Business Context and Reporting Period
This Form 10-K is a combined annual report for Pinnacle West Capital Corporation (the holding company) and its primary subsidiary, Arizona Public Service Company (APS), for the fiscal year ended December 31, 2005. Pinnacle West operates through three principal segments: regulated electricity (75% of 2005 revenues), real estate (11%), and marketing and trading (12%). APS is a vertically-integrated electric utility serving most of Arizona. A significant operational change occurred in 2005 when Pinnacle West Energy transferred its dedicated assets to APS and ceased operations as a generator, while also selling its 75% interest in the Silverhawk power plant in early 2006.
Key Financial Metrics
| Metric (in millions) | 2005 | 2004 |
|---|---|---|
| Total Operating Revenues | $2,988 | $2,829 |
| Net Income | $176 | $243 |
| Income from Continuing Operations | $223 | $247 |
| Discontinued Operations (Net Loss) | $(47) | $(4) |
| Earnings Per Share (Basic) | $1.83 | $2.66 |
| Total Assets | $11,323 | $9,897 |
| Long-Term Debt (less current) | $2,608 | $2,585 |
| Common Stock Equity | $3,425 | $2,950 |
| Capital Expenditures | $928 | $598 |
Note: The filing text does not provide a specific consolidated cash flow from operations figure in the summary tables, though the Statement of Cash Flows indicates net cash provided by operating activities was $730 million for 2005.
Material Changes vs. Prior Period
- Net Income Decline: Consolidated net income decreased by approximately 28% ($67 million) compared to 2004. This was primarily driven by a $56 million after-tax loss from discontinued operations related to the sale of Silverhawk and a $84 million after-tax regulatory disallowance of plant costs.
- Regulated Electricity Segment: Income from continuing operations increased by $15 million, driven by a 4.2% retail rate increase effective April 2005, customer growth, and deferred fuel costs. These gains were partially offset by higher fuel prices, increased plant outage days, and the regulatory disallowance.
- Marketing and Trading Segment: Income from continuing operations decreased by $13 million due to lower unit margins on competitive retail sales in California and the reclassification of "Off-System Sales" to the regulated segment.
- Real Estate Segment: Income from continuing operations decreased by $5 million due to decreased parcel sales, though margins on home sales improved.
- Balance Sheet Growth: Total assets increased by $1.4 billion, largely due to the acquisition of the Sundance Plant ($185 million) and the transfer of Pinnacle West Energy assets to APS.
Guidance, Outlook, and Risks
- Rate Proceedings: The primary financial outlook driver is the resolution of APS's retail rate proceedings before the Arizona Corporation Commission (ACC). APS has requested a 21.3% ($453.9 million) annual revenue increase effective no later than December 31, 2006, and an emergency interim rate increase of $299 million effective April 1, 2006.
- Power Supply Adjustor (PSA): APS defers 90% of the difference between actual fuel costs and base rates. As of December 31, 2005, pretax PSA deferrals were $173 million. Management estimates 2006 deferrals could reach $240 million to $250 million absent interim relief.
- Palo Verde Unit 1: Since late December 2005, Unit 1 has operated at reduced power (approx. 25%) due to an acoustic impact issue. Management anticipates a five-week outage in June 2006 to resolve the issue, estimating additional replacement power costs of $40 million after-tax in 2006.
- Capital Needs: Estimated capital expenditures for 2006 are $887 million, focused on transmission, distribution, and generation upgrades to meet customer growth.
- Risks: Key risks include regulatory outcomes, environmental compliance costs (mercury, regional haze), nuclear decommissioning liabilities, and exposure to commodity price volatility in the marketing and trading segment.
Investor Verification Checklist
- Rate Case Outcome: Verify the ACC's final decision on the general rate case and the emergency interim rate increase, as these directly impact future revenue recovery.
- PSA Deferral Recovery: Monitor the timeline and approval of surcharges to recover the $173 million in deferred fuel costs and the projected 2006 deferrals.
- Palo Verde Unit 1 Status: Confirm the timing and cost impact of the planned June 2006 outage and the resolution of the acoustic impact issue.
- Discontinued Operations: Review the final accounting for the Silverhawk sale (completed Jan 2006) and the impact of the $56 million loss on 2005 earnings.
- Regulatory Disallowance: Assess the long-term impact of the $84 million after-tax regulatory disallowance related to the transfer of Pinnacle West Energy assets.