PNW

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended September 30, 2024, for Pinnacle West Capital Corporation (Pinnacle West) and its principal subsidiary, Arizona Public Service Company (APS). Pinnacle West is an investor-owned electric utility holding company, while APS is Arizona's largest electric utility, serving approximately 1.4 million retail customers. The filing includes unaudited condensed consolidated financial statements for both entities.

Key Financial Metrics (Nine Months Ended Sept 30, 2024)

Material Changes vs. Prior Period

• Revenue Growth: Operating revenues increased by $326 million (8.8%) compared to the nine months ended September 30, 2023. This was driven primarily by new rates from the 2022 Rate Case (effective March 8, 2024), increased customer usage, and weather effects.
• Profitability: Net income attributable to common shareholders increased by $114 million (22.7%) year-over-year. Key drivers included the revenue increases noted above, higher Court Resolution Surcharge (CRS) revenue, and a $23 million gain on the final stage of the Bright Canyon Energy (BCE) sale.
• Expense Increases: Operations and maintenance expenses rose by $61 million, and depreciation and amortization increased by $75 million, largely due to increased plant in service and intangible assets. Interest charges increased by $38 million due to higher debt balances and interest rates.
• Cash Flow: Net cash provided by operating activities increased by $336 million to $1.17 billion, primarily due to lower fuel costs and higher cash receipts from electric revenues.

Guidance, Outlook, and Management Commentary

• Rate Case Impact: The 2022 Retail Rate Case resulted in an expected total net annual revenue increase of approximately $253.4 million and an 8% increase to the typical residential customer's bill. A limited rehearing regarding the Grid Access Charge (GAC) for solar customers began in October 2024; the outcome is uncertain.
• Customer and Sales Growth: Retail customers increased 2.1% year-over-year. Weather-adjusted retail electricity sales increased 5.7%. Management projects annual retail electricity sales growth of 4.0% to 6.0% for 2024 and 2025, driven by data centers and large manufacturing facilities.
• Clean Energy Strategy: APS maintains a goal of 100% clean, carbon-free electricity by 2050 and a target of 65% clean energy by 2030. The company plans to exit coal-fired generation by 2031, with Cholla units ceasing coal burning in 2025.
• Capital Expenditures: Estimated capital expenditures for 2024 are $2.05 billion, increasing to $2.65 billion by 2027. Funding will come from internally generated cash and external financings.
• Dividends: On October 23, 2024, the Board declared a quarterly dividend of $0.895 per share, increasing the indicated annual dividend to $3.58 per share.

Risks, Contingencies, and Unusual Items

• Regulatory Risks: Ongoing proceedings include the limited rehearing on the GAC, potential changes to regulatory lag rules, and requests for deferral orders regarding Cholla closure costs and wildfire management expenses.
• Environmental Compliance: New EPA regulations regarding Coal Combustion Residuals (CCR) and carbon emissions could materially increase compliance costs. APS is evaluating the impact of the new CCR rule on legacy impoundments.
• Derivative Exposure: As of September 30, 2024, energy derivative instruments had a net liability fair value of approximately $108.5 million. A 10% price increase in natural gas would result in a $54 million gain on these instruments, while a 10% decrease would result in a $54 million loss.
• Unusual Items: The nine-month period included a $23 million pre-tax gain from the final stage of the BCE sale. Additionally, the company recognized a $22.5 million recovery of lost revenue via the Court Resolution Surcharge mechanism.

Investor Verification Checklist

• Verify the final outcome of the limited rehearing on the Grid Access Charge (GAC) and its potential impact on future revenues.
• Monitor the status of the EPA's new CCR regulations and the associated cost estimates for Cholla and Four Corners closure/remediation.
• Track the execution of the 2023 All-Source Request for Proposal (ASRFP) projects, particularly the in-service dates for new renewable and storage resources.
• Review the impact of rising interest rates on future debt refinancing costs and the company's ability to maintain its credit ratings (currently BBB+/Baa2).
• Confirm the timeline for the exit from coal-fired generation at Cholla (April 2025) and Four Corners (2031) and the associated asset retirement obligations.