American States Water Company (AWR) — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018; filed February 25, 2019. This is a combined annual report for AWR and its subsidiary Golden State Water Company (GSWC). The filing includes unaudited fourth-quarter results.
Business context and reporting period
AWR operates regulated water and electric utilities through GSWC and provides contracted water and wastewater services at U.S. military installations through ASUS. At year-end, GSWC served approximately 260,000 water customers and 24,000 electric customers. AWR’s results are seasonal, with water demand generally higher in hot, dry months.
Financial performance and liquidity
Amounts are in millions, except per-share figures and where noted.
| Metric | FY 2018 | FY 2017 |
|---|---|---|
| Operating revenue | $436.8 | $440.6 |
| Operating income | $101.0 | $127.1 |
| Operating margin | 23.1% | 28.8% |
| Net income | $63.9 | $69.4 |
| Diluted EPS | $1.72 | $1.88 |
| Net cash from operations | $136.8 | $144.6 |
| Capital expenditures | $126.6 | $113.1 |
Net margin was approximately 14.6% versus 15.7% in 2017. Water gross margin declined 7.0% to $215.1 million; electric gross margin increased 1.9% to $21.3 million. Contracted-services revenue rose 6.9% to $107.2 million.
At December 31, 2018, AWR reported $7.1 million cash, $131.5 million current assets and $146.6 million current liabilities. GSWC’s long-term debt was $281.1 million net of issuance costs, with $40.3 million classified as current maturities. AWR had $95.5 million outstanding on its $150 million revolving facility; $49.6 million remained available as of February 1, 2019, after letters of credit. AWR reported compliance with its credit covenants, including a 0.43 debt ratio and 6.23-times interest coverage.
AWR paid $1.06 per share in dividends during 2018, up from $0.994 in 2017. Operating cash flow exceeded reported capital expenditures by approximately $10.2 million, before other investing and financing needs.
Fourth-quarter results
In Q4 2018, AWR reported revenue of $111.0 million, operating income of $22.7 million, net income of $13.8 million and diluted EPS of $0.37. In Q4 2017, the corresponding figures were $104.2 million, $22.0 million, $12.9 million and $0.35. Quarterly data are unaudited; management cautions that seasonality limits quarter-to-quarter comparisons.
Material changes versus the prior comparable period
- Annual revenue decreased 0.9%, while operating income fell 20.5% and net income fell 7.9%. Diluted EPS declined 8.5%.
- The 2017 comparison included an $8.3 million pretax gain from the Ojai water-system sale; no comparable gain occurred in 2018. Excluding the Ojai gain, adjusted diluted EPS was $1.72 in 2018 versus $1.75 in 2017.
- Water revenue declined 3.6%, partly due to lower revenue requirements following the Tax Act and lower authorized water returns, as well as expired surcharges. Billed water consumption increased approximately 3%; the CPUC-approved revenue adjustment mechanism generally limits the earnings effect of usage changes.
- Contracted-services earnings grew with the addition of Eglin Air Force Base and Fort Riley operations and approved price adjustments. Fort Riley operations began July 1, 2018 under a 50-year contract valued at approximately $681 million, subject to annual price adjustments and government termination rights.
- The federal tax-rate reduction lowered AWR’s effective tax rate to 22.0% from 36.0%, substantially reducing income tax expense. For regulated utility operations, lower customer revenue requirements largely offset lower tax expense, with no material net-earnings effect in 2018. The 2017 results included one-time tax remeasurement effects.
- Operating cash flow declined from 2017, chiefly because of the timing of tax payments/refunds and military construction billings and receipts. AWR’s revolving-credit-facility borrowing rose to $95.5 million at year-end from $59.0 million.
Outlook, management commentary, risks and unusual items
- Utility rates and investment: A pending water-rate settlement, if approved, would authorize about $334.5 million of infrastructure investment over 2019–2021. The settlement estimates a 2019 water gross-margin increase of about $6 million versus the 2018 adopted level, excluding advice-letter projects; possible additional increases in 2020 and 2021 are subject to an earnings test and inflation measures. CPUC approval remained pending.
- Electric rates: A proposed electric-rate settlement was pending. Management estimated that approval before year-end would have added approximately $2 million, or $0.04 per share, to 2018 electric gross margin; any 2018 increase was expected to be recorded after a CPUC decision, retroactive to January 1, 2018.
- Capital spending and funding: GSWC estimated company-funded 2019 capital expenditures of $115–$125 million. Management expects continued external financing needs and noted that the Tax Act reduces operating cash flows and may increase debt or equity financing requirements. A $40 million GSWC note matured in March 2019; management intended to fund repayment through intercompany borrowing.
- Principal risks: CPUC decisions and timing of rate recovery; drought, groundwater availability, water quality and conservation; wildfires, power shutoffs, severe weather and potential uninsured losses; aging infrastructure and rising compliance costs; and interest-rate, capital-market and pension risks. ASUS also faces fixed-price construction exposure, delays or disallowances in government price adjustments and payments, and possible termination of military contracts for government convenience or contractor default.
- Other contingencies and unusual items: GSWC estimated $1.3 million in remaining remediation costs at the Chadron Plant and considered rate recovery probable. Routine litigation was disclosed; management did not expect pending matters to materially affect results, financial position or cash flows. AWR reported $3.2 billion of remaining performance obligations under military contracts, which extend over 36–50 years and are subject to termination provisions. The U.S. government shutdown from December 2018 to January 2019 did not affect ASUS, according to management.
- Controls and audit: The auditor gave an unqualified opinion on AWR’s consolidated financial statements and internal control over financial reporting; management also concluded controls were effective. GSWC’s financial statements received an unqualified audit opinion.
Most important facts for investors to verify
- Whether and when the CPUC approved the pending water and electric rate settlements, and the final rate increases and retroactive amounts.
- Whether forecast GSWC capital spending, operating cash flow and financing needs translate into higher debt or affect dividends.
- Progress in collecting ASUS construction receivables and securing timely economic-price and equitable adjustments; confirm the assumptions behind the reported contract obligations.
- Exposure to wildfire and other catastrophic losses, insurance availability and coverage, and the extent of any costs recoverable from customers or the U.S. government.
- Water-supply conditions, including drought and groundwater restrictions, and the effects of conservation or new water-quality requirements.
- Execution of the $40 million note repayment and the company’s subsequent revolver balance and borrowing availability.