Black Hills Corporation — Q3 2010 Form 10-Q
Business context and reporting period. This unaudited quarterly report covers the three and nine months ended September 30, 2010, compared with the same periods in 2009. Black Hills operates regulated electric and gas utilities and non-regulated oil and gas, power generation, coal mining, and energy marketing businesses. Results are seasonal, particularly for gas utilities, whose peak season is generally November through March.
Financial performance and position
Amounts below are in millions of dollars, except per-share data and percentages.
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Operating revenue | $264.4 | $225.8 | $978.0 | $921.1 |
| Operating income | $47.9 | $16.9 | $148.5 | $76.2 |
| Operating margin | 18.1% | 7.5% | 15.2% | 8.3% |
| Continuing-operations income (loss) | $12.4 | $(3.9) | $35.2 | $46.4 |
| Net income (loss) | $12.4 | $(2.2) | $35.2 | $48.8 |
| Diluted EPS | $0.32 | $(0.06) | $0.90 | $1.26 |
- Cash flow: Nine-month operating cash flow was $125.8, versus $270.9 in 2009. Property additions were $323.9; investing cash flow was $(253.8), and financing cash flow was $74.1. Cash and equivalents fell $53.9 to $59.0. Operating cash flow less property additions was approximately $(198.1).
- Liquidity: Current assets were $644.6 and current liabilities $639.0 at September 30. The $500 million revolving credit facility had $145.0 of borrowings, $15.5 of letters of credit, and approximately $339.5 of available capacity. The company reported compliance with its covenants.
- Debt: Notes payable and current and long-term debt totaled approximately $1,338.6 at September 30, compared with $1,215.7 at December 31, 2009. In July, the company issued $200 million of 5.875% senior notes due 2020; proceeds were used in part to reduce revolving-credit borrowings and letters of credit.
- Margins and dividends: Q3 operating income improved substantially, while nine-month continuing income declined. Dividends paid were $1.08 per share for the first nine months; the board declared a further $0.36 quarterly dividend payable December 1, 2010.
Material changes and management commentary
- Q3 revenue rose 17.1% year over year and operating income increased to $47.9 million. Management attributed improvement mainly to utility rate increases and stronger Energy Marketing results. Utilities Group nine-month income increased to $53.6 million from $38.6 million; Non-regulated Energy Group income was $15.8 million versus a $5.5 million loss.
- Nine-month continuing income fell to $35.2 million from $46.4 million. A principal factor was a $41.7 million non-cash mark-to-market loss on de-designated interest-rate swaps, compared with a $37.8 million gain in 2009. 2010 also included a $4.1 million after-tax Wygen III sale gain, a $1.7 million after-tax Nebraska Gas asset-sale gain, and a $2.4 million tax benefit from re-measuring tax positions. 2009 included a $27.8 million after-tax oil and gas impairment and a $16.9 million after-tax Wygen I sale gain.
- In July, Black Hills Power sold a 23% Wygen III interest for $62.0 million and recorded a $6.2 million pre-tax gain. Wygen III began commercial operations in April 2010. Enserco acquired a coal-marketing business in June for $2.25 million; its coal positions generated reported unrealized gains as market prices increased.
Outlook, risks, and unusual items
- Capital program: Management forecast approximately $511.9 million of 2010 capital expenditures; $337.0 million had been spent through September. The two Colorado gas-fired generation projects are expected to cost $250–$260 million for Colorado Electric and $240–$265 million for Power Generation, with completion expected by the end of 2011 and service expected in 2012. The filing says the company may temporarily exceed its targeted 50%–55% debt-to-capitalization range during construction and may issue additional debt and equity. It gives no earnings or EPS guidance.
- Funding and liquidity risks: Future financing depends on capital-market access, credit ratings, covenant compliance, cash generation, and project execution. The company expects operating cash, revolving credit, and long-term financing to support capital needs, but warns that market deterioration or covenant breaches could constrain funding.
- Interest-rate swaps: The $250 million notional de-designated swaps had an $80.5 million liability at quarter-end and caused significant non-cash earnings volatility. Their mandatory early termination dates were in December 2010 unless extended; settlement could require cash. The company also reported a $28.4 million liability on $150 million of designated swaps.
- Regulation and operations: Dodd-Frank rules could increase derivatives collateral requirements and liquidity needs. Proposed and developing air-emissions and greenhouse-gas rules could raise costs or affect plant economics; Colorado Electric proposed retiring its W.N. Clark facility. Black Hills suspended Osage plant operations effective October 1, 2010. Commodity prices, weather, counterparty credit, outages, labor matters, and regulatory rate outcomes remain risks.
- Tax and contingencies: The IRS settlement reduced previously deferred taxes related to the IPP and Aquila transactions, but approximately $125 million remained subject to IRS review. The filing reports no material new legal proceedings or material developments in existing proceedings during the first nine months; management cautions that outcomes and costs could exceed amounts provided.
- Other: The company reported effective disclosure controls and no material change in internal control over financial reporting. It implemented a consolidated financial and human-resource system in August 2010.
Important facts for investors to verify
- Whether swap termination dates were extended or the $250 million swaps were settled, and the resulting cash and earnings effects.
- Actual funding, construction costs, timing, and regulatory recovery for the two Colorado generation projects and the broader capital program.
- Available revolving-credit capacity, covenant headroom, and any planned debt or equity issuance, given negative nine-month operating cash flow after capital additions.
- Final outcomes and customer impacts from pending utility rate matters, emissions regulation, and the IRS review of the remaining approximately $125 million of deferred taxes.
- Whether Energy Marketing gains are sustainable: reported results included material unrealized gains, including gains on acquired coal positions, and can be volatile under mark-to-market accounting.