AES CORP annual report, FY2017

The AES Corporation: FY2017 Form 10-K Summary

Business context and reporting period

AES filed its annual report for the fiscal year ended December 31, 2017, covering its global electricity generation and utility businesses. Operations were organized into five strategic business units: US, Andes, Brazil, MCAC, and Eurasia. AES operated or owned interests in approximately 34,905 MW of generation capacity and utility businesses serving approximately 2.4 million people.

Management continued its portfolio simplification and decarbonization strategy, emphasizing natural gas, solar, wind, energy storage and asset sales or retirements of primarily merchant coal generation. AES and AIMCo completed the acquisition of sPower, a U.S. renewable developer, and AES announced a February 2018 reorganization separating global operations from growth and commercial activities.

Financial performance and key metrics

Metric	2017	2016	Change
Revenue	$10.530 billion	$10.281 billion	Up 2%
Operating margin	$2.464 billion	$2.380 billion	Up 4%
Income from continuing operations	$(148) million	$191 million	Declined
Net loss attributable to AES	$(1.161) billion	$(1.130) billion	Loss widened 3%
Diluted EPS from continuing operations	$(0.77)	$(0.04)	Declined
Adjusted EPS	$1.08	$0.94	Up 15%
Net cash from operating activities	$2.489 billion	$2.884 billion	Down 14%
Free Cash Flow	$1.921 billion	$2.244 billion	Down 14%
Cash and cash equivalents	$949 million	$1.244 billion	Down $295 million

Operating margin improved primarily because of higher MCAC performance, the start of Los Mina combined-cycle operations in the Dominican Republic, higher availability in Mexico, new U.S. solar contributions and higher Andes revenue from Cochrane and Argentina. The US SBU operating margin declined 3%, while Andes increased 4%, Brazil increased 9%, MCAC increased 13% and Eurasia declined 1%.

Reported results were significantly affected by unusual items, including $537 million of asset impairment expense, $68 million of debt extinguishment losses, a $52 million loss on business disposals, and $990 million of income tax expense. The tax expense included a provisional $675 million U.S. transition tax on foreign earnings and $39 million of deferred-tax remeasurement related to the Tax Cuts and Jobs Act.

Net loss from discontinued operations was $654 million attributable to AES, primarily reflecting a $611 million after-tax loss on the deconsolidation of Eletropaulo. The company’s reported consolidated net loss was $777 million, including noncontrolling interests.

Debt, liquidity and capital allocation

• Total consolidated debt was approximately $20 billion, consisting of $4.6 billion of recourse debt and $15.3 billion of non-recourse debt.
• Current non-recourse debt was $2.164 billion, including approximately $1.019 billion associated with subsidiaries in default: Alto Maipo, AES Puerto Rico and AES Ilumina.
• Unrestricted cash was $949 million, short-term investments were $424 million, and restricted cash and debt-service reserves were approximately $839 million.
• Parent Company liquidity was $869 million, comprising $11 million of parent and qualified holding-company cash and $858 million of available borrowings under parent credit facilities.
• Parent Company recourse debt was $4.6 billion; $5 million was scheduled to mature within one year.
• Capital expenditures were $2.177 billion, including $1.549 billion for growth investments, $552 million for maintenance and $76 million for environmental projects.
• AES used $341 million to prepay or refinance Parent Company debt, returned $317 million through common dividends and invested $481 million in subsidiaries, excluding the $2.2 billion DPL investment referenced by management.
• The dividend declared per common share increased to $0.49 for 2017 from $0.45 in 2016. The quarterly dividend was increased to $0.13 beginning in the first quarter of 2018.

