Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended September 30, 2005, for Pinnacle West Capital Corporation (Pinnacle West) and its primary subsidiary, Arizona Public Service Company (APS). Pinnacle West is a holding company with three principal segments: regulated electricity (APS), marketing and trading, and real estate (SunCor). The filing includes unaudited condensed consolidated financial statements and management discussion and analysis.
Key Financial Metrics (Nine Months Ended Sept 30, 2005)
| Metric | 2005 (in millions) | 2004 (in millions) |
|---|---|---|
| Total Operating Revenues | $2,296.3 | $2,115.7 |
| Net Income | $154.9 | $209.5 |
| Income from Continuing Operations | $199.4 | $208.9 |
| Net Income from Discontinued Operations | $(44.5) | $0.6 |
| Earnings Per Share (Diluted) | $1.62 | $2.29 |
| Operating Cash Flow | $887.0 | $632.5 |
| Cash and Cash Equivalents (End of Period) | $871.3 | $126.9 |
| Total Assets | $12,068.2 | $9,896.7 |
| Total Debt (Current + Long-Term) | $3,369.1 | $3,202.2 |
Note: Debt figures derived from Current Maturities of Long-Term Debt and Long-Term Debt less current maturities.
Material Changes vs. Prior Period
- Net Income Decline: Consolidated net income decreased by $54.6 million (26%) compared to the prior year. This was primarily driven by a $44.5 million after-tax loss from discontinued operations related to the pending sale of the Silverhawk power plant.
- Regulatory Disallowance: A significant one-time regulatory disallowance of $143.2 million (pre-tax) was recorded in the third quarter. This resulted from the transfer of Pinnacle West Energy Dedicated Assets to APS, where the rate base value ($700 million) was lower than the net carrying value ($850 million).
- Revenue Growth: Total operating revenues increased by $180.6 million (8.5%). The regulated electricity segment saw a $143 million increase due to customer growth, a rate increase effective April 1, 2005, and weather effects.
- Segment Performance:
- Regulated Electricity: Income from continuing operations remained flat year-over-year ($152 million), as gains from rate increases and volume growth were offset by the regulatory disallowance and higher operating costs.
- Marketing and Trading: Income from continuing operations decreased by $4 million due to lower realized margins on wholesale sales, partially offset by higher mark-to-market gains.
- Real Estate: Income from continuing operations increased by $16 million due to increased parcel sales by SunCor.
- Liquidity: Cash and cash equivalents increased significantly from $163.4 million at year-end 2004 to $871.3 million at September 30, 2005, driven by strong operating cash flows and a $248 million equity issuance in May 2005.
Guidance, Outlook, and Risks
- Rate Case Filing: On November 4, 2005, APS filed a general rate case with the Arizona Corporation Commission (ACC) requesting a $409.1 million (19.9%) increase in annual retail revenues, effective no later than December 31, 2006. This seeks recovery for increased fuel costs, capital structure updates, and the acquisition of the Sundance Plant.
- Power Supply Adjustor (PSA): APS has filed a surcharge application to recover $80 million in deferred fuel and power costs. Management estimates 2006 Retail Fuel and Power Costs will be approximately $834 million, exceeding the current PSA annual limit of $776.2 million. APS has requested the ACC remove or increase this limit.
- Silverhawk Sale: Pinnacle West entered an agreement to sell its 75% interest in the Silverhawk power plant to Nevada Power Company. Closing is expected in the fourth quarter of 2005, subject to regulatory approvals (FERC, FTC).
- Capital Expenditures: Estimated capital expenditures for the full year 2005 are $928 million, with $882 million projected for 2006 and $913 million for 2007. Major projects include transmission upgrades and steam generator replacements at Palo Verde.
- Risks: Key risks include the outcome of the pending rate case and PSA surcharge, volatility in wholesale power and natural gas prices, regulatory changes regarding retail competition in Arizona, and the timely recovery of deferred fuel costs.
Investor Verification Checklist
- Regulatory Approval: Verify the ACC's decision on the $409.1 million rate increase and the $80 million PSA surcharge application.
- Silverhawk Closing: Confirm the closing date and final terms of the Silverhawk sale to Nevada Power Company.
- Fuel Cost Recovery: Monitor the status of the $776.2 million annual limit on recoverable fuel costs and the likelihood of its removal or increase.
- Discontinued Operations: Review the final accounting treatment and cash proceeds from the Silverhawk sale and SunCor real estate dispositions.
- Debt Covenants: Confirm continued compliance with debt-to-capitalization ratios (currently ~51% for Pinnacle West, ~47% for APS) and interest coverage requirements.