American States Water Company (AWR) — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015. This combined filing covers AWR and its regulated utility subsidiary, Golden State Water Company (GSWC). AWR also owns American States Utility Services (ASUS), which operates and performs construction on military-base water and wastewater systems.
Financial performance and position
| Metric | Q1 2015 | Q1 2014 / comparison |
|---|---|---|
| AWR operating revenue | $100.9 million | $101.9 million; down 1.0% |
| Operating income | $24.9 million | $22.8 million; up 9.3% |
| Net income | $12.1 million | $11.0 million; up 10.2% |
| Diluted EPS | $0.32 | $0.28; up 14.3% |
| Operating cash flow | $38.5 million | $40.9 million |
| Capital expenditures | $17.4 million | $20.5 million |
| Cash and cash equivalents at March 31 | $74.7 million | $76.0 million at December 31, 2014 |
| Long-term debt | $325.7 million | $325.8 million at December 31, 2014 |
AWR reported current assets of $189.4 million and current liabilities of $96.7 million at quarter-end. Its $100 million revolving credit facility had no borrowings, $11.2 million of letters of credit outstanding, and $88.8 million available. The company paid $8.2 million in dividends and repurchased $13.9 million of shares during the quarter. Long-term debt fair value was estimated at $382.9 million, compared with its $326.0 million carrying amount.
GSWC, which excludes ASUS, reported revenue of $82.5 million, operating income of $22.5 million, and net income of $10.4 million; its Q1 2014 net income was $9.3 million. GSWC operating cash flow was $28.8 million, versus $37.9 million a year earlier.
Material changes and drivers
- Water revenue rose 1.1% to $71.5 million, primarily from third-year rate increases and approved advice-letter filings. Billed water consumption fell approximately 13%, largely due to conservation; the CPUC-approved Water Revenue Adjustment Mechanism limits the direct revenue effect of consumption changes.
- Water gross margin was $54.3 million, down 1.1%; the margin percentage declined to 75.9% from 77.6%, partly because rates covering higher supply costs increased revenue and supply costs together.
- Electric revenue rose 4.9% to $11.0 million. Electric gross margin increased 1.7% to $6.2 million, while the margin percentage declined to 56.2% from 58.0%. Management attributed the revenue and earnings improvement mainly to the timing of the monthly revenue allocation under the latest rate decision; differences are expected to reverse during the year.
- Contracted-services revenue declined 11.0% to $18.5 million, reflecting lower initial and new capital-upgrade construction work, partly offset by higher renewal-and-replacement work and favorable cost-estimate changes. Segment diluted EPS remained $0.04.
- Operating expenses fell 4.0% to $76.0 million, notably due to lower ASUS construction expense and reduced water operating and administrative costs. Interest expense declined $0.4 million, partly due to increased capitalized interest and refinancing of $15 million of notes at lower rates. Higher income-tax expense, including a higher effective tax rate, partly offset earnings gains.
- Operating cash flow fell year over year, mainly because of expired cost-recovery surcharges and lower customer use; contracted-services construction receipts partly offset the decline. Financing cash flow included the share repurchases and higher dividends.
Outlook, risks, and unusual items
- Management estimated that approved 2015 rate increases and capital-project filings would add approximately $2.6 million to gross margin versus the 2014 adopted level. GSWC estimated 2015 company-funded capital expenditures of approximately $85–$95 million; it spent $14.8 million on such expenditures in Q1. No consolidated earnings or EPS guidance was provided.
- GSWC’s water general rate case for 2016–2018 was pending, with hearings scheduled to begin May 26, 2015 and a decision expected by year-end 2015. The application’s requested capital budgets averaged approximately $90 million annually. The current authorized return on equity of 9.43% was to remain in effect through December 2016.
- California’s drought poses significant supply and operating risks. The state directed a 25% aggregate reduction in urban water use through February 2016; additional emergency rules were proposed, and GSWC planned to submit updated drought-response actions for CPUC approval. The State Water Project allocation was 15% of contractor requests, and Metropolitan Water District had imposed a 15% overall supply reduction. GSWC said the effects on its supplies were uncertain. Mandatory restrictions may raise costs, increase customer dissatisfaction, and, if violated, can carry substantial fines.
- Condemnation proceedings could affect GSWC systems. On April 30, 2015, a court granted GSWC’s motion challenging procedural aspects of Claremont’s eminent-domain case; the City could amend its complaint. The Claremont system had a $47.4 million net book value and approximately 11,000 customers. In Ojai, an appellate court affirmed a ruling allowing Mello-Roos funding for a potential acquisition; GSWC sought rehearing. Outcomes remain uncertain.
- A CPUC procurement audit raised historical compliance concerns, particularly for 1994–2006. The CPUC’s Division of Water and Audits did not intend to pursue further investigation, refunds, or penalties based on the final report, but the Office of Ratepayer Advocates sought a separate rate-case phase and may pursue disallowances or penalties. Management could not estimate a possible loss.
- GSWC recorded a $6.2 million unrealized loss on long-term purchased-power contracts, classified as a Level 3 fair-value measurement. CPUC authorization allows the mark-to-market effect to be deferred in a regulatory memorandum account, so it did not affect earnings in the quarter.
- Net regulatory assets were approximately $131.9 million at March 31, including pension-related balances and water-revenue adjustment balances. Separately, management disclosed $68.6 million of regulatory assets, net of liabilities, that were not accruing carrying costs. Recovery depends on regulatory treatment.
- Management expects future interest expense to increase as external capital is needed for construction and market rates rise. Key risks also include CPUC rate decisions and cost recovery, water availability and quality, infrastructure spending, military-contract price redeterminations and audits, and timely U.S. government payments.
Key facts for investors to verify
- How drought restrictions, allocations, conservation, and supply costs affect actual water availability, customer demand, and regulatory recovery.
- Outcomes and timing of GSWC’s general rate case, procurement-audit phase, and Claremont and Ojai condemnation matters, including any disallowances or penalties.
- Whether the planned $85–$95 million of 2015 GSWC company-funded capital spending is completed and how it is financed.
- Whether ASUS construction activity, cost estimates, price redeterminations, and government payment timing sustain segment earnings and cash flow.
- Recovery and carrying-cost treatment of regulatory assets, including the sizable pension and water-revenue balances.