Otter Tail Corporation — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016; unaudited. Otter Tail operates Electric, Manufacturing and Plastics businesses. Dollar amounts below are in millions unless otherwise noted.
Financial performance and position
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Operating revenue | $203.5 | $188.2 | $409.7 | $391.0 |
| Operating income | $27.1 | $24.8 | $54.7 | $49.8 |
| Net income | $15.7 | $11.4 | $30.2 | $29.4 |
| Diluted EPS, continuing operations | $0.41 | $0.36 | $0.79 | $0.73 |
| Total diluted EPS | $0.41 | $0.30 | $0.79 | $0.78 |
| Operating margin (calculated) | 13.3% | 13.2% | 13.3% | 12.7% |
- Cash flow: Six-month operating cash flow was $64.2, up from $41.8 in 2015 ($52.7 from continuing operations in 2015). Continuing-operations capital expenditures were $79.2, versus $83.4; investing cash flow was a use of $78.3. Financing provided $14.1. Cash and cash equivalents were zero at both period ends.
- Debt and liquidity: Total short- and long-term debt, including current maturities, was $595.6 at June 30, versus $576.9 at year-end. Short-term debt was $49.3; long-term debt, net, was $493.8, with $52.5 of current maturities. Credit lines totaled $320.0, with $270.7 available. The company reported a 0.48 debt-to-capitalization ratio and compliance with debt covenants.
- Balance sheet: Total assets were $1,861.9, up from $1,818.7 at December 31, 2015. Current assets were $214.4 and current liabilities $233.1. The company paid $23.8 in dividends during the first half and declared $0.3125 per share quarterly.
Changes versus prior periods
- Q2 revenue rose 8.1% and operating income 9.2%; six-month revenue rose 4.8% and operating income 9.7%. Q2 net income benefited from discontinued-operations income of $0.1, compared with a $2.2 loss in Q2 2015. First-half 2015 included a $7.0 after-tax gain on a discontinued-business sale; consequently, total EPS growth was modest despite higher continuing-operations earnings.
- Electric six-month operating income increased $1.9, to $40.0. Higher retail sales and rider revenue, and lower purchased-power costs, were partly offset by higher fuel, operating and depreciation costs. Big Stone Plant was operational in 2016 after a 2015 maintenance outage.
- Manufacturing six-month operating income increased $3.2, to $9.7, reflecting BTD-Georgia acquisition revenue, product mix and productivity, partly offset by weaker recreational and agricultural end markets and higher depreciation.
- Plastics six-month operating income fell $1.1, to $9.8: sales volumes increased, but lower PVC pipe prices and higher total product costs compressed earnings.
- Six-month continuing-operations operating cash flow improved, with management attributing much of the increase to working-capital movements. Depreciation and amortization increased to $36.8 from $29.2.
Outlook, risks and unusual items
- Guidance: Management reaffirmed 2016 diluted EPS guidance of $1.50–$1.65 and projected capital expenditures of $175. The 2016–2020 capital plan totals $858, including major transmission investments and planned generation projects; management expects an 8.0% rate-base CAGR through 2020, using 2014 as the base year.
- Management commentary: Electric earnings are expected to be comparable with 2015, with normal weather assumed for the rest of 2016. Manufacturing guidance improved, but management cited soft end markets; expected BTD-Georgia full-year sales were revised to $28 from $33. Plastics earnings were expected to decline from 2015. First-half mild weather reduced EPS by an estimated $0.04 versus normal.
- Regulatory exposure: OTP’s Minnesota interim rate increase of 9.56% is subject to refund; its final rate request and 10.4% requested return on equity were not assured. A pending FERC review of MISO transmission returns led OTP to record a $2.4 liability for estimated potential refunds. Final outcomes and amounts may differ.
- Contingencies and commitments: OTP’s estimated share of unrecovered development costs, fees and capital charges under the Coyote Creek mine agreement was $62.5; management described this as potential maximum exposure if specified coal-regulation conditions cause termination and asset impairment. Contract and construction commitments were approximately $123.1. Known environmental, divestiture-indemnity and litigation contingencies could total up to $1.0 if all known items resulted in liabilities.
- Other risks: Carbon-emissions rules remained under legal challenge and a Supreme Court stay; the outcome could affect costs and generation plans. The company also cited operating and market risks, including weather, plant outages, commodity prices, manufacturing end-market weakness, PVC resin supply and pricing, interest rates, pension funding and access to capital. It retains legacy product warranty obligations from discontinued businesses.
- Unusual items: Q2 other income included $0.7 of corporate-owned life-insurance proceeds and $0.2 of gains on low-income housing investments. The BTD-Georgia purchase-price settlement reduced goodwill by $2.2. The company issued $50.0 under a new term loan and sold 510,139 shares through its at-the-market program during Q2.
Investor verification points
- Track the final Minnesota rate-case decision and any refunds or adjustments to interim rates.
- Review the FERC MISO return-on-equity proceedings against the recorded $2.4 refund liability and potential rider recovery.
- Compare results with the $1.50–$1.65 EPS guidance, especially assumptions for weather, Electric costs, manufacturing demand and Plastics margins.
- Monitor capital spending, financing needs, debt maturities and covenant headroom as the $858 five-year capital plan proceeds.
- Assess the Coyote Creek agreement’s $62.5 potential exposure, emissions-rule developments, and remaining discontinued-operation warranty claims.