Southwest Gas Holdings, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017. Dollar amounts below are in millions unless noted. The combined filing covers Southwest Gas Holdings, Inc. and its wholly owned utility subsidiary, Southwest Gas Corporation. Comparisons are year over year unless stated otherwise.
Business context and reporting period
Southwest Gas Holdings operates regulated natural gas distribution and transportation businesses in Arizona, Nevada, and California, and owns 96.6% of Centuri, a utility construction-services business. The January 2017 holding-company reorganization placed the utility and Centuri under the public holding company; it did not substantively change the consolidated businesses. Utility earnings are seasonal, while Centuri typically has its weakest revenue quarter in winter.
Financial results and key metrics
| Southwest Gas Holdings consolidated | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Operating revenue | $654.7 | $731.2 | Down 10.5% |
| Operating income | $119.5 | $134.1 | Down 10.9% |
| Net income attributable to Holdings | $69.3 | $75.4 | Down 8.1% |
| Diluted earnings per share | $1.45 | $1.58 | Down $0.13 |
| Operating cash flow | $161.8 | $314.6 | Down $152.7 |
| Construction expenditures and property additions | $115.8 | $112.6 | Up $3.2 |
The natural gas segment reported operating margin of $315.7 million, up $4.2 million (1.4%). Its net income contribution was $76.9 million versus $77.6 million. Centuri reported a $7.3 million loss contribution versus a $2.1 million loss. The lower consolidated revenue largely reflects lower gas costs passed through to customers and weaker construction revenue.
At March 31, Holdings reported cash of $43.4 million, current assets of $454.4 million, and current liabilities of $496.8 million. Long-term debt, including current maturities, totaled approximately $1.590 billion; total debt was about $1.590 billion versus $1.600 billion at December 31, 2016. The filing reports a 3.28 times ratio of earnings to fixed charges for the twelve months ended March 31, compared with 3.46 times for the year ended December 31, 2016.
Material changes and management commentary
- Gas operating revenue fell $62.5 million, but net gas costs fell by more, lifting utility operating margin. Nearly 30,000 net new customers were added over the year, a 1.5% growth rate. Customer growth contributed about $3 million to quarterly margin; California rate relief contributed about $1 million.
- Utility operations and maintenance expense rose $7.9 million, principally due to employee-related and general cost increases, including higher pension and medical costs and approximately $2.6 million of incentive-plan expense timing. Interest deductions also rose, partly reflecting the 2016 issuance of $300 million of senior notes.
- Centuri revenue declined $14 million, or 7%. Management attributed the decline and lower results to poor weather and a significant customer’s temporary work stoppage related to contractor employee requalification. The stoppage reduced revenue by $10.5 million and caused a $3.6 million pretax loss. Lower depreciation partly offset the impact.
- Operating cash flow fell sharply year over year, primarily because deferred purchased-gas costs produced a less favorable cash-flow effect than in Q1 2016. Holdings used $110.0 million in investing activities and $36.6 million in financing activities during the quarter.
Outlook, financing, regulatory matters, and risks
- Capital program: Southwest estimated natural-gas segment construction expenditures of $1.6–$1.8 billion for 2017–2019, including approximately $570 million in 2017. Operating cash flow was expected to fund about 60%–70% of construction expenditures and dividend requirements over that three-year period. This is management’s estimate, not earnings guidance.
- Rates: Arizona regulators approved a general-rate-case settlement in April 2017, effective that month. It provides a $16 million annual revenue increase and an expected $44.7 million reduction in depreciation expense, for a stated combined net annual operating-income increase of $60.7 million. The settlement sets a 9.50% return on equity and includes a three-year base-rate-case moratorium. These post-quarter changes were not reflected in Q1 results.
- Funding: Southwest expanded its revolving credit facility from $300 million to $400 million and extended its term to March 2022; $15 million was outstanding at quarter-end. Holdings established a separate $100 million credit facility, with no borrowings outstanding. Holdings also registered a $150 million at-the-market equity program; no shares had been sold under it by quarter-end.
- Dividends: The Board increased the quarterly dividend from $0.45 to $0.495 per share, a 10% increase effective with the June 2017 payment. The stated target payout ratio is 55%–65% of consolidated earnings per share.
- Other matters and risks: Gas-cost under- and over-collections affect cash flows and liquidity, but the filing says PGA adjustments do not directly affect profit margin. The company identified regulatory timing and rate relief, gas prices and recovery, capital-market access, construction costs and contract outcomes, weather, and customer work awards among the risks to forecasts. Management stated that pending litigation was not expected to have a material adverse effect. No formal earnings guidance was provided in the supplied filing text.
Important facts for investors to verify
- Whether the Arizona rate settlement’s expected annual income benefit is realized, including the timing and effects of its depreciation changes.
- Whether construction revenue and margins recover from the Q1 customer stoppage, weather disruption, and project cost pressures.
- How gas-cost balancing-account movements affect operating cash flow, and whether cash generation supports the planned capital program and dividends.
- Current debt, facility availability, financing costs, and any issuance under the $150 million equity shelf program.
- The outcome and timing of pending regulatory proceedings and the impact of applicable accounting-standard changes.