Material changes versus the prior comparable period

• Revenue and operating margin increased, but operating cash flow and free cash flow declined because 2016 included a $360 million collection of overdue Maritza receivables and 2017 included increased working-capital needs.
• Adjusted EPS and Adjusted PTC improved to $1.08 and $1.017 billion, respectively, despite a reported GAAP loss. Adjusted PTC was $850 million in 2016.
• MCAC operating margin increased $66 million, primarily from Los Mina combined-cycle operations and improved Mexican availability.
• Andes free cash flow increased $237 million, supported by higher operating margin, VAT refunds, collections of financing receivables and lower taxes.
• Brazil free cash flow decreased $253 million, primarily because of working-capital movements at Eletropaulo, which was deconsolidated in November 2017 and classified as a discontinued operation.
• Asset impairment expense declined from $1.096 billion to $537 million, but 2017 charges included $175 million at DPL, $121 million at Laurel Mountain, $186 million related to Kazakhstan assets and $37 million at Kilroot.
• AES acquired Alto Sertão II in Brazil for $181 million plus assumed non-recourse debt and completed the sPower investment for approximately $480 million.
• AES classified Masinloc, Electrica Santiago and the DPL peaker assets as held for sale, with expected 2018 closings. It also sold Zimmer and Miami Fort and disposed of or transferred several Kazakhstan assets.

Guidance, outlook, management commentary and risks

• Management expected approximately $50 million of additional cost savings in 2018 and another $50 million during 2019-2020, targeting $400 million of annual savings by 2020.
• AES expected carbon intensity to decline 25% from 2016 levels by 2020 and 50% by 2030, supported by coal retirements and growth in gas, renewables and storage.
• Approximately 4,401 MW of projects were under construction and expected to enter service through 2021, including Southland repowering, Eagle Valley, Colon LNG/gas generation, Bosforo solar and Alto Maipo.
• Alto Maipo remained a significant contingency. The project was more than 61% complete but had construction delays, cost overruns, contractor disputes, $618 million of construction debt and $132 million of derivative liabilities in technical default, and a potential additional equity funding commitment of $39 million.
• Puerto Rico presented material counterparty and liquidity risk. PREPA filed for Title III bankruptcy, AES Puerto Rico and AES Ilumina debt totaling $401 million was in default and classified as current, and $53 million of $86 million in Puerto Rico receivables was overdue at year-end. AES had a forbearance and standstill agreement expiring March 22, 2018.
• Maritza’s long-term PPA in Bulgaria was under review by the European Commission’s DG Comp for potential state-aid issues. A termination, renegotiation or unfavorable resolution could materially affect results.
• Key ongoing risks include high leverage, refinancing and covenant compliance, restricted subsidiary distributions, commodity and electricity-price volatility, foreign-exchange movements, regulatory and environmental requirements, counterparty credit, hydrology and weather, project execution, litigation, cybersecurity and potential future impairments.
• Management estimated that a 100-basis-point increase in applicable interest rates could increase 2018 pre-tax interest expense by approximately $25 million. A 10% commodity-price movement was estimated to create varying exposure, including approximately $10 million for U.S. power and approximately $5 million each for oil and coal.
• Management stated that reported U.S. tax-reform amounts were provisional under SAB 118 and could change after additional guidance and filing of the 2017 tax return.

Most important facts for investors to verify

• Whether Alto Maipo completes its refinancing, meets revised construction milestones and avoids further impairment or lender remedies.
• Whether PREPA’s bankruptcy, restructuring or privatization affects AES Puerto Rico and AES Ilumina PPAs, receivable collections and debt defaults.
• The final amount of the U.S. tax-reform transition tax and deferred-tax remeasurement, including future effects from interest-deduction limits and GILTI.
• Completion timing and proceeds for the Masinloc, Electrica Santiago and DPL peaker-asset sales.
• The outcome of the DG Comp review of the Maritza PPA and related potential compensation or contract changes.
• The sustainability of parent-level liquidity, subsidiary distributions and the common dividend given approximately $20 billion of consolidated debt and restricted subsidiary cash flows.
• Whether the reported improvement in Adjusted EPS and Adjusted PTC converts into recurring GAAP earnings and stronger free cash flow after excluding impairments, tax reform, disposals, restructuring and other unusual items.
• The potential financial impact of environmental proceedings, including U.S. air, water and coal-ash requirements, and material litigation and arbitration matters.