FirstEnergy Corp. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; filed April 27, 2017. The combined filing covers FirstEnergy Corp. and its subsidiary FirstEnergy Solutions Corp. (FES). FirstEnergy operates regulated distribution and transmission businesses and competitive generation and energy businesses. Its stated strategy is to exit competitive generation and transition to a fully regulated utility profile, targeting implementation by mid-2018.
Financial performance
| Metric | FirstEnergy Q1 2017 | Q1 2016 |
|---|---|---|
| Revenue | $3.552 billion | $3.869 billion |
| Operating income | $574 million | $776 million |
| Net income | $205 million | $328 million |
| Diluted EPS | $0.46 | $0.77 |
| Operating margin | 16.2% | 20.1% |
| Net cash from operations | $785 million | $650 million |
- Revenue fell 8%; net income declined 38%. Lower competitive energy sales and capacity revenues reduced results, while a $164 million pre-tax charge for coal transportation contract disputes was a principal earnings headwind. Regulated distribution and transmission earnings increased.
- Regulated Distribution earned $237 million, up $79 million; Regulated Transmission earned $88 million, up $7 million. Competitive Energy Services (CES) reported a $67 million loss, versus $144 million income a year earlier.
- Cash from operations rose $135 million, mainly reflecting the absence of pension contributions made in Q1 2016 and higher regulated distribution revenues. Investing cash outflow was $762 million; financing cash outflow was $58 million. Cash declined to $164 million from $199 million.
- FirstEnergy declared dividends of $0.72 per share, unchanged year over year. Property additions were $588 million, versus $698 million.
Balance sheet and liquidity
- At March 31, FirstEnergy reported $2.75 billion of short-term borrowings, $2.147 billion of currently payable long-term debt, and $17.762 billion of long-term debt and other long-term obligations. Shareholders’ equity was $6.139 billion.
- FirstEnergy had $2.24 billion available under its $5.0 billion revolving credit facilities, plus $164 million cash, for reported total available liquidity of $2.404 billion. The company said the parent, utility, and transmission businesses expected existing liquidity sources to meet anticipated obligations.
- FES reported $914 million revenue and an $80 million net loss, compared with $1.199 billion revenue and $131 million net income in Q1 2016. It generated $221 million operating cash flow and held $2 million cash. Its balance sheet showed $146 million equity and $2.812 billion long-term debt and other long-term obligations.
- FES had $500 million available under a secured credit line from FirstEnergy, in addition to $2 million cash. It had $130 million debt maturities and $108 million of interest and sale-leaseback commitments due in June 2017; another $515 million of maturities begins in Q2 2018.
Material changes, outlook, and key risks
- Competitive business: Weak wholesale energy and capacity markets, depressed auction prices, and low demand forecasts continued to weigh on CES. FirstEnergy expects CES contract sales to fall from 53 million MWh in 2016 to 40–45 million MWh in 2017 and 35–40 million MWh in 2018. Lower contracted volumes reduce collateral needs but increase exposure to wholesale spot-price volatility.
- FES going concern: Management stated that debt refinancing challenges, upcoming payments, weak markets, and uncertainty around strategic alternatives raise substantial doubt about FES’s ability to meet obligations over the next 12 months and continue as a going concern. Possible alternatives include asset sales, plant deactivations, debt restructuring, regulatory solutions, or bankruptcy protection for FES and potentially FENOC. FES’s unsecured ratings were Caa1 at Moody’s, CCC+ at S&P, and C at Fitch, each with a negative outlook.
- Asset sales and portfolio changes: AE Supply and AGC agreed to sell four gas plants and an interest in Bath County for $925 million, subject to approvals and other conditions; closing was expected in Q3 2017. The transaction includes discharge of $305 million of AE Supply notes and an estimated $100 million make-whole premium. MP also agreed to acquire the 1,300-MW Pleasants station for approximately $195 million, subject to approvals.
- Regulated growth and investment: Management projected 4%–6% compounded annual earnings growth for regulated distribution and transmission from 2016 to 2019, increasing to 7%–9% with the Ohio DMR. Transmission rate base growth was projected at 9% annually through 2021, with $4.2–$5.8 billion of transmission capital investment planned for 2017–2021. Regulated distribution capital expenditures were planned at approximately $1.3 billion annually in 2017–2019. Management also planned $500 million of equity issuance annually in 2017–2019, subject to market conditions.
- Rates and demand: New rates were effective in Pennsylvania and New Jersey in January 2017. Ohio’s distribution modernization rider was in effect, but related regulatory proceedings remained pending. FirstEnergy forecast weather-adjusted distribution deliveries to be flat through 2019 compared with 2016.
- Coal transport disputes: A first-quarter $164 million pre-tax charge covered estimated losses on two long-term coal transportation disputes. After quarter-end, an arbitration panel ruled against FG on liability in the CSX/BNSF matter. The parties agreed in principle to a $109 million settlement payable in three annual installments beginning May 1, 2017, guaranteed by FirstEnergy. The separate BNSF/NS dispute remained unresolved; damages could be materially higher and could further threaten FES liquidity.
- Other exposures: Environmental compliance and proceedings may require material spending; a Fort Martin water permit could entail estimated initial investment of $150–$300 million. FirstEnergy had accrued $135 million for environmental remediation. A 10% rise in commodity prices was estimated to reduce next-12-month net income by about $14 million. Guarantees and other assurances totaled approximately $3.3 billion.
Most important facts for investors to verify
- Whether FES refinanced or met the June 2017 debt, interest, and sale-leaseback payments, and whether it continued to rely on the FirstEnergy credit line or sought restructuring or bankruptcy protection.
- Whether the $925 million generation sale and the Pleasants acquisition received required approvals and closed on expected terms, including the make-whole cost.
- Whether definitive settlements were completed for the CSX/BNSF and BNSF/NS coal transportation disputes, and the resulting total cash and liability impact.
- Whether regulatory decisions sustain the Ohio DMR and approve pending distribution and transmission rate mechanisms, and whether the projected regulated earnings growth and capital plans remain achievable.
- How lower contract sales and greater spot-market exposure affect CES earnings, collateral requirements, and liquidity amid weak wholesale markets and low credit ratings.