Chesapeake Utilities Corporation — Form 10-Q Summary
Business context and reporting period
Chesapeake Utilities Corporation is a diversified energy delivery company providing regulated natural gas and electric distribution, natural gas transmission, electricity and steam generation, propane distribution, and related energy services across the Delmarva Peninsula, Florida, Pennsylvania, and Ohio. This unaudited Form 10-Q covers the three and nine months ended September 30, 2019, compared with the corresponding 2018 periods.
During the third quarter, the company initiated the sale of most of PESCO’s natural gas marketing operations and began presenting PESCO as discontinued operations. The company is exiting the natural gas marketing business to focus on its core energy delivery operations.
Financial performance and key metrics
| Metric | Three months ended September 30 | Nine months ended September 30 |
|---|---|---|
| Operating revenues | $92.6 million in 2019 versus $93.4 million in 2018 | $347.6 million versus $356.1 million |
| Operating income | $14.4 million versus $12.9 million | $76.6 million versus $66.0 million |
| Income from continuing operations | $6.2 million versus $6.1 million | $44.0 million versus $39.1 million |
| Net income | $5.6 million versus $5.5 million | $42.6 million versus $38.8 million |
| Diluted EPS | $0.34 versus $0.34 | $2.59 versus $2.36 |
| Gross margin | $67.4 million versus $62.5 million | $236.5 million versus $217.6 million |
| Operating cash flow | Not separately presented for the quarter | $103.9 million versus $128.0 million |
Gross margin increased 7.9% in the quarter and 8.8% for the nine months, primarily from pipeline expansion projects, customer growth, Marlin Gas Services, the Ohl propane acquisition, higher retail propane margins, and regulatory initiatives. Gross margin was approximately 72.8% of operating revenue in the quarter and 68.0% for the nine months, compared with approximately 66.9% and 61.1%, respectively, in the prior-year periods. Gross margin is a company-defined non-GAAP measure.
- Regulated Energy operating income increased to $17.5 million from $15.9 million in the quarter and to $65.3 million from $56.9 million for the nine months.
- Unregulated Energy operating income was $11.3 million for the nine months, compared with $10.5 million; the segment reported a quarterly operating loss of $3.2 million.
- Interest expense increased $1.0 million in the quarter and $4.8 million for the nine months due to additional long-term and short-term borrowings, including debt used for expansion projects and Hurricane Michael restoration.
- Effective income tax rates were 27.4% in the quarter and 25.9% for the nine months, compared with 28.5% and 27.6% in the respective 2018 periods.
Liquidity, capital resources, and debt
- Cash and cash equivalents were $4.3 million at September 30, 2019, compared with $6.1 million at December 31, 2018.
- Operating cash flow of $103.9 million was more than offset by $139.9 million of investing cash outflows, producing a $1.8 million decrease in cash during the nine months.
- Capital expenditures were $139.3 million in the cash flow statement; management reported $124.2 million of capital expenditures for the nine-month period in its liquidity discussion. Expected full-year 2019 capital expenditures were revised to a range of $170 million to $185 million, excluding possible acquisitions.
- Long-term debt, including current maturities, was $451.4 million at September 30, 2019, compared with $328.0 million at December 31, 2018. Current maturities included two $30 million term notes due in January and February 2020.
- Short-term borrowings were $224.7 million, compared with $294.5 million at year-end 2018. The company had $220 million of unsecured bank credit facilities and a $150 million revolving credit facility available, subject to applicable terms.
- Stockholders’ equity was $544.7 million. Equity represented 45% of capitalization including short-term borrowings, below the company’s 50% to 60% target range; management estimated approximately 47% excluding Hurricane Michael restoration spending.
- The company had $250 million of remaining borrowing capacity under its shelf agreements. In October 2019, it reached commercial terms for a potential $70 million issuance of 2.98% senior notes expected in December 2019, subject to definitive documentation and customary conditions.
Material changes versus the prior comparable period
- Operating income improved by $1.5 million in the quarter and $10.7 million for the nine months despite lower revenue, reflecting materially higher gross margin.
- Continuing-operations diluted EPS increased $0.01 in the quarter and $0.29 for the nine months.
- Operating cash flow declined $24.1 million year over year, primarily due to working-capital timing, regulatory assets and liabilities, and the absence of prior-year tax refunds.
- Capital spending declined from $171.4 million to $139.3 million for the nine months, while debt increased to fund capital investments and storm restoration.
- The first nine months experienced warmer weather and lacked the 2018 “Bomb Cyclone,” reducing gross margin by approximately $4.5 million compared with 2018, including a $2.6 million effect from temperatures warmer than normal.
- PESCO generated a loss from discontinued operations of $0.6 million in the quarter and $1.4 million for the nine months, compared with losses of $0.6 million and $0.3 million, respectively, in 2018.
- The company adopted lease accounting guidance on January 1, 2019, recognizing $12.0 million of operating lease right-of-use assets and $12.1 million of operating lease liabilities at September 30, 2019.
Guidance, outlook, management commentary, risks, and unusual items
Management expects continued growth from regulated infrastructure investments, natural gas customer additions, pipeline expansions, propane operations, and Marlin Gas Services. The company estimates 2019 gross margin contributions of approximately $49.2 million from identified projects and initiatives and approximately $58.7 million in 2020. These estimates are subject to regulatory approvals, construction timing, customer demand, market conditions, and financing availability.
- The sale of PESCO assets and contracts was expected to produce a pretax gain of $5 million to $7 million in the fourth quarter of 2019. Certain transactions closed in October and November 2019, with additional closings scheduled through January 2020. The producer services portfolio was targeted for sale by year-end 2019.
- Florida PSC interim rate increases related to Hurricane Michael were approved after the quarter and were scheduled to begin January 2, 2020, subject to refund pending a final recovery determination. Management stated that the storm should not have a significant continuing impact assuming permanent regulatory recovery.
- Eastern Shore’s Del-Mar Energy Pathway project remained subject to final FERC authorization. The project is expected to provide 14,300 Dts/d of firm service and was targeted for full service by early fourth quarter 2021, subject to approval.
- Environmental liabilities related to former manufactured gas plant sites were approximately $8.3 million at September 30, 2019. Management expects related remediation costs to be recoverable through insurance and customer rates, but the Cambridge, Maryland site could not yet be estimated.
- Corporate guarantees totaled approximately $72.4 million, principally related to PESCO, and letters of credit totaled approximately $7.0 million. No letters of credit had been drawn.
- Key risks include regulatory cost recovery and rate decisions, environmental and legal matters, weather, commodity prices, interest rates, counterparty credit, cyberattacks, capital requirements, financing conditions, project approvals and execution, competition, and pension obligations.
Important facts for investors to verify
- Completion, proceeds, accounting gain, and remaining liabilities associated with the PESCO divestitures and the company’s exit from natural gas marketing.
- Final regulatory recovery and rate treatment for Hurricane Michael restoration costs, including the potential for refunds.
- Whether the proposed $70 million senior-note issuance closed and whether it refinanced the two near-term $30 million term notes.
- Actual 2019 capital expenditures versus the $170 million to $185 million forecast and the resulting effect on short-term borrowings and leverage.
- FERC authorization, construction progress, and customer commitments for the Del-Mar Energy Pathway and other major pipeline projects.
- Weather-normalized demand, propane margins, commodity hedge performance, and the sustainability of project-related gross-margin estimates.
- Environmental remediation costs, pension settlement and de-risking charges, and the recoverability of related regulatory assets.