Exelon Corporation — Q3 2017 Form 10-Q
Business context and reporting period
Exelon is a diversified energy holding company with competitive generation and regulated electric and gas utilities. This combined filing covers Exelon and its subsidiaries for the quarter and nine months ended September 30, 2017. The nine-month comparison is affected by the March 2016 acquisition of Pepco Holdings (PHI): 2017 includes PHI for the full period, while 2016 includes it only after the March 23 closing. PHI’s predecessor and successor periods also reflect different accounting bases.
Financial performance and liquidity
- Third-quarter results: Revenue was $8.77 billion, down 2.6% from $9.00 billion. Operating income rose to $1.48 billion from $1.27 billion; operating margin was approximately 16.8%, versus 14.1%. Net income attributable to common shareholders was $824 million, or $0.85 per diluted share, compared with $490 million, or $0.53 per share.
- Nine-month results: Revenue was $25.15 billion, up from $23.49 billion. Operating income was $3.00 billion versus $2.40 billion. Net income attributable to common shareholders increased to $1.90 billion from $930 million; diluted EPS was $2.01 versus $1.00. Adjusted operating earnings, a non-GAAP measure, declined to $1.94 billion ($2.05 per diluted share) from $2.08 billion ($2.24 per share).
- Cash flow: Nine-month operating cash flow was $5.68 billion, down from $7.36 billion. Capital expenditures were $5.56 billion, versus $6.37 billion. Lower collateral receipts and less favorable working-capital movements were among the factors affecting cash flow.
- Balance sheet and liquidity: At September 30, cash and cash equivalents were $1.20 billion, total assets $118.47 billion, and total liabilities $88.16 billion. Current assets were $12.72 billion and current liabilities $12.40 billion. Reported debt included $34.87 billion of long-term debt, including current maturities, $389 million of debt to financing trusts, and $710 million of short-term borrowings. Cash includes a $1.25 billion IRS deposit. The Registrants reported $9.5 billion of aggregate credit commitments, with $8.3 billion available.
- Shareholder returns: Exelon declared $0.33 per common share for Q3; the stated quarterly dividend was $0.3275 per share. Nine-month dividends declared were $0.98 per share.
Material changes versus prior period
- GAAP earnings rose sharply, but the increase includes substantial nonrecurring and market-sensitive items. These include a $233 million after-tax bargain purchase gain from the FitzPatrick acquisition, higher nuclear decommissioning trust investment gains, and the prior-year impact of the PHI merger and like-kind exchange tax charges. Adjusted operating earnings declined year over year in both Q3 and the nine-month period.
- Competitive generation revenue net of purchased power and fuel was down $26 million in Q3 and $228 million year to date. Management cited mild weather, lower realized energy prices and the end of the Ginna reliability support agreement, partly offset by New York zero-emission credits, FitzPatrick, new Texas generation and capacity prices.
- Regulated utility performance was mixed. ComEd’s nine-month net income increased to $447 million from $297 million, while PECO’s declined to $327 million from $346 million. PHI’s nine-month successor net income was $359 million; its 2016 comparison is not directly comparable because of acquisition accounting and the partial-period presentation.
Outlook, management commentary, risks and unusual items
- Nuclear operations: Generation plans to cease operations at Three Mile Island (TMI) on or about September 30, 2019, after the plant failed to clear a PJM capacity auction for 2020–2021. Exelon recorded $76 million of one-time retirement-related charges in 2017 and reported $149 million of incremental pre-tax accelerated depreciation and nuclear-fuel amortization for the first nine months. Management projected additional pre-tax noncash expense of $450 million in 2018 and $330 million in 2019. TMI’s decommissioning funding and costs remain subject to the chosen approach and regulatory approvals.
- Asset sale and impairment: Generation recorded $458 million of 2017 pre-tax impairment charges on ExGen Texas Power (EGTP) assets held for sale, including $40 million in Q3. Sale proceeds are intended first to cover sale and operating costs and repay secured debt. Generation completed the acquisition of the 838 MW FitzPatrick nuclear plant for $289 million and recorded the $233 million bargain purchase gain.
- Policy and legal exposure: Illinois and New York zero-emission credit programs support certain nuclear plants, but challenges remain pending on appeal or before regulators. Exelon says adverse outcomes, including an expanded capacity-market minimum offer price rule, could materially affect Generation’s future cash flow and earnings. The DOE’s proposed resilience rule was also pending; Exelon supported its objectives but could not predict its outcome.
- Tax cash requirement: Exelon expected to pay approximately $1.3 billion related to the disputed 1999 like-kind exchange tax position in Q4 2017 and appealed the Tax Court decision. It had already deposited $1.25 billion with the IRS. The filing estimates a net cash outflow of approximately $950 million after expected interest-related tax benefits; those benefits were not expected to be realized until 2018. Exelon states it will not seek recovery from ComEd customers for related tax, penalty or interest amounts.
- Investment plans and cost actions: Management projected approximately $25 billion of utility infrastructure investment over five years, with rate base expected to increase about $9 billion by the end of 2021. The filing also describes an existing cost program targeting $350 million in annual O&M savings and $50 million in capital savings; a November 2017 announcement of an additional $250 million in annual ongoing cost reductions by 2020 is noted in the filing.
- Other significant risks: Generation estimated that a downgrade below investment grade could require $1.8 billion of additional collateral. Environmental remediation, nuclear decommissioning, pension funding, regulatory rate outcomes and litigation remain potential sources of cost or cash-flow volatility. For example, a partial-excavation remedy at West Lake Landfill could cost $225 million to $650 million in total, shared among potentially responsible parties; the filing states the final remedy was not yet determined.
- Management outlook: Exelon expects operating cash flows, credit-market access and revolving facilities to support operating costs, financing, capital spending and dividends. Generation’s expected generation was 98%–101% hedged for 2017, 79%–82% for 2018 and 45%–48% for 2019, leaving greater commodity exposure in later periods. Management cautions that interim results are not necessarily indicative of full-year results.
Most important facts for investors to verify
- How much of the reported GAAP earnings increase reflects sustainable operations versus the FitzPatrick gain, investment gains, tax items and other adjustments; compare with adjusted operating earnings.
- The timing and final cash impact of the IRS like-kind exchange payment, including the deposit already made, remaining payment and expected tax benefits.
- Whether TMI retirement projections, decommissioning funding and incremental expenses change, and whether nuclear credit programs remain effective.
- EGTP sale proceeds, impairment exposure and secured-debt repayment; also verify how much of planned utility investment is executed and recovered through rates.
- Developments in ZEC and capacity-market proceedings, regulatory rate cases, environmental remediation and any potential credit downgrade or collateral call.