SOUTHERN CO annual report, FY2014

Business context and reporting period

Southern Company’s combined Form 10-K covers the fiscal year ended December 31, 2014, with unaudited quarterly information, including the quarter ended December 31. Southern Company is a holding company whose principal businesses are four regulated utilities in the Southeast and Southern Power, a wholesale generator. Figures below are consolidated Southern Company amounts unless otherwise stated.

Key financial metrics

Revenue rose 8.1% and net income after subsidiary preferred and preference dividends rose 19.4%. Operating margin was approximately 19.7% (operating income divided by operating revenue). Operating cash flow was below investing outflow; property additions were $5.977 billion. The filing does not provide a single consolidated free-cash-flow measure.

At year-end, long-term debt totaled $24.174 billion, including $3.333 billion due within one year; debt excluding amounts due within one year was $20.841 billion. Long-term debt represented 49.4% of reported capitalization, which excludes amounts due within one year. Current liabilities exceeded current assets by $2.597 billion, primarily reflecting debt due within one year. The companies reported $5.203 billion in committed bank credit arrangements, of which $5.177 billion was unused.

Southern Company paid $2.0825 per common share in dividends during 2014; its reported dividend payout ratio was 95%. The filing reports a 2014 GAAP EPS of $2.19 and a non-GAAP EPS of $2.80 excluding specified Kemper-related losses and the later Mississippi Supreme Court decision; the adjusted measure is not a substitute for GAAP.

Material changes versus the prior comparable period

• Higher retail and wholesale revenues, rate increases, and weather contributed to revenue growth. Total retail electricity sales increased 3.3%; wholesale sales increased 21.7%, influenced by weather and higher natural gas prices.
• Fuel expense increased to $6.005 billion from $5.510 billion, while purchased-power expense increased to $672 million from $461 million. Management said regulated fuel and purchased-power costs are generally recovered through customer rates and do not materially affect earnings, though timing affects cash flow.
• Other operations and maintenance expense rose to $4.354 billion from $3.846 billion, including higher outage, generation, transmission, and distribution costs.
• The Kemper IGCC estimate generated an $868 million pre-tax charge in 2014, down from $1.10 billion in 2013. Cumulative charges through year-end were $2.05 billion pre-tax ($1.26 billion after tax).

In the fourth quarter, consolidated operating revenue was $4.017 billion and net income after subsidiary preferred and preference dividends was $283 million, compared with $3.927 billion and $414 million, respectively, in fourth-quarter 2013. Basic and diluted EPS were each $0.31, versus $0.47 a year earlier.

Outlook, commentary, risks and unusual items

• Kemper IGCC: The total current cost estimate was $6.20 billion, including $4.93 billion for plant costs subject to the Mississippi PSC cost cap, compared with the $2.88 billion cap (net of DOE grants and excluding defined exceptions). Mississippi Power said it did not intend to seek recovery or joint-owner contributions for costs above the cap, apart from the defined exceptions. The combined-cycle and common-facilities portion began operating on natural gas in August 2014; the gasifier and gas-cleanup facilities were expected online in the first half of 2016. Further delay was estimated to add $25–$30 million per month in base costs, plus estimated monthly AFUDC of about $13 million and other carrying, operating, consulting, and legal costs of about $7 million. Cost recovery, prudence review, operating performance, and project timing remained uncertain.
• Mississippi rate decision: In February 2015, after the reporting date, the Mississippi Supreme Court reversed the 2013 rate order, found the related settlement unenforceable, and directed the Mississippi PSC to restore prior rates and order refunds of amounts collected. Mississippi Power had collected $257.2 million through year-end; any refund could include carrying costs. The timing, amount, and regulatory resolution were undetermined. The decision also raised uncertainty around the rate-mitigation plan and Kemper cost recovery.
• Plant Vogtle Units 3 and 4: After year-end, the contractor forecast an additional 18-month delay, moving estimated in-service timing to the second quarter of 2019 for Unit 3 and the second quarter of 2020 for Unit 4. Georgia Power had not accepted revised guaranteed completion dates. Its February 2015 filing sought a certificate amendment and a Georgia Power in-service capital-cost estimate of $5.0 billion; construction-period financing costs were estimated at $2.5 billion, with about $30 million accruing monthly until the units enter service. Contractor litigation, licensing, construction execution, and cost recovery remain risks.
• Capital and liquidity: Southern Company estimated system construction investment of $6.7 billion in 2015, $5.4 billion in 2016, and $4.3 billion in 2017. Management expected dividends, capital expenditures, and debt maturities to exceed operating cash flow over 2015–2017, requiring external financing. The 2015 system construction program also included approximately $1.3 billion for potential Southern Power acquisitions or new generation.
• Environmental and other contingencies: Preliminary estimates for closure and groundwater monitoring of ash ponds were about $860 million, plus about $140 million for post-closure care; timing and costs remained uncertain. Proposed and final rules covering air, water, coal ash, and carbon emissions could require additional spending. The filing also discusses EPA New Source Review litigation and other environmental matters; outcomes and potential costs are not fully determinable.
• Management outlook: Management cited timely cost recovery, electricity demand and weather, fuel costs, construction execution, regulatory decisions, financing access, and environmental requirements as significant influences on future results. The filing provides no consolidated numeric earnings guidance for 2015.

The financial statements received unqualified audit opinions, and management concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2014.

Important facts for investors to verify

• Mississippi PSC actions following the Supreme Court ruling, including the refund amount and timing, rate levels, prudence review, and Kemper recovery plan.
• Kemper’s actual completion date and final cost, costs above the cap and exceptions, operating performance, SMEPA transaction status, and eligibility for tax credits and grants.
• Vogtle schedule, Georgia PSC approval of the requested cost and timing changes, contractor claims and liquidated damages, and remaining financing requirements.
• Whether the system can fund its construction and debt maturities while sustaining dividends, and the effect of refinancing and credit-rating changes on liquidity and collateral needs.
• Final environmental compliance requirements, ash-pond obligations, associated asset-retirement charges, and the extent and timing of recovery from customers.
• Southern Power acquisition closings and project execution, including the Kay Wind transaction and solar construction plans, alongside long-term PPA coverage and counterparty exposure.