American Water Works Company, Inc. — 2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017. The filing also provides unaudited fourth-quarter results. American Water is a regulated water and wastewater utility serving about 15 million people, with market-based water services businesses. Regulated operations generated 88% of 2017 operating revenue.
Financial highlights
| Metric | 2017 | 2016 | Change |
|---|---|---|---|
| Operating revenue | $3.357 billion | $3.302 billion | +1.7% |
| Operating income | $1.244 billion | $1.080 billion | +15.2% |
| Net income attributable to common stockholders | $426 million | $468 million | -9.0% |
| Diluted EPS | $2.38 | $2.62 | -9.2% |
| Adjusted diluted EPS (non-GAAP) | $3.03 | $2.84 | +6.7% |
| Net cash from operating activities | $1.449 billion | $1.289 billion | +$160 million |
| Capital expenditures | $1.434 billion | $1.311 billion | +9.4% |
- Revenue and operations: Regulated revenue rose 3.0% to $2.958 billion, driven by authorized rate increases, acquisitions and organic growth; lower water demand partly offset gains. Market-based revenue fell 6.4% to $422 million, mainly from reduced military-base capital upgrades.
- Cash flow and investment: Operating cash flow increased to $1.449 billion. Investing activities used $1.672 billion, including capital expenditures and acquisitions. Capital spending exceeded operating cash flow by about $15 million before acquisitions and other investing activity.
- Debt and liquidity: Long-term debt and redeemable preferred stock totaled $6.498 billion; short-term debt was $905 million and current long-term debt was $322 million. The filing cites aggregate long- and short-term debt of about $7.7 billion. Cash and cash equivalents were $55 million; working capital was in a deficit position. The $1.75 billion revolving facility had $1.673 billion of available capacity, supporting $905 million of commercial paper. Debt-to-capitalization was 0.59 against a 0.70 covenant limit.
- Margins: Operating margin was approximately 37.1% in 2017 versus 32.7% in 2016, based on reported operating income and revenue. The increase reflected lower operating expenses, including nonrecurring settlement-related items.
- Dividends: Dividends declared were $1.66 per share, up from $1.50; cash dividends paid totaled $289 million.
Material changes versus 2016
- Reported net income and EPS declined, notwithstanding higher operating income. The primary unusual item was a $125 million non-cash, after-tax deferred-tax remeasurement charge associated with the Tax Cuts and Jobs Act (TCJA). The effective tax rate increased to 53.3% from 39.2%.
- Adjusted diluted EPS, which excludes specified tax and settlement items, increased 6.7%. Management attributed the improvement mainly to regulated infrastructure investment, acquisitions and growth in Homeowner Services and Keystone, partly offset by lower water demand and military upgrades.
- Operating cash flow rose 12.4%; capital expenditures increased to a record $1.434 billion. Regulated businesses added about 40,000 customer equivalents through acquisitions.
- The regulated O&M efficiency ratio improved to 33.8% from 34.9% (non-GAAP).
Outlook, risks and unusual items
- Investment outlook: Management expects $8.0–$8.6 billion of total investment from 2018–2022, including $7.2 billion for regulated infrastructure. For 2018, expected total investment is $1.6–$1.8 billion, including $1.4–$1.5 billion for regulated infrastructure and $120–$240 million for regulated acquisitions.
- Efficiency target: Management targets an adjusted regulated O&M efficiency ratio at or below 32.0% by 2022. It expects TCJA-related lower rate authorizations to initially reduce cash flow, while stating that the law is expected to be earnings-accretive over time. Management anticipated beginning federal cash tax payments toward the end of 2019 and becoming a full cash taxpayer by 2020; timing depends on results and regulatory outcomes.
- TCJA uncertainty: Regulatory proceedings were open in all 14 regulated jurisdictions. The company recorded substantial regulatory liabilities for deferred taxes expected to be returned to customers; the timing and treatment of rate and cash-flow effects remained uncertain.
- Freedom Industries spill: A proposed global settlement was preliminarily approved, but final court approval remained pending at the filing date. The proposed aggregate settlement was $126 million; WVAWC’s estimated contribution net of insurance recoveries was $43 million. Additional insurance recovery remained subject to arbitration. The company recorded a $65 million net charge in 2016 and a $22 million insurance benefit in 2017.
- Other contingencies: Cal Am faced a pending California rate-administration proceeding where an administrative law judge described a potential penalty range of $3–$179 million; the company stated the probable and reasonably possible amounts were immaterial at year-end. The Monterey Peninsula water-supply project faced permitting, litigation and schedule uncertainty, with completion estimated no earlier than 2021. Other disclosed matters include a West Virginia water-main-break class action and a California water-operator compliance investigation.
- Infrastructure and operating risks: The filing estimates lead in about 5% of service lines and an eventual replacement cost of $600 million–$1.2 billion. Other key exposures include rate-case and regulatory lag, water supply and drought, stricter water-quality rules and emerging contaminants, severe weather, cyber/physical security, labor negotiations, interest rates and access to capital. The company estimated $150–$250 million for additional UV treatment at more than 30 surface-water systems, subject to requirements and implementation.
Important facts for investors to verify
- Track final Freedom Industries settlement approval, payment timing and recovery from the remaining insurer.
- Monitor TCJA regulatory proceedings, customer refunds, rate authorizations and actual cash-tax timing.
- Compare planned capital spending and acquisitions with operating cash flow, debt issuance and leverage.
- Follow the California penalty proceeding, Monterey water-supply project approvals and the West Virginia outage litigation.
- Assess the cost, timing and regulatory recovery of lead-line replacement and emerging-contaminant compliance.
- Review the assumptions behind adjusted EPS and the non-GAAP efficiency target; reported 2017 diluted EPS was $2.38 versus adjusted EPS of $3.03.
The independent auditor issued unqualified opinions on the financial statements and internal control over financial reporting; management and the auditor reported controls effective as of December 31, 2017.