Black Hills Corporation 10-Q Summary
Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended September 30, 2008. Black Hills Corporation is a diversified energy company operating in the United States through two primary business groups: Utilities (Electric and Gas) and Non-regulated Energy (Oil and Gas, Power Generation, Coal Mining, and Energy Marketing).
The reporting period was defined by two transformative transactions:
- IPP Transaction (July 11, 2008): Sale of seven independent power production (IPP) plants for approximately $840 million, reclassified as discontinued operations.
- Aquila Transaction (July 14, 2008): Acquisition of regulated electric and gas utility assets in Colorado, Kansas, Nebraska, and Iowa for approximately $940 million.
As of September 30, 2008, regulated utility properties comprised approximately 66% of consolidated assets and generated 76% of revenues.
Key Financial Metrics
| Metric (in thousands) | Three Months Ended Sep 30, 2008 | Nine Months Ended Sep 30, 2008 |
|---|---|---|
| Operating Revenues | $291,892 | $598,015 |
| Net Income | $164,911 | $203,898 |
| Income from Continuing Operations | $19,522 | $44,412 |
| Income from Discontinued Operations | $145,389 | $159,486 |
| Diluted EPS (Total) | $4.29 | $5.31 |
| Diluted EPS (Continuing Ops) | $0.51 | $1.16 |
| Cash and Cash Equivalents | $152,457 | $152,457 |
| Long-Term Debt (net of current) | $501,277 | $501,277 |
| Notes Payable (Short-term) | $627,800 | $627,800 |
Note: Net income is significantly inflated by a one-time after-tax gain of approximately $141.7 million from the sale of IPP assets.
Material Changes vs. Prior Period
- Revenue Growth: Operating revenues increased 124% for the three months and 42% for the nine months compared to the prior year, driven primarily by the inclusion of Aquila utility assets.
- Continuing Operations: Income from continuing operations increased 75% for the quarter ($19.5M vs $11.1M) but decreased 23% for the nine months ($44.4M vs $57.5M). The nine-month decline was due to lower earnings in the Non-regulated Energy Group, specifically Energy Marketing and Coal Mining.
- Discontinued Operations: Earnings surged due to the $141.7 million gain on the IPP asset sale. Without this gain, earnings from discontinued operations would have been minimal.
- Balance Sheet: Total assets increased to $3.23 billion from $2.36 billion in the prior year, reflecting the Aquila acquisition and capital expenditures, offset by the divestiture of IPP assets.
- Debt Structure: The company borrowed $383 million under an acquisition credit facility to fund the Aquila purchase. Short-term notes payable increased significantly to $627.8 million, largely due to borrowings on the revolving credit facility.
Guidance, Outlook, Risks, and Unusual Items
Management Commentary and Outlook
Management states the transactions have transformed the company into one with substantial regulated operations, improving liquidity and credit profiles. The company plans to refinance the $383 million acquisition debt (due February 2009) and fund capital expenditures (estimated at $401 million for 2008) through internal cash flow and external financing.
Unusual Items
- IPP Sale Gain: A $235.7 million pre-tax gain ($141.7 million after-tax) on the sale of IPP assets is the primary driver of net income for the period.
- Interest Rate Swaps: Subsequent to the reporting period, the company de-designated $250 million in interest rate swaps as cash flow hedges due to the unlikelihood of the forecasted long-term debt financing occurring in the specified timeframe. The mark-to-market loss of approximately $42.7 million remains in accumulated other comprehensive loss but may be charged to earnings if the financing does not occur.
Risks and Contingencies
- Credit Market Crisis: The global financial crisis has constrained access to capital. The company faces a risk of being unable to refinance the $383 million acquisition loan due in February 2009 on reasonable terms.
- Counterparty Risk: Increased exposure to counterparty default, specifically noting a $0.4 million exposure to Lehman Brothers entities.
- Enserco Credit Facility: The $300 million uncommitted credit facility for the Energy Marketing segment relies on participating banks that may reduce commitments due to the credit crisis.
- Regulatory Risk: Pending rate cases in Iowa and Colorado could impact revenue recovery. Regulatory commissions may disallow certain costs as imprudent.
- Goodwill Impairment: Approximately $401 million in goodwill was recorded, primarily from the Aquila acquisition. A sustained decline in stock price or adverse market conditions could trigger impairment charges.
Investor Verification Checklist
- Refinancing Status: Verify the company's progress in refinancing the $383 million acquisition debt due February 5, 2009, given the tight credit markets.
- Interest Rate Swap Accounting: Monitor the treatment of the $42.7 million loss on de-designated interest rate swaps and whether it will be charged to earnings.
- Continuing Operations Margins: Analyze the sustainability of earnings from continuing operations ($19.5M for the quarter) excluding the one-time IPP gain, particularly in the Energy Marketing and Coal Mining segments.
- Regulatory Rate Cases: Track the outcomes of pending rate cases in Iowa and Colorado, which could affect future revenue streams.
- Counterparty Exposure: Review updates on the Lehman Brothers exposure and the stability of the Enserco credit facility counterparties.