Pinnacle West Capital Corporation — 2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014. This is an annual filing, not a standalone fourth-quarter report. Pinnacle West is a holding company whose results are driven mainly by its regulated Arizona utility, Arizona Public Service Company (APS), serving approximately 1.2 million customers.
Financial performance and condition
| Metric | 2014 | 2013 |
|---|---|---|
| Pinnacle West operating revenue | $3.492 billion | $3.455 billion |
| Operating income | $811 million | $846 million |
| Net income attributable to common shareholders | $398 million | $406 million |
| Diluted EPS | $3.58 | $3.66 |
| Operating cash flow | $1.100 billion | $1.153 billion |
| Capital expenditures | $911 million | $1.016 billion |
| Total assets | $14.314 billion | $13.509 billion |
| Long-term debt, less current maturities | $3.031 billion | $2.796 billion |
Revenue increased about 1.1%, while common net income declined about 2.1% and diluted EPS about 2.2%. Operating margin was approximately 23.2%, compared with 24.5% in 2013; common net-income margin was approximately 11.4%, versus 11.8%. APS reported electric operating revenue of $3.489 billion and net income attributable to its common shareholder of $421 million, down from $425 million.
Cash used for investing was $923 million; cash used for financing was $179 million. Operating cash flow less capital expenditures was approximately $189 million. Year-end cash was $8 million. Pinnacle West and APS reported committed revolving facilities of $1.2 billion in total, with $1.053 billion unused; APS had $147 million of commercial paper outstanding. Pinnacle West’s consolidated debt to capitalization ratio was approximately 46%, and APS’s was 45%. APS’s regulatory-order common-equity ratio was 56%, above its 40% minimum.
Pinnacle West declared dividends of $2.33 per share for 2014, compared with $2.23 in 2013, and increased its indicated annual dividend to $2.38. In the fourth quarter alone, Pinnacle West reported revenue of $726 million and common net income of $5 million, or $0.05 per diluted share, versus $700 million, $24 million and $0.22, respectively, in fourth-quarter 2013. Results are seasonal, with summer demand typically contributing substantially to earnings.
Material changes versus 2013
- Operating income fell $35 million and common net income fell $8 million. Management cited higher fossil-generation costs, weather-related lower retail sales, higher property taxes and lower retail transmission revenues. Lower employee benefit costs, higher other income and increased lost-fixed-cost recovery partially offset those pressures.
- Fuel and purchased-power costs rose to $1.180 billion from $1.096 billion. APS’s weather-adjusted retail electricity sales were flat year over year; customer growth was 1.4%.
- Operating cash flow declined $53 million, mainly reflecting higher fuel and purchased-power costs, increased cash collateral and pension contributions, partly offset by income-tax refunds.
- APS received approval for Four Corners rate adjustments expected to increase annual revenue by $57.1 million. The related deferral balance was $77 million at year-end and is being amortized over 10 years.
- Pinnacle West’s postretirement plan changes reduced 2014 periodic benefit cost by $10 million, including a $5 million reduction in expense, and reduced the benefit obligation by $316 million, with corresponding regulatory and other accounting offsets.
Outlook, risks and unusual items
- Management projected APS customer growth averaging 2.0%–3.0% annually and weather-adjusted retail sales growth averaging 0.5%–1.5% annually for 2015–2017. These are expectations, not guarantees.
- Estimated APS capital expenditures were $1.091 billion in 2015, $1.265 billion in 2016 and $1.293 billion in 2017. Planned spending includes generation, environmental controls, renewables, distribution and transmission.
- APS planned to retire Cholla Unit 2 by April 2016 and stop coal burning at its other Cholla units by the mid-2020s, subject to regulatory approvals. The remaining $128 million book value of Unit 2 was reclassified as a regulatory asset; disallowance of recovery could result in a write-off.
- Environmental compliance is a significant uncertainty. Estimated APS shares include at least $350 million for Four Corners controls, up to approximately $200 million for Navajo Plant upgrades, and approximately $15 million and $85 million for coal-combustion-residual compliance at Four Corners and Cholla. Cholla costs for regional-haze controls and remaining hazardous-air-pollutant equipment may be avoided if the proposed retirement compromise is approved; the outcome was uncertain.
- Other material risks include proposed greenhouse-gas rules and potential coal-plant retirements, fuel and power-price volatility, drought and water availability, nuclear operating and spent-fuel obligations, weather-sensitive demand, rate-recovery decisions, and renewal of leases and rights-of-way on tribal or federal lands.
- APS settled its spent-fuel damages claim with DOE for $57.4 million for Palo Verde owners; APS’s share was $16.7 million. The recovery was recorded as a regulatory-liability adjustment and did not affect current income.
- APS’s Four Corners transmission-termination dispute with SCE remained unresolved after FERC denied rehearing. Arbitration could result in a charge if APS is unsuccessful. Separately, APS agreed to pay a $3.25 million civil penalty to resolve reliability-related proceedings concerning the 2011 Southwest outage.
- The filing states that Pinnacle West’s and APS’s financial statements were audited by Deloitte & Touche and received unqualified opinions; management and the auditor reported effective internal control over financial reporting at year-end.
Investor verification priorities
- Review the full financial statements and notes for debt maturities, cash requirements, and the distinction between Pinnacle West and APS financial measures.
- Track APS’s rate-recovery proceedings and whether the $128 million Cholla regulatory asset and other deferred costs are ultimately recoverable.
- Verify regulatory decisions, actual costs and schedules for Four Corners, Navajo Plant and coal-ash compliance, including any effects on plant participation or retirement plans.
- Monitor actual customer and sales growth against management’s 2015–2017 projections, and assess weather and energy-efficiency effects on earnings and cash flow.
- Follow the Four Corners/SCE transmission dispute, tribal and federal lease approvals, water-supply matters, and other disclosed environmental and legal proceedings.
- Assess whether planned capital spending, voluntary pension contributions and dividends remain supported by operating cash flow and available financing.