FirstEnergy Corp. Form 10-Q Summary
Reporting period: Quarter and six months ended June 30, 2014; filed August 5, 2014. The filing also presents FirstEnergy Solutions Corp. (FES), a wholly owned subsidiary, separately. Amounts below are in U.S. dollars; financial statement amounts are in millions unless noted.
Business context
FirstEnergy operates regulated distribution and transmission businesses alongside competitive electricity generation and sales. Its utilities serve approximately six million customers across six states. Management is shifting growth and investment toward regulated operations while repositioning the competitive energy business.
Financial performance and position
| FirstEnergy consolidated | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Revenue | $3,496 | $3,507 | $7,678 | $7,227 |
| Operating income | $292 | $42 | $683 | $687 |
| Continuing-operations income (loss) | $64 | $(168) | $186 | $24 |
| Net income | $64 | $(164) | $272 | $32 |
| Diluted EPS | $0.15 | $(0.39) | $0.65 | $0.08 |
Q2 operating margin was approximately 8.4%, versus 1.2% a year earlier; six-month operating margin was approximately 8.9%, versus 9.5%. Q2 improvement chiefly reflects the absence of the prior-year $473 million impairment of long-lived assets, partly offset by current-period competitive-segment costs and losses.
- Revenue and segments: Q2 revenue was essentially flat year over year; six-month revenue rose about 6%. For the first half, Regulated Distribution earned $372 million and Regulated Transmission $114 million, while Competitive Energy Services (CES) lost $243 million from continuing operations. First-half net income also included $86 million after tax from discontinued operations, principally the hydro-asset sale.
- Cash flow: First-half operating cash flow was $622 million, up from $493 million. Investing used $1.569 billion, including $1.809 billion in property additions, partly offset by $394 million proceeds from the hydro sale. Financing provided $805 million. Cash declined to $76 million from $218 million at year-end 2013.
- Debt and liquidity: At June 30, current assets were $4.183 billion and current liabilities $6.173 billion (current ratio approximately 0.68). Short-term borrowings were $2.323 billion; currently payable long-term debt was $1.016 billion; long-term debt and other long-term obligations were $18.415 billion. Total equity was $12.685 billion. The filing attributes the working-capital deficit largely to current debt and short-term borrowings. At July 31, revolving facilities totaled $6.0 billion, with $3.556 billion available; reported cash was $107 million. The facilities mature in March 2019.
- Capital returns: The quarterly dividend was reduced from $0.55 to $0.36 per share in January 2014, an indicated annual rate of $1.44 versus $2.20 previously. No dividend was declared in Q2; first-half declared dividends were $0.72 per share.
Material changes versus prior period
- FirstEnergy moved from a Q2 net loss to profit, but much of the comparison reflects the $473 million prior-year generation-asset impairment. CES still recorded a Q2 loss of $119 million, improved from $339 million.
- First-half earnings benefited from the hydroelectric business sale: proceeds were approximately $394 million and the sale produced a $142 million pretax gain. The hydro business is reported as discontinued operations.
- CES faced higher purchased-power costs amid January 2014 extreme weather and generation outages, as well as reduced sales in selected channels. First-half purchased-power expense rose substantially; management cited higher market prices, capacity costs and replacement-power requirements.
- Regulated Distribution first-half earnings declined $17 million year over year, while Regulated Transmission earnings increased $12 million. Distribution deliveries rose 3.3% in the first half, partly due to colder weather.
- FirstEnergy issued debt and extended or amended revolving facilities. FirstEnergy Transmission issued $1.0 billion of senior notes; Pennsylvania utilities issued $450 million of senior notes. The company also entered a fully drawn $1.0 billion term loan.
Outlook, management commentary and risks
- Strategy and investment: Management plans a $4.2 billion “Energizing the Future” transmission investment program for 2014–2017 and identifies at least $7 billion of longer-term transmission opportunities. Funding is expected from debt, equity issuances, employee plans where available, and cash. Management expects transmission earnings growth to accelerate as investments enter rates; no consolidated earnings or EPS guidance is provided in the supplied filing text.
- Competitive business: CES is exiting future sales efforts in selected retail channels, emphasizing more selective customer and wholesale sales, and targeting specified sales-volume ranges across aggregation, POLR, commercial and wholesale channels. Management says it cannot predict when power prices may recover. The strategy generated second-quarter charges, including approximately $22 million for deferred advertising impairment and $7 million for severance; MD&A also describes $46 million of total charges associated with the strategy.
- Rate proceedings: Ohio utilities filed a proposed ESP IV in August, including a proposed 15-year power purchase agreement for output from Sammis, Davis-Besse and FirstEnergy’s share of OVEC. Pennsylvania utilities requested distribution revenue increases totaling about $415.7 million. West Virginia utilities requested approximately $152 million in total rate increases and related recovery. Decisions were expected in 2015; approval and timing are uncertain. New Jersey rate proceedings and storm-cost recovery also remain relevant.
- Environmental and operating exposure: Estimated MATS compliance costs were reduced to approximately $370 million. The Little Blue Run impoundment closure plan is estimated at $234 million; its ARO was increased by $163 million in 2013. Fort Martin water-permit compliance could require $150–$300 million of initial capital investment. Environmental remediation liabilities accrued were approximately $130 million. Coal transportation contract disputes and plant deactivations could create additional, unquantified costs.
- Other contingencies and market risk: Guarantees and other assurances totaled approximately $4.0 billion. A credit downgrade could trigger up to $985 million of additional collateral obligations under the stated scenarios. A 10% adverse commodity-price move was estimated to reduce net income by about $24 million over the next 12 months. Unresolved regulatory, legal, nuclear, environmental and transmission-cost-allocation matters may affect results; several potential losses cannot be estimated.
- Additional notable items: Davis-Besse returned to service in May after an outage and work representing an approximately $600 million investment. Management reported that the shield building retained structural integrity despite limited crack propagation. FirstEnergy’s proposed capital-market access and cost recovery remain subject to market and regulatory outcomes.
Most important facts for investors to verify
- Whether CES can improve operating economics after elevated replacement-power, capacity and commodity costs, and whether reported improvement is mainly a comparison against the 2013 impairment.
- How much of first-half earnings and cash generation is recurring versus the hydro-sale gain and weather-related or other unusual items.
- Final outcomes and timing of the Ohio ESP IV, Pennsylvania and West Virginia rate cases, and New Jersey storm-cost and base-rate proceedings.
- Debt refinancing needs, credit-rating trends, available revolver capacity, and potential collateral calls after a downgrade.
- Actual environmental compliance and closure costs, including Little Blue Run, MATS and Fort Martin, plus any coal-transportation or other litigation exposure.
- Progress, funding and rate recovery for the $4.2 billion transmission plan and the proposed long-term Ohio power purchase agreement.