Business Context and Reporting Period
Company: Otter Tail Corporation (OTTR)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2009
Corporate Structure: On July 1, 2009, the company completed a holding company reorganization. Otter Tail Power Company (OTP), previously a division, became a wholly-owned subsidiary of the new parent, Otter Tail Corporation. The company operates six segments: Electric, Plastics, Manufacturing, Health Services, Food Ingredient Processing, and Other Business Operations.
Key Financial Metrics
| Metric | 2009 | 2008 |
|---|---|---|
| Total Operating Revenues | $1,039.5 million | $1,311.2 million |
| Net Income | $26.0 million | $35.1 million |
| Diluted EPS | $0.71 | $1.09 |
| Operating Cash Flow | $162.8 million | $111.3 million |
| Capital Expenditures | $177.1 million | $265.9 million |
| Total Assets | $1,754.7 million | $1,692.6 million |
| Long-Term Debt | $436.2 million | $339.7 million |
| Dividend Payout Ratio | 168% | 109% |
Note: The dividend payout ratio exceeded 100% in 2009 as dividends paid ($43.0 million) exceeded net income.
Material Changes vs. Prior Period
- Revenue Decline: Consolidated revenues decreased 20.7% to $1.04 billion, driven primarily by the economic recession impacting non-electric segments. Manufacturing revenues fell $146.6 million, Other Business Operations dropped $53.2 million, and Plastics revenues declined $36.2 million.
- Electric Segment Performance: Despite a 7.5% revenue decrease in the Electric segment (due to lower wholesale prices and volumes), net income from this segment increased 2.5% to $34.1 million. The Electric segment contributed 131% of consolidated net income in 2009.
- Non-Electric Losses: The Manufacturing, Health Services, and Other Business Operations segments collectively reported net losses in 2009, contrasting with profits in 2008. The Manufacturing segment reported a net loss of $2.0 million (after-tax) compared to $5.3 million profit in 2008.
- Food Ingredient Processing: This segment was a bright spot, reporting record net income of $7.4 million, a significant increase from $1.7 million in 2008.
- Big Stone II Cancellation: The company withdrew from the Big Stone II power plant project in September 2009 due to economic conditions and regulatory uncertainty. $13.0 million in incurred costs were deferred as a regulatory asset pending recovery approval.
Guidance, Outlook, and Risks
2010 Guidance
- Earnings: Management anticipates 2010 diluted earnings per share in the range of $1.00 to $1.40.
- Capital Expenditures: Expected to be between $75 million and $85 million for 2010, a significant reduction from 2009 levels.
- Segment Outlook:
- Electric: Lower net income expected due to soft wholesale markets and increased operating costs, partially offset by rate increases in Minnesota.
- Manufacturing: Earnings expected to improve due to productivity gains and better backlog ($239 million).
- Health Services: Increased net income expected as the company rightsizes its imaging asset fleet, reducing rental costs.
- Plastics: Performance expected to improve and align closer to 2008 results.
Key Risks and Contingencies
- Regulatory Recovery: The recoverability of the $13.0 million in Big Stone II costs is pending approval from state commissions (Minnesota and North Dakota requests pending; South Dakota approved deferred accounting). If denied, these costs would be expensed immediately.
- Environmental Regulation: Significant uncertainty regarding future greenhouse gas (GHG) regulations and potential costs for carbon capture or emission controls (e.g., Regional Haze BART requirements estimated at $146 million to $223 million for Big Stone Plant).
- Legal Proceedings: An appeal is pending regarding a Sierra Club lawsuit alleging Clean Air Act violations at the Big Stone Plant. The company believes the claims are without merit.
- Goodwill Impairment: The company holds $106.8 million in goodwill. While no impairment was recorded in 2009, continued economic weakness in the Manufacturing (specifically ShoreMaster) and BTD segments could trigger future impairment charges.
- Dividend Sustainability: With a payout ratio of 168% in 2009, the company's ability to maintain the current dividend level depends on future earnings recovery and cash flow generation.
Investor Verification Checklist
- Big Stone II Cost Recovery: Verify the status of regulatory filings in Minnesota and North Dakota regarding the $13.0 million deferred costs.
- Wholesale Market Exposure: Assess the impact of continued low wholesale power prices on the Electric segment's future margins.
- Manufacturing Backlog: Confirm the conversion rate of the $239 million manufacturing backlog into 2010 revenue.
- Dividend Policy: Monitor management commentary on the sustainability of the dividend given the 2009 payout ratio exceeding earnings.
- Environmental Compliance Costs: Track developments in GHG legislation and Regional Haze rulemaking that could impact capital requirements for coal-fired plants.