Tennessee Valley Authority quarterly report, Q3 FY2012

Tennessee Valley Authority — Form 10-Q Summary

Business context and reporting period. TVA operates a public power system serving more than nine million people and manages the Tennessee River system. This unaudited filing covers the fiscal third quarter ended June 30, 2012, and the nine months then ended; TVA’s fiscal year ends September 30. Dollar amounts are in millions unless noted.

Financial performance and position

Metric	Three months ended June 30, 2012	Nine months ended June 30, 2012
Operating revenue	$2,777; +4.5% year over year	$7,949; -6.0%
Operating income	$278, versus $82	$661, versus $919
Net income (loss)	$(23), versus $(240)	$(290), versus $(35)
Operating margin	10.0%, versus 3.1%	8.3%, versus 10.9%
Net margin	-0.8%, versus -9.0%	-3.6%, versus -0.4%
Operating cash flow	$1,252 for nine months, versus $1,703

• Electricity sales volume rose 5.8% in the quarter but fell 2.2% year to date. Nine-month revenue weakness reflected lower demand and fuel-cost recovery, amid an unusually warm winter.
• Fuel expense fell 10.8% and purchased-power expense fell 9.8% year to date; lower natural-gas prices and a shift in generation mix contributed. Depreciation and amortization rose 11.0%, including accelerated depreciation on coal units slated for idling or retirement.
• Nine-month investing cash outflow was $1,867, including $1,617 of construction expenditures and $264 of nuclear-fuel expenditures. Operating cash flow less those two expenditures was approximately negative $629; this is a simple cash-flow comparison, not a company-defined free-cash-flow measure.
• At June 30, cash and cash equivalents were $247, down from $507 at September 30, 2011. Current assets were $4,052 versus current liabilities of $6,898.
• Total debt outstanding was $25,114, up from $24,431 at September 30, 2011. Short-term debt was $2,530, compared with $482; long-term debt, including VIE debt, was $21,177. TVA reported $1,300 available under revolving credit facilities, with $1,200 committed to letters of credit and no cash borrowings; its $150 Treasury facility also had no borrowings.

Material changes and management outlook

• TVA attributed the nine-month loss and revenue decline mainly to weather-driven lower sales: heating degree days were 23.2% below normal. Management said revenue through June was 7% below its 2012 plan and expected full-year revenue to remain 7% below plan. TVA expected a net loss for fiscal 2012.
• Management began cost-saving measures, including reduced discretionary and program spending, management-layer reductions, and lower contractor and consultant use.
• The Watts Bar Unit 2 estimate to complete increased by $1.5 billion to $2.0 billion, bringing estimated total completion cost to $4.0 billion–$4.5 billion, with completion expected September–December 2015. Management cited project planning, leadership, oversight, and monitoring deficiencies; it continued to support completion.
• TVA completed the 880-MW John Sevier combined-cycle facility, which began commercial operations April 30. Inspections found cracking in all four Raccoon Mountain pumped-storage units (1,616 MW); return to service was expected during 2013–2015. Some combustion-turbine units were also unavailable for repairs.
• TVA idled coal units and planned additional idlings or retirements, but returned Johnsonville Units 9 and 10 to service due to capacity needs and said it might return other units as needed. Accelerated depreciation on affected units was $236 for the nine months, with another $100 expected for the remainder of fiscal 2012.
• TVA’s $30 billion statutory bond limit constrains financing flexibility. Management said alternative financing, including leases, may supplement bond issuance; such financing is generally more costly than bonds. The filing reported total debt outstanding of $25.1 billion.

Risks, contingencies, and unusual items

• Environmental and ash-spill exposure: TVA estimated Kingston cleanup costs at $1.1 billion–$1.2 billion, recorded $1.1 billion, and reported $290 remaining at June 30. The estimate excludes several categories that were not considered probable or reasonably estimable, including some potential penalties, damages, and future claims. Physical cleanup was expected to finish in late 2014. TVA had received $45 in insurance proceeds and was pursuing arbitration for additional recovery.
• Environmental Agreements require phased retirement of 18 coal units, controls, conversions, or retirement of additional units, emissions caps, $290 of TVA environmental projects, $60 for state environmental projects, and $10 in civil penalties. Potential environmental expenditures included $3,386 for proposed clean-air projects and $1,410 for coal-combustion-residual conversion and remediation; these are estimates, not recorded commitments in full.
• Legal-proceeding accruals totaled approximately $367; TVA estimated reasonably possible losses beyond accrued amounts at an additional $6. Sixty-three Kingston-related lawsuits remained active. Other proceedings include nuclear licensing and environmental matters.
• TVA consolidated two financing VIEs related to John Sevier. The transaction generated approximately $970 of proceeds for TVA and added $1,000 of VIE debt; the VIE creditors have no recourse to TVA’s general credit, apart from specified lease and related obligations.
• In April 2012, a counterparty exercised a $1.0 billion swaption, creating a swap under which TVA pays a fixed 8.25% and receives floating LIBOR-based payments through 2042. The counterparty paid TVA $60. Derivative fair-value changes are largely deferred through regulatory accounting.
• Derivative collateral requirements were $1.2 billion, met with letters of credit, reducing revolving-facility availability. TVA also had $318 of net margin cash collateral outflow in operating cash flows for the nine months. Recovery of funds remaining from the MF Global bankruptcy was uncertain despite the trustee allowing TVA’s claim.
• Other material uncertainties include nuclear safety and post-Fukushima requirements, dam and flood-risk improvements with costs not yet known, environmental rule changes, generation reliability, fuel supply and prices, pension funding, and TVA’s borrowing limit. Management said disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.

Important facts for investors to verify

• Whether fiscal 2012 revenue and loss outcomes matched management’s expectations, and whether cost reductions offset lower sales.
• Updated Watts Bar Unit 2 cost, schedule, oversight, and funding estimates, and any changes to Bellefonte plans.
• Actual spending and liabilities for Kingston cleanup, environmental agreements, clean-air controls, and coal-residual work, including potential excluded claims.
• Liquidity, short-term borrowing, credit-facility availability, collateral demands, and financing plans as TVA approaches its statutory bond ceiling.
• Operational progress restoring unavailable generation and the impacts of coal-unit idlings, hydrology, nuclear oversight, and new regulatory requirements.
• Whether pension funding needs, legal proceedings, and derivative or counterparty exposures change materially.