PPL Corporation — Q1 2018 Form 10-Q
Business context and period: The filing covers the three months ended March 31, 2018, and includes PPL Corporation and separate reporting for PPL Electric, LG&E and KU Energy (LKE), Louisville Gas and Electric (LG&E), and Kentucky Utilities (KU). PPL is a regulated utility holding company with electricity distribution operations in the U.K. and U.S., plus regulated generation and gas operations in Kentucky.
Key financial results
Amounts are in millions of dollars except per-share data. Comparisons are with Q1 2017 unless otherwise noted.
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Operating revenues | $2,126 | $1,951 | +$175 (+9%) |
| Operating income | $851 | $758 | +$93 (+12%) |
| Net income | $452 | $403 | +$49 (+12%) |
| Diluted EPS | $0.65 | $0.59 | +$0.06 |
| Operating cash flow | $566 | $135 | +$431 |
| Capital expenditures for PP&E | $750 | $677 | +$73 |
- Segment earnings: U.K. Regulated net income was $197 million versus $286 million; Kentucky Regulated was $133 million versus $95 million; Pennsylvania Regulated was $148 million versus $79 million. Corporate and Other loss narrowed to $26 million from $57 million.
- Ongoing earnings: Management’s non-GAAP Earnings from Ongoing Operations were $517 million, up from $425 million. U.K. earnings from ongoing operations were $262 million versus $307 million, while Kentucky and Pennsylvania improved.
- Adjusted gross margins: U.K. $572 million versus $536 million, including a $53 million favorable currency translation effect; excluding exchange-rate changes, margins decreased $17 million. Kentucky rose to $535 million from $507 million and Pennsylvania to $414 million from $366 million.
- Cash flow: Operating cash flow increased substantially, primarily because U.K. pension contributions were $370 million lower than in Q1 2017, when contributions had been accelerated. Investing cash outflow was $753 million, chiefly reflecting capital spending.
- Debt and liquidity: At March 31, PPL reported $1.457 billion of short-term debt, $250 million of long-term debt due within one year, and $20.214 billion of long-term debt. Combined debt was approximately $21.921 billion, versus $21.275 billion at December 31, 2017. Cash and cash equivalents were $629 million; cash, cash equivalents and restricted cash totaled $653 million. U.S. committed credit facilities had $2.177 billion of unused capacity; U.K. facilities had approximately $949 million of unused capacity.
- Dividend and equity financing: PPL declared a quarterly dividend of $0.41 per share, or $1.64 annualized. Under its new at-the-market program, it issued 3.0 million shares and received $85 million in gross proceeds during the quarter.
Material changes and drivers
- Revenue growth reflected higher Pennsylvania distribution and transmission revenue, higher Kentucky sales volumes and base rates, and favorable currency translation in the U.K. Colder weather increased U.S. sales volumes and fuel and energy-purchase costs.
- Lower U.S. federal tax rates under the Tax Cuts and Jobs Act (TCJA) reduced income tax expense, supporting earnings, while utilities began returning estimated tax savings to customers through regulatory mechanisms.
- PPL’s other income (expense) worsened to a $43 million expense from a $9 million expense, mainly because realized and unrealized foreign-currency hedge losses increased; higher pension credits partly offset this.
- Operating cash flow comparisons were materially affected by the timing of pension funding. Capital spending rose at LKE, LG&E and KU, including environmental water projects, while PPL Electric spending declined due to project timing.
Outlook, risks and contingencies
- 2018 outlook: Management projected higher 2018 net income for the U.K. and Pennsylvania segments versus 2017, and higher Kentucky earnings when including the unfavorable 2017 tax-reform comparison. Excluding that prior-year item, Kentucky earnings were projected to be lower, reflecting higher operating, depreciation and interest costs, partly offset by rates and assumed normal weather. No specific full-year earnings or EPS target is stated in the provided filing text.
- Kentucky rates and tax changes: Kentucky’s HB 487 became law on April 27, 2018, reducing the state corporate tax rate from 6% to 5% and introducing combined reporting provisions. LKE expected an approximately $9 million deferred-tax charge in Q2; LG&E and KU estimated additional regulatory liabilities of $16 million and $19 million, respectively. The KPSC’s TCJA customer-credit decision was under reconsideration, with a hearing scheduled for May 24, 2018. The outcome was uncertain.
- Rate proceedings: PPL Electric had not accrued a potential Pennsylvania rate adjustment related to the TCJA, judging a loss not probable at March 31; its estimated maximum exposure at that date was described as immaterial. KU’s Virginia rate-case settlement proposed a $2 million annual revenue increase effective June 1, subject to approval.
- Currency and U.K. regulation: Brexit-related economic and exchange-rate effects remain uncertain and could be significant. PPL said budgeted U.K. earnings were fully hedged for the remainder of 2018 and for 2019, and 50% hedged for 2020, at stated average exchange rates. Ofgem decided not to conduct a mid-period review of the current U.K. price control; the next regulatory framework remains under development.
- Environmental and legal matters: Potential compliance costs involving coal-combustion residuals, wastewater rules and other environmental requirements could be significant, although management generally expects eligible costs to be recoverable through rates. PPL/LG&E and KU face ongoing environmental claims and appeals; the filing says losses for certain matters cannot be estimated. The Cane Run class action and E.W. Brown appeal remain unresolved.
- Other exposures: LG&E and KU’s OVEC power-purchase obligations include potential shares of excess debt-service and other costs; maximum exposure and timing are not determinable. Derivative contracts can require additional collateral following credit downgrades; PPL estimated $91 million of additional collateral requirements under specified below-investment-grade assumptions.
- Management reported no material change in risk factors from the 2017 Form 10-K. Interim results may be affected by seasonality and are not necessarily indicative of full-year performance.
Important facts for investors to verify
- Track the outcome and customer revenue effects of the Kentucky TCJA rate proceedings and the implementation of HB 487.
- Review full-year guidance and reconcile management’s non-GAAP ongoing earnings and adjusted gross margins to GAAP results.
- Assess whether higher capital spending, debt balances and financing needs remain consistent with cash generation, credit ratings and dividend capacity.
- Monitor U.K. sterling exposure, hedge results, Brexit developments and the upcoming RIIO-2 regulatory framework.
- Follow environmental compliance costs, rate recovery, litigation and any changes to ARO estimates or OVEC obligations.