PINNACLE WEST CAPITAL CORP quarterly report, Q3 FY2023

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Pinnacle West Capital Corporation (PNW) — Q3 2023 Form 10-Q

Reporting period: Three and nine months ended September 30, 2023. Pinnacle West is an Arizona electric utility holding company whose results are primarily driven by regulated subsidiary Arizona Public Service Company (APS), serving approximately 1.4 million retail customers. Amounts below are in U.S. dollars; financial figures are rounded to millions unless noted.

Financial performance and position

  • Revenue: Q3 revenue was $1.638 billion, up 11.4% from $1.470 billion a year earlier. Nine-month revenue was $3.704 billion, up 11.7% from $3.315 billion. Growth was primarily in retail residential and non-residential electric service.
  • Profit and EPS: Q3 net income attributable to common shareholders increased to $398 million from $326 million; diluted EPS was $3.50 versus $2.88. For the first nine months, attributable net income declined to $502 million from $508 million, and diluted EPS decreased to $4.41 from $4.48.
  • Operating results and margins: Operating income was $516 million in Q3 versus $418 million; nine-month operating income was $750 million versus $695 million. Calculated operating margin was approximately 31.5% in Q3 versus 28.4%, but 20.3% for nine months versus 21.0%.
  • Cash flow and investment: Nine-month operating cash flow was $834 million, down $198 million year over year. Capital expenditures were $1.315 billion, leaving operating cash flow less capital expenditures at approximately negative $481 million. Investing cash outflow was $1.236 billion; financing cash inflow was $412 million. Cash ended at $15 million.
  • Debt and liquidity: At September 30, long-term debt including current maturities was approximately $8.414 billion; short-term borrowings were $424 million. Pinnacle West had $111 million of commercial paper outstanding and APS $313 million; neither had borrowings under its revolving credit facility. Their respective committed facilities were $200 million and $1.25 billion. Debt-to-capitalization covenant ratios were 58% for Pinnacle West and 51% for APS, below the 65% limit.
  • Capital and shareholder returns: APS’s defined common equity ratio was 50%, above its 40% regulatory minimum. Pinnacle West paid $288 million in common dividends during the nine-month period. In October, the board declared a quarterly dividend of $0.88 per share and raised the indicated annual rate to $3.52.

Material changes versus the comparable period

  • Q3 earnings improved, supported by weather, Court Resolution Surcharge (CRS) and Lost Fixed Cost Recovery (LFCR) revenue, and higher other income. Nine-month earnings were slightly lower as operating and interest costs rose and pension-related non-service credits declined.
  • Nine-month fuel and purchased-power expense rose to $1.417 billion from $1.174 billion; interest charges rose to $279 million from $206 million. Operations and maintenance increased to $777 million from $715 million, while depreciation and amortization increased to $590 million from $563 million.
  • Operating cash flow declined year over year, reflecting higher fuel and purchased-power costs, O&M spending, and interest payments, partly offset by higher customer cash receipts.
  • APS’s deferred fuel and purchased-power regulatory asset increased to $527 million from $461 million at year-end 2022, reflecting costs deferred under the power supply recovery mechanism.

Outlook, commentary, risks and unusual items

  • Rates and regulation: APS’s 2022 retail rate case remained pending after hearings concluded in early October. APS’s latest request was a $377.7 million annual revenue increase, with an estimated 11.2% average bill impact; the company anticipated an effective date in early 2024 and could not predict the outcome. The ACC’s final decision may differ materially from APS’s request.
  • Sales and investment outlook: APS projected 2023 customer growth of 1.5%–2.5% and weather-adjusted retail sales growth of 1.0%–3.0%. It projected average annual sales growth of 4.5%–6.5% through 2025, including expected large data-center and manufacturing demand, while noting slower-than-expected data-center growth and project delays. APS forecast capital expenditures of $1.8 billion in 2023, $1.8 billion in 2024 and $1.85 billion in 2025.
  • Rate recovery and affordability: The PSA rate effective in March 2023 was designed to reduce the deferred fuel balance toward near zero over 24 months. APS reported that inflation, including elevated costs for utility equipment, labor and services, continued to pressure spending; management cited cost-control efforts and longer-term procurement as mitigants.
  • Business sale: Pinnacle West began selling Bright Canyon Energy (BCE) to Ameresco in stages. The first stage closed August 4, generating a $6 million pretax gain; $32 million of assets remained classified as held for sale at quarter-end. Completion of the remaining stage depended on conditions including third-party consents. Certain wind and transmission investments were retained in a new subsidiary.
  • Commitments and environmental exposure: Fuel, purchased-power and purchase-obligation commitments increased by $6.8 billion from the 2022 year-end disclosure, mainly from new purchased-power and energy-storage commitments; about $5.3 billion related to purchased-power lease contracts. Proposed EPA rules on greenhouse-gas emissions and coal-combustion residuals could raise compliance costs; ultimate requirements and recoverability through rates were uncertain. APS also disclosed ongoing PFAS and Superfund investigations and could not estimate all future remediation costs.
  • Other risks: The filing highlights weather extremes, wildfire liability, fuel and power price volatility, supply-chain constraints, plant outages, rising financing costs, and regulatory decisions. Pinnacle West and APS credit outlooks were negative at the agencies listed in the filing. Wildfire risk was added as an updated risk factor.
  • Unusual accounting and exposures: Pinnacle West reported a $6 million BCE-sale gain and materially higher interest income. APS’s energy derivatives were subject to regulatory deferral for rate treatment. A downgrade below investment grade could require approximately $47 million of additional collateral on certain derivatives and approximately $161 million under certain energy-related non-derivative contracts.

Important facts for investors to verify

  • Track the ACC’s final decision and timing in APS’s 2022 rate case, including allowed revenue, return on equity, and treatment of recovery mechanisms.
  • Monitor fuel-cost recovery and the $527 million deferred fuel balance, including whether collections follow the expected trajectory.
  • Assess whether APS can fund its capital program and growing energy-storage commitments while operating cash flow remains below capital expenditures.
  • Verify the completion, proceeds and final accounting for the remaining BCE sale stage and related investment-tax-credit arrangements.
  • Follow large-customer load growth, project timing, resource procurement and transmission availability against APS’s sales outlook and reliability needs.
  • Review developments in environmental proceedings, wildfire exposure, and credit ratings for potential effects on costs, liquidity and rate recovery.