Essential Utilities, Inc. quarterly report, Q2 FY2011

Business context and reporting period

Aqua America, Inc. and subsidiaries filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2011. The company provides regulated water and wastewater services to approximately 3 million people across 12 states, alongside smaller non-regulated operations. The filing identifies Aqua America—not Essential Utilities—as the registrant.

Financial performance and position

Amounts are in millions of dollars, except per-share amounts and ratios.

Second-quarter revenue was $188.2 million, up 5.5%; operating income was $74.8 million, up 13.3%; and net income was $37.6 million, up 25.9%. Quarterly diluted EPS was $0.27 versus $0.22.

At June 30, cash was $6.9 million and current assets were $178.0 million against current liabilities of $306.9 million, implying negative working capital of $128.9 million and a current ratio of about 0.58. Long-term debt, including its current portion, totaled $1.559 billion; loans payable were $118.9 million. Total equity was $1.212 billion. Cash dividends declared were $0.31 per share for the first half, versus $0.29.

Changes versus prior period

• First-half revenue rose 6.1%, primarily from $20.0 million of additional rate-related revenue and $1.3 million associated with customer growth through acquisitions.
• Net income increased 32.3%. Management attributed much of the improvement to revenue growth, lower amortization, gains on utility-system sales, and a lower effective tax rate.
• The effective tax rate declined to 32.0% from 39.5%, reflecting a $7.8 million net state income tax benefit associated with 100% bonus depreciation. Excluding that benefit, management reported non-GAAP first-half diluted EPS of $0.43 versus $0.38; second-quarter adjusted diluted EPS was $0.25 versus $0.22.
• Interest expense increased 8.4% for the first half, primarily due to borrowing to finance capital projects. First-half operating cash flow improved, but remained below capital expenditures.

Outlook, commentary, risks and unusual items

• Management said internally generated funds, credit facilities, and expected debt and equity issuance should provide adequate working capital and financing for at least 12 months. The company had $15.4 million available under its $95 million revolving facility and $48.1 million available under $167 million of short-term credit lines. Facilities were subject to renewal; renewal and terms were not assured.
• In July 2011, Aqua America agreed to acquire American Water’s Ohio regulated operations for approximately $88 million cash plus assumed liabilities, including approximately $16 million of debt. The transaction, expected to close in first-quarter 2012, is conditioned on the New York sale and regulatory approvals.
• In July 2011, the company agreed to sell its Maine operations for approximately $35.8 million cash plus assumed liabilities, including approximately $17.5 million of debt, and its New York operations for approximately $42 million cash plus assumed liabilities, including approximately $23 million of debt. Both sales were expected to close in first-quarter 2012, subject to conditions and regulatory approvals. The company expected to record additional income tax expense of about $5.0 million for Maine and $2.5 million for New York in the third quarter. Proceeds were intended to reduce short-term debt and for general corporate purposes.
• The company completed its Missouri utility sale in May and acquired Texas systems serving approximately 5,300 customers in June for $6.2 million. It also sold utility systems in Texas and elsewhere; reported sale gains reduced operating and maintenance expense. A further contingent gain on one sale was deferred pending regulatory treatment.
• Capital spending was $142.8 million in the first half, mainly for utility plant improvements. Rate increases granted in Ohio, Pennsylvania, and Indiana were designed to add $3.4 million of annual revenue. Increased purchased-water costs and postretirement-benefit expense pressured operating costs.
• Loss contingencies accrued totaled $11.1 million; management did not expect their final resolution to materially affect financial position, results, or cash flows. Fort Wayne eminent-domain valuation litigation could require repayment of some initial proceeds or result in additional proceeds; no gain had been recognized. A separate Florida wastewater lawsuit remained pending, while the original plaintiffs’ litigation was resolved in the company’s favor. A Pennsylvania permit-related penalty was settled at $80,000.
• Management cited regulatory changes, abnormal weather, capital needs and funding, acquisitions, capital-market conditions, and integration of acquired operations among forward-looking risks. It reported no material change in risk factors or market-risk exposure.

Important facts for investors to verify

• Confirm the filing issuer and reporting period: this document is Aqua America’s 2011 second-quarter 10-Q.
• Assess earnings quality and comparability, especially the $7.8 million bonus-depreciation tax benefit, utility-sale gains, and lower amortization; compare GAAP results with management’s non-GAAP figures.
• Track renewal and availability of short-term credit facilities, liquidity, debt maturities, and financing needs for capital spending and the Ohio acquisition.
• Monitor regulatory approvals, closing conditions, proceeds, assumed liabilities, and tax effects of the Ohio, Maine, and New York transactions.
• Review purchased-water commitments, pending litigation and contingencies, and the potential outcome of the Fort Wayne valuation appeal.