Business Context and Reporting Period
Company: Black Hills Corporation
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2006
Business Overview: Black Hills Corporation is a diversified energy company operating in two primary groups: Retail Services (regulated electric and gas utilities) and Wholesale Energy (oil and gas exploration, power generation, coal mining, and energy marketing). The company serves approximately 137,000 utility customers across South Dakota, Wyoming, and Montana.
Key Financial Metrics
| Metric | 2006 (in thousands) | 2005 (in thousands) |
|---|---|---|
| Total Operating Revenues | $656,882 | $613,541 |
| Net Income Available for Common Stock | $81,019 | $33,261 |
| Income from Continuing Operations | $74,046 | $32,792 |
| Diluted EPS (Total) | $2.42 | $1.00 |
| Capital Expenditures | $308,450 | $208,856 |
| Long-Term Debt (Net) | $628,340 | $670,193 |
| Stockholders' Equity | $790,041 | $738,879 |
| Cash and Cash Equivalents | $37,530 | $34,198 |
Dividends: The company paid $1.32 per share in 2006. In February 2007, the quarterly dividend was raised to $0.34 per share ($1.36 annualized), marking the 37th consecutive annual increase.
Material Changes vs. Prior Period
- Profitability Surge: Net income available for common stock increased 144% to $81.0 million, driven by a 126% increase in income from continuing operations ($74.0 million vs. $32.8 million). This improvement was largely due to the absence of the $52.2 million impairment charge recorded in 2005 for the Las Vegas I power plant.
- Revenue Growth: Total operating revenues rose 7% to $656.9 million. The Wholesale Energy Group saw a 6% revenue increase, while the Retail Services Group grew 9%.
- Segment Performance:
- Power Generation: Income from continuing operations rebounded to $19.9 million (from a $12.5 million loss in 2005) following the resolution of maintenance issues at Las Vegas facilities.
- Energy Marketing: Income increased to $17.3 million, aided by higher realized marketing margins and the addition of oil marketing operations.
- Oil and Gas: Income declined to $12.7 million (from $17.9 million) due to lower average gas prices and increased lease operating expenses, despite a 5% increase in production volumes.
- Discontinued Operations: The company sold its crude oil marketing and transportation business in March 2006, resulting in a $6.9 million net income from discontinued operations for the year.
Guidance, Outlook, and Risks
Strategic Acquisitions: On February 7, 2007, the company announced a definitive agreement to acquire Aquila's utility assets (electric in Colorado; gas in Colorado, Kansas, Nebraska, and Iowa) for $940 million. This transaction is contingent on regulatory approvals and is expected to add approximately 616,000 new utility customers.
Capital Deployment: The company plans to fund the Aquila acquisition through a combination of new equity, mandatory convertible securities, and borrowings. A private placement of 4.17 million shares was completed in February 2007 to raise approximately $145.5 million for debt reduction.
Key Risks and Contingencies:
- Regulatory Approval: The Aquila acquisition requires approval from FERC and multiple state utility commissions. Failure to obtain these could result in significant transaction costs.
- Commodity Price Volatility: Earnings in the Wholesale Energy Group are sensitive to fluctuations in oil, natural gas, and coal prices.
- Environmental Compliance: The company faces ongoing costs related to air quality (SO2, mercury), solid waste disposal, and mine reclamation. Future regulatory changes could increase these costs materially.
- Legal Proceedings: The company is involved in litigation regarding an acquisition earn-out agreement and California price reporting/anti-trust claims, though management does not expect these to have a material impact on financial position.
Investor Verification Checklist
- Aquila Acquisition Status: Verify the progress of regulatory approvals (FERC, state commissions) and the final closing date for the $940 million Aquila asset purchase.
- Power Generation Availability: Monitor the operational reliability of the Las Vegas I and II plants, as outages previously caused significant impairment charges and earnings volatility.
- Oil and Gas Reserve Revisions: Review the 29.6 Bcfe downward revision in proved reserves reported for 2006 and assess the impact of lower-than-expected production in the San Juan and Finn-Shurley fields on future cash flows.
- Debt Covenants: Confirm continued compliance with credit facility covenants, specifically the interest expense coverage ratio (2.5:1) and recourse leverage ratio (0.65:1), especially given the increased leverage from the pending acquisition.
- Environmental Liabilities: Assess the potential financial impact of Wyoming's re-evaluation of ash disposal practices and potential changes to mine reclamation requirements.