89.5, versus $99.3; cash increased $4.4 to $46.7.
- Balance sheet at September 30: Total assets were $1,801.2; common equity $454.1; long-term debt, including current maturities, $480.0; and short-term borrowings $39.9. Cash was $46.7. Current assets of $155.2 were slightly below current liabilities of $160.7.
- Dividends: Q3 dividend declared was $0.15375 per share, compared with $0.14875 a year earlier. The annualized rate was $0.615 per share.
Changes versus comparable periods
- Q3 revenue rose 16% and nine-month revenue rose 12%, primarily from authorized rate increases. Net income increased 3% in Q3 and 9% year to date; diluted EPS rose to $0.50 and $0.86, respectively.
- Rate increases contributed $21.5 in Q3 and $40.7 for the nine-month period. These included general rate case increases and purchased-water cost offsets.
- Operating expenses rose 16% in Q3 and 11% year to date. Higher purchased-water prices, employee wages and benefits, conservation costs, and depreciation contributed; lower customer usage reduced production volumes.
- Net interest expense increased $0.9 in Q3 and $4.6 year to date, reflecting the November 2010 $100 million bond issuance, additional short-term borrowing, and lower capitalized interest year to date. An unrealized $2.8 loss on benefit-plan insurance investments weighed on other income, compared with gains in 2010.
- Nine-month operating cash flow improved, though receivables increased and pension and retiree-health contributions rose to $15.9 from $13.2.
Outlook, regulation, risks, and unusual items
- Management expected a 2011 effective tax rate of 38%–40% and company-funded 2011 capital expenditures of approximately $120–$140; $89.5 of company- and developer-funded expenditures had been made through September. No full-year earnings guidance is provided.
- Management said water supplies were expected to meet demand and applicable standards; California snowpack and rainfall were reported at 145% of normal as of October 1, 2011. Results are seasonal, with revenue and income generally higher in warm months.
- The company’s 2009 California rate case authorized a $25.4 annual revenue increase effective January 2011, with additional 2012 and 2013 increases subject to adjustments and an earnings test. Other rate requests and regulatory filings remained pending or subject to commission approval.
- Regulatory balances and recoveries matter to reported results: WRAM/MCBA balances vary with usage and production costs. The CPUC required MTBE litigation proceeds to benefit customers; $16.7 had been transferred to contributions in aid of construction, while final treatment of proceeds and future remediation costs remained uncertain.
- A proposed $2.0 million customer settlement concerning the service-line insurance program was subject to CPUC approval. The company had recorded the related regulatory liability.
- Groundwater contamination litigation involving MTBE, TCP, and PCE continued; no trial dates were set. The company said it did not expect other legal matters, after reserves, to materially affect its financial position, results, or cash flows. A California tax audit of 2008–2009 returns was ongoing; management did not expect a material adverse impact.
- On October 4, 2011, Cal Water agreed to operate Hawthorne’s water system for 15 years, including an $8.1 one-time base rent payment and $0.9 annual rent. Management identified regulatory decisions, rate relief timing, water and power costs, weather, conservation, interest rates, capital access, and pension/health costs among relevant risks.
- New five-year revolving facilities provide up to $100 for the parent and $300 for Cal Water. At quarter-end, $39.9 was drawn on the parent facility and the Cal Water facility was undrawn; the company reported compliance with covenants.
Important facts for investors to verify
- Whether the authorized rate increases and balancing-account recoveries translate into sustained earnings and cash collection, particularly as customer usage and conservation affect volumes.
- How purchased-water costs, employee benefit expenses, and pension funding develop relative to rates and regulatory recovery.
- Capital spending and financing needs: management expected capital requirements to exceed internally generated funds after dividends and anticipated using a mix of debt and equity.
- Commission outcomes for the service-line settlement, contamination proceeds, pending rate cases, and other regulatory balances.
- Potential financial exposure and timing in groundwater litigation, the California tax audit, and other contingencies; also the cost and accounting treatment of the Hawthorne lease.