Otter Tail Corporation — 2019 Form 10-K
Reporting period: Fiscal year ended December 31, 2019. This is an annual report, not a standalone fourth-quarter filing; quarterly figures below are unaudited.
Business context
Otter Tail operates three segments: Electric (Otter Tail Power Company, serving customers in Minnesota, North Dakota and South Dakota), Manufacturing, and Plastics (PVC pipe). Management’s strategy is to grow regulated utility rate base while pursuing organic growth in its manufacturing businesses. Electric supplied 68% of 2019 earnings, versus a longer-term target of 75%–85%.
Financial results and liquidity
| Metric | 2019 | 2018 | Change |
|---|---|---|---|
| Operating revenue | $919.5 million | $916.4 million | +0.3% |
| Operating income | $134.9 million | $129.4 million | +4.2% |
| Net income | $86.8 million | $82.3 million | +5.5% |
| Diluted EPS | $2.17 | $2.06 | +5.3% |
| Operating cash flow | $185.0 million | $143.4 million | +29.0% |
| Capital expenditures | $207.4 million | $105.4 million | +96.7% |
| Long-term debt, net | $689.6 million | $590.0 million | +$99.6 million |
Operating margin was approximately 14.7% (14.1% in 2018); net margin was approximately 9.4% (9.0%). The effective income tax rate increased to 16.7% from 15.0%, principally because federal production tax credits on existing wind farms expired. Total assets were $2.27 billion and shareholders’ equity was $781.5 million at year-end. Cash was $21.2 million, up from $0.9 million; current assets of $254.9 million exceeded current liabilities of $189.7 million. The current ratio was approximately 1.34.
Available capacity under revolving credit facilities was $318.5 million at year-end. Total debt including current maturities was approximately $695.8 million; consolidated debt-to-capitalization was 0.47, and the company reported compliance with debt covenants. The 2019 annual dividend was $1.40 per share, with a 65% payout ratio. The board raised the quarterly dividend from $0.35 to $0.37 in February 2020.
Segment and fourth-quarter performance
- Electric: Revenue rose 2.0% to $459.1 million and net income increased 8.5% to $59.0 million. Higher rates and rider revenue, along with lower maintenance expense, helped results. Transmission and wholesale revenue declined, partly due to plant outages and lower market demand.
- Manufacturing: Revenue increased 3.3% to $277.2 million; net income edged up 0.5% to $12.9 million. Higher BTD sales volumes were partly offset by higher material costs, reduced scrap revenue, and weaker T.O. Plastics margins.
- Plastics: Revenue fell 7.4% to $183.3 million and net income declined 13.6% to $20.6 million. PVC pipe volume fell 4.2%, selling prices fell 3.3%, and gross margin per pound declined 7.7% amid wet weather and softer demand.
- Fourth quarter: Unaudited revenue was $215.7 million versus $221.2 million; net income was $20.4 million versus $14.2 million; diluted EPS was $0.51 versus $0.35. Quarterly results can be affected by seasonality and the timing of utility rider revenues.
Material changes, outlook and risks
- Operating cash flow improved by $41.6 million, aided by working-capital movements and regulatory balances. Investing cash outflow rose to $209.5 million, primarily reflecting utility construction spending. Financing cash flow was positive $44.8 million, including $100 million of OTP notes and $20.3 million from stock issuance, partly offset by dividends and debt repayments.
- OTP issued $100 million of senior notes in October 2019 at rates of 3.07%–3.82%, using $69.9 million to repay revolving-credit borrowings. A further $75 million of notes was scheduled for issuance in 2020, subject to closing conditions. The company also began an at-the-market share program of up to $75 million; it sold 347,000 shares in 2019 for net proceeds of approximately $17.5 million.
- Management forecast 2020 diluted EPS of $2.22–$2.37, with the midpoint implying approximately 6% growth from 2019 EPS. Guidance includes $0.05 per share of planned equity-issuance dilution. Planned 2020 capital expenditures are $385 million; the five-year 2020–2024 plan totals $984 million, including $897 million for Electric. Forecast utility rate-base growth is 8.2% compounded annually from 2019 to 2024.
- Key projects are the 150 MW Merricourt wind center, expected to be completed in October 2020, and the 245 MW Astoria natural-gas plant, expected in late 2020 or early 2021. Estimated project costs are approximately $258 million and $158 million, respectively. Hoot Lake is planned for retirement in 2021.
- Management expected higher Electric earnings in 2020 from new rate-base investment and no planned generation outages, partly offset by normal weather, higher pension costs, depreciation, property taxes and interest. Manufacturing earnings were expected to be flat; Plastics earnings were expected to decline on lower pipe prices and margins.
- Material uncertainties: Regional Haze Rule requirements could require significant Coyote Station emissions controls by 2028 or make early retirement economically necessary; the resulting costs could be material and recovery from customers is not assured. A pending Minnesota Supreme Court matter concerns recovery of transmission-project costs; approximately $2.6 million had been credited to customers and could be subject to recovery depending on the outcome. A FERC transmission-return-on-equity ruling led OTP to increase its estimated refund liability to $3.0 million; rehearing requests and an appeal were pending.
- Other disclosed exposures include weather and plant reliability, regulatory recovery of utility costs, fuel and purchased-power availability and prices, concentrated customers in Manufacturing and Plastics, PVC resin supply dependence (two vendors supplied over 99% of resin purchases), raw-material pricing, pension assumptions, and access to capital. The filing identifies no material pending legal proceedings expected to affect consolidated results, apart from the discussed regulatory and environmental matters.
Important facts for investors to verify
- Progress, final costs, completion timing and regulatory recovery for Merricourt and Astoria, and the planned Hoot Lake retirement.
- North Dakota’s Regional Haze Rule decision for Coyote Station, including control costs, potential retirement, and customer cost recovery.
- Outcomes and financial effects of the FERC transmission ROE refund proceedings and Minnesota transmission-cost recovery litigation.
- Whether 2020 EPS guidance and the $385 million capital plan are achieved, including funding needs, equity dilution and debt levels.
- Whether Plastics margins recover and whether customer concentration, resin supply, and manufacturing backlog affect results.
- The effects of lower pension discount and return assumptions on expense, contributions and cash flow.