Business Context and Reporting Period
This Form 8-K is a combined current report filed by Pinnacle West Capital Corporation and its subsidiary, Arizona Public Service Company (APS), on November 4, 2005. The filing primarily addresses the submission of a 2005 General Rate Case to the Arizona Corporation Commission (ACC) and provides updated earnings guidance for 2005, 2006, and 2007.
Key Financial Metrics and Rate Case Details
APS has requested a $409.1 million (19.9%) increase in annual retail electricity revenues, effective no later than December 31, 2006. The request is based on a historical test year ended December 31, 2004, with a proposed rate base of $4.4 billion.
| Cost Component | Annual Revenue Increase ($ millions) | Percent Increase |
|---|---|---|
| Increased fuel and purchased power costs | $246.8 | 12.0% |
| Capital structure update | $96.8 | 4.7% |
| Rate base update (including Sundance Power Plant) | $42.5 | 2.1% |
| Pension funding | $41.2 | 2.0% |
| Other items | $(18.2) | (0.9%) |
| Total Increase | $409.1 | 19.9% |
The proposed capital structure consists of 45.7% long-term debt (5.19% cost) and 54.3% common stock equity (11.50% cost), resulting in a weighted-average cost of capital of 8.61%.
Material Changes and Earnings Outlook
The filing supersedes all previous earnings guidance. The outlook is heavily influenced by regulatory recoveries, fuel costs, and specific asset transactions.
- 2005 Outlook: Earnings expected to be approximately $3.00 per share. This includes $0.95 per share from Power Supply Adjustor (PSA) cost deferrals. This estimate excludes an $87 million after-tax regulatory disallowance from a prior retail rate settlement and a $55 million after-tax loss from the sale of the Silverhawk Power Station interest.
- 2006 Outlook: Earnings expected to be approximately $3.00 per share, including $1.30 per share from PSA cost deferrals. APS estimates 2006 Fuel and Power Costs at $834 million before taxes, driven by rising natural gas prices. Approximately 85% of 2006 exposure is hedged.
- 2007 Outlook: Base earnings estimated at $2.70 per share (including $1.75 from PSA deferrals). If the requested rate increase is granted effective December 31, 2006, 2007 earnings are projected at $3.75 per share, with APS contributing approximately $3.30 per share.
- SunCor Development: The real estate subsidiary is expected to generate earnings between $40 million and $50 million ($0.40 to $0.50 per share) for each of the next two years.
Risks, Contingencies, and Management Commentary
Management highlights several critical risks and contingencies that could materially affect results:
- Regulatory Uncertainty: The outcome and timing of the ACC's decision on the November 4, 2005 rate case are primary risks. There is uncertainty regarding the recovery of costs exceeding the $776.2 million annual limit under the current PSA order.
- Fuel Cost Volatility: Natural gas prices are rapidly escalating. A $1.00 per MMBtu change in natural gas prices would impact 2006 pretax Fuel and Power Costs by approximately $12 million.
- Operational Issues: Unplanned outages at the Palo Verde Nuclear Generating Station in 2005 resulted in approximately $40 million in replacement power costs, 40% of which are expected to be recovered via a spring 2006 adjustor filing.
- Market and Economic Factors: Risks include retail electric competition in Arizona, wholesale market liquidity, counterparty credit risk, and the strength of the real estate market in SunCor's operating regions.
Key Facts for Investor Verification
- Verify the ACC's procedural schedule and final decision on the $409.1 million rate increase request.
- Monitor the resolution of the $776.2 million annual limit on Fuel and Power Costs under the PSA and the potential for cost disallowance.
- Track the actual recovery of the $40 million in Palo Verde outage costs and the timing of the spring 2006 adjustor filing.
- Confirm the impact of the $87 million regulatory disallowance and $55 million Silverhawk loss on final 2005 earnings.
- Assess the volatility of natural gas prices and the effectiveness of APS's 85% hedge position for 2006.