Public Service Enterprise Group Incorporated (PSEG) — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Amounts are in millions of dollars except per-share data. This combined filing covers PSEG, regulated utility PSE&G, and competitive generation subsidiary PSEG Power; consolidated figures below refer to PSEG.
Business context and financial results
PSEG operates regulated electric and gas transmission and distribution through PSE&G, alongside PSEG Power’s merchant generation and energy supply business. For the second quarter, consolidated revenue rose, but operating income and net income fell substantially, primarily reflecting a major impairment charge and higher expenses. First-half net income increased modestly.
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Operating revenues | $2,316 | $2,016 | $5,296 | $4,834 |
| Operating income | $160 | $411 | $946 | $1,243 |
| Net income | $153 | $269 | $853 | $827 |
| Diluted EPS | $0.30 | $0.53 | $1.68 | $1.63 |
| Operating margin | 6.9% | 20.4% | 17.9% | 25.7% |
| Net margin | 6.6% | 13.3% | 16.1% | 17.1% |
Margins are calculated as income divided by operating revenues. In Q2, PSEG Power reported a $40 million net loss, versus $41 million net income a year earlier; PSE&G earned $227 million, versus $231 million. For the first half, PSE&G net income was $630 million (up from $550 million) and PSEG Power net income was $256 million (down from $275 million).
Cash flow, balance sheet and liquidity
- Operating cash flow: $1,824 for the first half, up from $1,633 in 2018. Investing cash outflow was $1,622, including $1,604 of property, plant and equipment additions. Financing cash outflow was $286. Cash, cash equivalents and restricted cash ended the period at $115, versus $199 at year-end 2018.
- Capital and debt: At June 30, total capitalization was $29,055, including $14,301 of long-term debt and $14,754 of equity. Separately reported current debt maturities were $1,056 and commercial paper and loans were $365. The reported balance-sheet categories therefore indicate total debt-related balances of approximately $15,722.
- Liquidity: PSEG reported $3,637 of available liquidity under $4,200 of credit facilities. Management said facility capacity exceeded projected maximum liquidity needs over the 12-month planning horizon. Cash and cash equivalents alone were $82.
- Dividend: First-half common dividends paid were $475, or $0.94 per share. The board declared a $0.47-per-share Q3 dividend, implying an indicative annual rate of $1.88 per share.
Material changes and unusual items
- PSEG Power recorded a $395 pre-tax impairment ($284 after tax) in June after agreeing to sell its interests in the Keystone and Conemaugh plants. The sale was targeted for the second half of 2019, subject to approvals and customary conditions; assets and liabilities were classified as held for sale.
- Energy Holdings recorded a $58 pre-tax write-down of the estimated residual value of its Powerton leveraged lease investment, citing adverse expected market conditions.
- First-half results benefited from stronger non-trading mark-to-market results and nuclear decommissioning trust investment gains. Management reported after-tax non-trading MTM gains of $152 million in Q2 2019 versus losses of $48 million in Q2 2018, and $228 million for the first half versus $37 million. These items can be volatile and do not necessarily represent realized cash earnings.
- Interest expense increased to $137 million in Q2 from $111 million and to $270 million for the first half from $214 million. Consolidated long-term debt increased to $14,301 from $13,168 at year-end 2018.
- PSEG adopted lease accounting on January 1, 2019, recognizing $261 million of operating lease right-of-use assets and $282 million of operating lease liabilities at adoption; the filing says the adoption did not materially affect earnings or cash flows.
Outlook, management commentary and risks
- Utility investment: PSEG narrowed PSE&G’s five-year capital expenditure range to $12 billion–$14.5 billion, with expected annual rate-base growth of 7.5%–8.5%. The BPU-approved Gas System Modernization Program II is a five-year, $1.9 billion investment program. A proposed Energy Strong II program was reduced by an agreement in principle to $842 million, pending BPU review. Clean Energy Future program applications remained pending, with some proceedings extended into 2020.
- Generation and climate strategy: Management said about 75% of PSEG Power’s expected 2019 gross margin was hedged or supported by capacity revenues, ZECs and certain ancillary-service payments. In July 2019, PSEG announced a goal to reduce fleet carbon emissions 80% by 2046 from 2005 levels and a vision of net-zero CO2 emissions by 2050, subject to technology and public policy developments.
- Nuclear support and market exposure: Salem 1, Salem 2 and Hope Creek received New Jersey ZEC awards through May 2022, providing expected payments of approximately $10/MWh while eligible and operating. The award was appealed. FERC’s review of PJM capacity-market rules, including its late-July 2019 direction to delay the next auction, creates uncertainty around future capacity revenues. Management warned that adverse outcomes could threaten the plants’ economics and potentially lead to retirement after the initial ZEC term.
- Environmental and litigation contingencies: PSEG accrued approximately $57 million for its estimated share of the Passaic River remedy, including a $46 million PSE&G amount supported by a regulatory asset. PSE&G also recorded $350 million for its MGP remediation program, with an estimated undiscounted total range of $350 million–$402 million through 2021 and a corresponding regulatory asset. The filing says additional Passaic River costs could be material but cannot currently be estimated. Other proceedings include a customer-service investigation, contractor litigation, and environmental and permitting matters.
- Other risks: Key uncertainties include wholesale power and gas prices, capacity-market design, regulatory approvals and cost recovery for utility investments, nuclear and environmental regulation, tax-law interpretation, counterparty credit exposure, and the ability to maintain liquidity. Management stated that no material changes had occurred to the risk factors in the 2018 Form 10-K.
- Controls: Management concluded disclosure controls were effective at a reasonable assurance level; no material change in internal control over financial reporting was reported during the quarter.
Most important facts for investors to verify
- Whether the Keystone and Conemaugh sale closed as planned, and the final proceeds, approvals and liability transfer.
- How much of quarterly and first-half earnings came from non-cash or unrealized MTM and trust investment gains, and how these compare with realized operating performance.
- Whether FERC/PJM capacity-market decisions, ZEC appeals or environmental requirements change the outlook for Salem and Hope Creek or other generation assets.
- Whether the pending PSE&G investment and rate-recovery programs receive approval on expected terms, supporting the stated rate-base growth and capital plan.
- Any change in environmental accruals, regulatory recovery assumptions, or potential loss ranges in the Passaic River and other legal matters.
- Debt maturities, refinancing costs, liquidity needs and the sustainability of the stated dividend as capital spending continues.