OGE ENERGY CORP. quarterly report, Q1 FY2018

OGE Energy Corp. — Q1 2018 Form 10-Q

Reporting period: Three months ended March 31, 2018; unaudited. OGE Energy operates a regulated electric utility, OG&E, and owns a 25.6% equity-method interest in Enable Midstream Partners. First-quarter results are not necessarily indicative of full-year results because OG&E earnings are seasonal, with most typically earned in the third quarter.

Key financial results

Metric	Q1 2018	Q1 2017 / comparison
Operating revenues	$492.7 million	$456.0 million; up 8.0%
Operating income	$60.5 million	$45.7 million
Net income	$55.0 million	$36.0 million; up $19.0 million
Diluted EPS	$0.27	$0.18
Dividends declared per share	$0.33250	$0.30250
Operating cash flow	$167.0 million	$91.0 million
Capital expenditures	$137.4 million	$219.9 million

OG&E gross margin, a company-defined non-GAAP measure (revenues less cost of sales), increased 14.1% to $282.2 million from $247.3 million. The filing attributes the increase mainly to price and weather effects, partly offset by a $6.5 million reserve for tax refunds. Consolidated operating margin was approximately 12.3% of revenue, compared with 10.0% a year earlier; net margin was approximately 11.2% versus 7.9%.

OG&E contributed $31.3 million of net income versus $16.2 million. OGE Holdings, principally its Enable investment, contributed $23.6 million versus $20.0 million. Enable’s reported net income declined to $104.6 million from $110.8 million, and OGE Energy’s equity earnings from unconsolidated affiliates fell to $33.9 million from $35.6 million.

Balance sheet, debt and liquidity

• At March 31, 2018, total assets were $10.436 billion and total liabilities were $6.594 billion; stockholders’ equity was $3.842 billion.
• Short-term debt was $193.9 million. Long-term debt was $2.500 billion, with $499.7 million classified as due within one year. The increase in current-maturity classification primarily reflects debt maturing in January 2019.
• Cash was $2.3 million, down from $14.4 million at year-end 2017. The company reported $705.8 million of net available liquidity under revolving credit agreements totaling $900 million; the facilities mature in March 2023 after an extension.
• Current assets of $493.5 million were below current liabilities of $1.215 billion, a working-capital deficit of approximately $721.7 million. The filing describes short-term borrowing and operating cash generation as sources for working-capital needs.
• Operating cash flow rose principally because of higher customer receipts. Investing cash use fell mainly because capital spending on environmental and reliability projects was lower. Financing cash flow was a $41.5 million outflow, compared with $128.6 million provided in Q1 2017, when OG&E issued long-term debt.

Material changes and unusual items

• Net income growth reflected higher OG&E gross margin and lower operation and maintenance expense, partly offset by higher depreciation and interest expense. Q1 2017 depreciation had been reduced by approximately $20 million due to a prior-period adjustment following the March 2017 Oklahoma rate order, making the year-over-year comparison less representative.
• The 2017 Tax Act reduced the federal corporate tax rate to 21%. Lower taxes helped reduce Q1 income tax expense; for regulated utility operations, tax savings are subject to regulatory treatment and customer refunds. The company recorded a $6.5 million reserve for excess taxes collected, plus interest, as of March 31.
• OGE adopted revenue-recognition guidance (Topic 606) in Q1. Management said adoption did not change the timing or amount of revenue recognized, but changed presentation, including separate reporting of alternative revenue program revenue.
• OGE’s $1.161 billion investment in unconsolidated affiliates is largely its Enable investment. Enable distributions to OGE were $35.3 million in Q1, unchanged year over year.

Outlook, regulation and risks

• 2018 consolidated earnings guidance was unchanged at $380 million–$410 million of net income, or $1.90–$2.05 per diluted share. The updated projected effective tax rate is 12.3%.
• OG&E guidance was unchanged at $286 million–$306 million, or $1.43–$1.53 per diluted share. Its forecast gross margin is approximately $1.376 billion–$1.386 billion. OGE Energy’s projected Enable earnings contribution is $96 million–$104 million, with expected Enable cash distributions of $140 million.
• OG&E expects up to $300 million of long-term debt issuance in the second half of 2018, depending on market conditions, for general corporate purposes, debt repayment and ongoing capital needs. Management expects operating cash flow, borrowings and Enable distributions to meet anticipated needs over the next three years.
• OG&E’s January 2018 Oklahoma rate review seeks a $1.9 million annual rate increase, recovery for the Mustang turbines, revised depreciation rates and customer credits for tax-law savings. Hearings were scheduled to begin June 15, 2018.
• On April 24, 2018, after quarter-end, the Oklahoma Supreme Court ruled that the OCC lacked authority to pre-approve the Sooner Dry Scrubber project under the statutory basis used. OG&E intends to seek recovery of project costs in a general rate review after completion. Estimated total cost is $542.4 million, with $416.0 million invested by March 31; completion was expected in mid-to-late 2018.
• The Mustang Modernization Plan’s estimated cost is $390.0 million; $373.2 million had been invested and all seven turbines were in service. Remaining work was expected to conclude in Q2 2018.
• A FERC complaint challenges OG&E’s 10.60% transmission return on equity and seeks 7.85%. The company estimated that each 25-basis-point reduction could lower annual transmission revenue by approximately $1.5 million; refunds, if ordered, could also affect results and cash flows. The outcome and timing were uncertain.
• OG&E agreed to refund customers $2.4 million relating to wind sales in the SPP; the OCC approved the settlement after quarter-end, and the reserve was recorded at March 31.
• S&P revised the outlooks on OGE Energy and OG&E from stable to negative, citing limited financial-measure cushion, higher capital spending, tax reform and regulatory uncertainty. The change did not trigger collateral requirements or credit-facility fee changes.
• Other significant risks include environmental compliance costs and regulatory uncertainty, Enable contract renewals and commodity/production exposure, and potential FERC rate changes affecting Enable. Management said reasonably possible losses above accrued amounts from pending or threatened claims were not expected to be quantitatively material.

Important facts for investors to verify

• Track outcomes of OG&E’s Oklahoma rate review, tax-refund proceedings and the FERC transmission-return complaint, including any required customer refunds.
• Confirm the timing, final cost and rate recovery of the Dry Scrubbers and Mustang projects, especially after the Oklahoma Supreme Court ruling on pre-approval authority.
• Monitor 2018 earnings guidance against seasonal results, capital spending, debt issuance and the January 2019 maturity.
• Assess Enable’s earnings, distributions and exposure to pipeline regulation, contract expirations, commodity prices and drilling activity.
• Review the negative S&P outlooks, available revolving-credit capacity and the company’s ability to fund dividends and investment while maintaining credit metrics.