Otter Tail Corporation — FY2013 Form 10-K
Business context and reporting period
Annual report for the year ended December 31, 2013; the filing also provides unaudited fourth-quarter results. Otter Tail operates regulated electric utility and Manufacturing, Plastics, and Construction businesses. Its strategy is to shift resources toward utility rate-base growth while retaining the nonutility businesses. The Electric segment supplied 77% of continuing-operations earnings in 2013.
Financial results and liquidity
| Metric | 2013 | 2012 |
|---|---|---|
| Operating revenue | $893.3 million | $859.2 million |
| Operating income | $96.9 million | $82.0 million |
| Net income from continuing operations | $50.2 million | $39.0 million |
| Total net income (loss) | $50.9 million | $(5.3) million |
| Diluted EPS, continuing operations | $1.37 | $1.05 |
| Operating cash flow, continuing operations | $150.3 million | $169.0 million |
| Capital expenditures | $164.5 million | $115.8 million |
| Long-term debt at year-end | $389.6 million | $421.7 million |
Consolidated operating margin was approximately 10.8%, up from 9.5%. Interest charges were $27.0 million, down from $31.9 million. Income tax expense from continuing operations was $13.5 million, versus $2.1 million; the effective rates were 21.3% and 5.2%, respectively. Year-end cash was $1.2 million, short-term debt was $51.2 million, and $266.3 million remained available under revolving credit facilities, net of stated letters-of-credit restrictions. Total assets were $1.596 billion.
Fourth-quarter revenue was $233.2 million, continuing-operations net income was $12.6 million, and diluted continuing-operations EPS was $0.35. The comparable 2012 quarter recorded $212.6 million revenue, $17.1 million continuing-operations net income, and $0.47 diluted EPS.
Material changes versus the prior comparable period
- Annual revenue rose 4.0%; colder weather contributed to a 5.8% increase in retail electric sales volume. Electric revenue rose $22.8 million, while Plastics revenue increased $14.4 million on higher pipe volume.
- Continuing-operations net income increased about 29%. Construction improved to $1.3 million net income from a $7.7 million loss, principally as Foley’s project cost overruns diminished. Manufacturing net income rose 7.3% to $11.5 million; Plastics net income declined 2.2% to $13.8 million; Electric net income was nearly unchanged at $38.2 million.
- Cash from continuing operations fell $18.7 million, mainly reflecting a smaller cash contribution from payables and other current liabilities. Capital expenditures increased $48.7 million, largely reflecting utility transmission and Big Stone environmental construction.
- Net income in 2012 was burdened by $44.2 million of discontinued-operations losses, including impairments. In 2013 discontinued operations contributed $0.7 million, so the swing in total net income does not represent continuing-business growth alone.
Outlook, commentary, risks and unusual items
- Management guided to 2014 diluted continuing-operations EPS of $1.55–$1.75 and capital expenditures of $195 million. It expects utility earnings to increase, Manufacturing to be broadly flat, Plastics earnings to normalize from a strong 2013, and Construction earnings to improve. The company’s longer-term goal is annual EPS growth of 4%–7%, measured from 2012.
- Planned 2014–2018 capital spending totals approximately $769 million, including $657 million for Electric. Major commitments include OTP’s estimated $218 million share of the Big Stone air-quality control system and substantial transmission investment. Timely approvals and recovery of costs through regulated rates are important to returns.
- In November 2013, the company retired $47.7 million of 9% notes for approximately $59.4 million, including a $9.9 million premium. The resulting $10.3 million pretax extinguishment loss reduced 2013 diluted EPS by $0.17; management expects annual pretax interest savings of about $4.3 million in 2014 and 2015. In February 2014, OTP issued $150 million of long-term notes and used part of the proceeds to repay its $40.9 million variable-rate term loan and short-term borrowings.
- Major risks include environmental compliance costs, coal and fuel supply, utility regulation and rate recovery, construction fixed-price cost overruns, cyclical PVC resin and pipe margins, and concentration of PVC resin purchases with two suppliers (93% in 2013). A FERC complaint sought to reduce the MISO transmission return on equity from 12.38% to 9.15%; it was pending at the filing date. Review of MISO’s transmission cost allocation and evolving emissions rules also created uncertainty.
- The company retained warranty obligations for products of former wind-tower and waterfront-equipment businesses; the year-end reserve was $3.1 million, and management cautioned remediation claims could exceed reserves. Separately, identified environmental, litigation, and tax contingencies could total up to $2.0 million if all known items resulted in liabilities. The pension plan received a discretionary $20 million contribution in January 2014.
- Management reported compliance with debt covenants; consolidated interest-bearing debt to capitalization was 0.45 to 1.00. The independent auditor issued an unqualified opinion and reported effective internal control over financial reporting.
Important facts for investors to verify
- Whether the 2014 EPS outlook and projected utility rate-base growth are being achieved, including the timing, cost, and rate recovery of Big Stone and transmission projects.
- Developments in the FERC transmission return-on-equity complaint and MISO cost-allocation review, and any impact on utility revenue or project economics.
- Actual capital spending, operating cash flow, borrowing needs, and liquidity after the February 2014 note issuance and repayment of short-term debt.
- Whether former-business warranty and remediation claims remain within the $3.1 million reserve, and whether any environmental or other contingencies become probable or estimable.
- How discontinued-operation effects and the 2013 debt-extinguishment charge affect comparisons of reported net income and EPS with future periods.