Business Context and Reporting Period
Company: Companhia de Saneamento Básico do Estado de São Paulo (SABESP)
Filing Type: Form 6-K (Quarterly Information - ITR)
Reporting Period: Quarter ended September 30, 2010 (3Q10) and Year-to-Date (Jan-Sep 2010)
Business Overview: SABESP is a state-controlled mixed-capital company providing water supply and sewage collection/treatment services in 364 municipalities in the State of São Paulo, Brazil. The company operates under concession agreements and program contracts, with significant exposure to the State Government and municipal entities.
Key Financial Metrics (Consolidated)
All figures in Brazilian Reais (R$) unless otherwise noted. Amounts in thousands.
| Metric | 3Q 2010 | 3Q 2009 | YTD 2010 | YTD 2009 |
|---|---|---|---|---|
| Net Revenue | 1,835,635 | 1,628,971 | 5,357,426 | 4,905,960 |
| Gross Profit | 1,012,184 | 866,877 | 3,030,223 | 2,478,594 |
| Operating Income (EBIT) | 687,510 | 305,569 | 1,650,261 | 1,348,124 |
| Net Income | 449,807 | 195,727 | 1,074,050 | 916,606 |
| Earnings Per Share (R$) | 1.97 | 0.86 | 4.71 | 4.02 |
| EBITDA | 799,600 | 617,100 | 2,439,000 | 1,907,400 |
| EBITDA Margin | 43.6% | 37.9% | 45.5% | 38.9% |
| Cash & Equivalents (End of Period) | 1,367,191 | 386,269 | 1,367,191 | 386,269 |
| Total Assets | 23,539,694 | - | 23,539,694 | - |
| Total Liabilities | 11,938,007 | - | 11,938,007 | - |
| Shareholders' Equity | 11,601,687 | - | 11,601,687 | - |
Material Changes vs. Prior Period
- Revenue Growth: Net revenue increased 12.7% in 3Q10 compared to 3Q09, driven by a 4.44% tariff adjustment and a 5.6% increase in billed volume.
- Profitability Surge: Net income jumped 129.8% in 3Q10 (R$449.8M vs R$195.7M). This was primarily due to a significant reduction in financial expenses related to judicial proceedings (R$240.8M decrease) and improved operating margins.
- Cost Management: Total costs and expenses increased only 0.6% in 3Q10, while revenue grew 12.7%, resulting in a decrease in the cost-to-revenue ratio from 72.0% to 64.3%.
- Financial Expenses: Net financial expenses dropped dramatically from R$266.2M in 3Q09 to R$15.6M in 3Q10, largely due to the reversal of provisions for court-ordered indemnities.
- Asset Reclassification: A significant reclassification of R$7.35 billion occurred from Property, Plant, and Equipment to Intangible Assets related to the "Contract of Public Service Provision" with the Municipality of São Paulo.
Guidance, Outlook, Risks, and Contingencies
- Accounting Standards Transition: Management noted that new Brazilian accounting standards (CPCs) effective in 2010 were not fully applied in this report. An estimated impact of R$696M write-off of receivables and R$878M actuarial obligation adjustment could reduce shareholders' equity to approximately R$9.54 billion if applied.
- Concession Renewals: 92 concessions had expired as of September 30, 2010, with negotiations ongoing. Management expects renewal without service discontinuity. 72 more concessions are scheduled to expire between 2010 and 2030.
- State Government Receivables: Significant receivables exist from the State of São Paulo (Gesp). A "Controversial Amount" of R$510.3M regarding pension benefit reimbursements has been provisioned for loss. A separate "Uncontroversial Amount" settlement involves the transfer of reservoirs, which faces legal challenges regarding legislative authorization.
- Legal Contingencies: The company maintains provisions of R$1.4 billion for probable losses in lawsuits (customers, suppliers, tax, labor, environmental). Additional lawsuits with "possible" likelihood of loss total approximately R$2.26 billion.
- Debt Structure: Total debt stands at R$7.66 billion. The company has significant exposure to foreign currency (USD and Yen) and variable interest rates. No derivative hedges are currently in place.
- Operational Outlook: Water loss decreased to 26.0% from 26.5%. The company continues to invest in infrastructure, with contracted investments of approximately R$2.48 billion for the remainder of 2010 through 2015.
Investor Verification Checklist
- Accounting Restatement Risk: Verify the final impact of the new CPC accounting standards on equity and net income, as the current filing uses 2009 standards.
- State Receivables Recovery: Monitor the legal status of the reservoir transfer agreement and the "Controversial Amount" receivable from the State of São Paulo, which represents a significant asset risk.
- Concession Renewals: Track the progress of negotiations for the 92 expired concessions and the 72 upcoming expirations to ensure revenue stability.
- Financial Expense Volatility: Assess the sustainability of the low financial expense levels, which were heavily influenced by the reversal of judicial indemnity provisions.
- Foreign Exchange Exposure: Review the company's strategy for managing its R$1.72 billion exposure to USD and Yen debt without active hedging instruments.
- Provision Adequacy: Evaluate the sufficiency of the R$1.4 billion provision for legal contingencies given the R$2.26 billion in additional "possible" loss lawsuits.