Genie Energy Ltd. annual report, FY2018

Genie Energy Ltd. — FY2018 Form 10-K Summary

Business context and reporting period

Genie Energy reported results for the fiscal year ended December 31, 2018. The company operates three reportable segments: Genie Retail Energy (GRE), which resells electricity and natural gas; Genie Energy Services (GES), consisting of Diversegy and the newly acquired Prism solar business; and Genie Oil and Gas (GOGAS), including Afek exploration and drilling-related interests.

GRE remained the core business, generating $274.4 million of revenue, or approximately 98% of segment revenue and nearly all consolidated revenue. At December 31, 2018, GRE served 315,000 meters, down from 412,000 at December 31, 2017, following reduced marketing activity and required transfers of New York customers to incumbent utilities.

Financial performance and key metrics

Metric	2018	2017	Change
Total revenue	$280.3 million	$264.2 million	6.1% increase
Gross profit	$76.5 million	$85.5 million	10.5% decrease
Gross margin	27.3%	32.4%	Down approximately 5.1 percentage points
Income from operations	$12.0 million	$(6.0) million	Improved by $18.0 million
Net income	$21.4 million	$(8.6) million	Turned profitable
Net income attributable to Genie	$22.8 million	$(7.0) million	Turned profitable
Diluted EPS	$0.83	$(0.36)	Improved
Cash flow from operations	$19.4 million	$9.4 million	106% increase

Electricity revenue increased 2.6% to $227.9 million; natural gas revenue increased 16.1% to $46.6 million.
GRE gross profit declined to $75.3 million from $84.4 million, and GRE gross margin fell to 27.4% from 32.2%. Electricity gross margin declined to 26.8% from 32.6%, primarily because the average unit cost of electricity increased 11.9%, while customer rates increased 2.9%.
GRE selling, general and administrative expense declined 28.6% to $47.5 million, principally because of lower customer acquisition costs and reduced litigation accruals. GRE operating income increased 54.9% to $27.8 million.
GES revenue increased to $5.7 million from $1.9 million following the October 2018 acquisition of a 60% controlling interest in Prism. GES recorded a $1.0 million gross profit but an operating loss of $1.0 million.
GOGAS recorded a $6.5 million operating loss, including a $2.7 million impairment related to drilling equipment. GOGAS had no current oil and gas production.
The $12.4 million income-tax benefit included a $15.1 million release of valuation allowance on deferred tax assets, reflecting management’s expectation that certain U.S. tax assets will be utilized. This benefit materially increased reported net income and is not an operating cash item.

Liquidity, cash flow and debt

Cash and cash equivalents were $41.6 million at December 31, 2018, compared with $29.9 million at December 31, 2017. Including restricted cash, total cash, cash equivalents and restricted cash was $44.2 million.
Working capital was $35.4 million. Management stated that expected operating cash flow and $29.9 million of unrestricted cash were sufficient for anticipated requirements through at least the year ending December 31, 2019.
Net cash provided by operating activities was $19.4 million. Investing cash use was $2.9 million, and financing cash use was $4.2 million, including $9.3 million of dividends.
Debt included $2.5 million outstanding under a $20 million Vantage revolving facility, maturing April 2020, and $0.9 million of current notes payable primarily associated with Prism. The company reported compliance with applicable credit covenants.
GRE had $107.8 million of purchase commitments, including $90.1 million for future electricity purchases, $17.7 million of renewable energy credit commitments and $12.5 million of performance bonds.
The BP preferred supplier agreement was amended in 2018 and is scheduled to terminate November 30, 2021, subject to an earlier termination right. At year-end, $37.8 million of receivables and $1.6 million of restricted cash were pledged to BP against $14.4 million of trade accounts payable.

Material changes versus the prior comparable period

Revenue grew despite a 23.6% decline in year-end GRE meters and a 15.9% decline in RCEs. Average electricity consumption per meter increased 7.3%, while average electricity pricing increased 2.9%.
Customer acquisition activity was reduced: gross meter acquisitions fell to 197,000 from 355,000. Average monthly churn improved modestly to 6.5% from 6.6%.
Prism was acquired for total consideration of approximately $4.0 million, including cash contributions, conversion of bridge loans and an obligation to provide additional funding. Prism contributed approximately $3.3 million to 2018 revenue.
Genie Japan acquired Smile Energy for approximately $0.7 million and enrolled its first retail meters in February 2019.
GOGAS divested a majority interest in Atid Drilling in exchange for a 37.5% interest in a newly formed drilling-services company and recorded a $2.7 million impairment.
Genie’s interest in the U.K. Shoreditch joint venture increased from 65% to 67% after $1.3 million of additional contributions. The company recorded a $3.0 million equity-method loss from Shoreditch, compared with $0.6 million in 2017.
The company paid $7.7 million of common-stock dividends and $1.5 million of preferred-stock dividends in 2018. The board declared an additional common dividend of $0.075 per share for the fourth quarter, payable March 29, 2019.

Guidance, outlook, commentary, risks and unusual items

Management did not provide formal revenue or earnings guidance. It expected 2019 capital expenditures of approximately $0.5 million to $1.0 million.
Management identified wholesale electricity and natural gas price volatility, weather, customer churn, competition, fixed-rate contract exposure and regulatory requirements as major operating risks. Variable-rate products represented most of the company’s load, but approximately 34% of electricity load and 2% of natural gas load had fixed-rate characteristics.
New York remained a material concentration: it represented 32.4% of GRE meters, 24.8% of RCEs and $74.2 million of 2018 gross revenue. Pending or future New York PSC actions could materially affect operations.
Regulatory and legal matters included an Illinois Attorney General complaint involving alleged unauthorized enrollments and savings representations. The company recorded a $3.0 million liability in 2018, but the matter remained unresolved.
Town Square Energy settled an Ohio PUCO investigation for a $0.2 million forfeiture and faced an unresolved Connecticut investigation. The company also had a $2.3 million remaining liability related to previously settled class-action litigation.
Afek’s exploration activities were suspended after prior wells did not establish commercially producible quantities. Additional testing remained subject to permits and regulatory approvals; no commercial production was reported.
Management and the auditor identified a material weakness in internal control over financial reporting involving change management and segregation of duties in applications and databases supporting customer enrollment, pricing, rebates, commissions, invoicing and payments. The auditor issued an adverse opinion on internal control effectiveness. Management planned remediation by the third quarter of 2019.
The January 2, 2019 acquisition of an 80% interest in Finland-based Lumo, with approximately 32,000 customers, was a material subsequent event. Purchase accounting was incomplete at the filing date.

Important facts for investors to verify

Whether electricity gross margins recover after the 2018 decline in wholesale costs and whether the company can manage fixed-rate exposure.
The final outcome and potential financial impact of New York PSC proceedings, the Illinois Attorney General matter and the Connecticut investigation.
Progress in remediating the material weakness and whether future filings report effective internal controls.
The cash requirements and operating performance of Prism, Lumo, Japan and the Shoreditch joint venture, including additional funding obligations.
The sustainability of reported earnings excluding the $12.4 million tax benefit and other litigation, impairment and settlement-related items.
Liquidity under the BP supplier arrangement, Vantage revolving facility, purchase commitments and performance bonds.
Whether the decline in meters and RCEs stabilizes or continues, and how customer acquisition, churn and New York customer transfers affect revenue.