FirstEnergy Corp. — Q1 2012 Form 10-Q
Business context and period: Unaudited results for the three months ended March 31, 2012, compared with Q1 2011. FirstEnergy operates regulated distribution and transmission businesses and competitive energy services across six states. The comparison is affected by the Allegheny merger: Q1 2012 includes a full quarter of Allegheny results, while Q1 2011 includes only one month.
Key financial results
| Metric | Q1 2012 | Q1 2011 |
|---|---|---|
| Revenue | $4.078 billion | $3.576 billion |
| Operating income | $746 million | $350 million |
| Net income | $306 million | $47 million |
| Earnings available to FirstEnergy | $306 million | $52 million |
| Diluted EPS | $0.73 | $0.15 |
| Operating cash flow | $(413) million | $491 million |
| Property additions | $589 million | $449 million |
| Dividend declared per share | $0.55 | $0.55 |
Revenue increased 14%; operating income and earnings rose substantially. Calculated operating margin was approximately 18.3% versus 9.8%, and net margin approximately 7.5% versus 1.3%. These comparisons reflect merger-related costs in the prior period and the additional Allegheny quarter in 2012, as well as other items noted below.
- Segment earnings: Regulated Distribution earned $183 million (up $74 million); Competitive Energy Services earned $141 million (up $126 million); Regulated Independent Transmission earned $34 million (up $22 million).
- Cash and liquidity: Cash was $74 million at March 31, down from $202 million at year-end. Management reported approximately $3.9 billion of available liquidity. Current assets of $3.477 billion were below current liabilities of $5.773 billion.
- Debt and obligations: The balance sheet reported $1.772 billion of currently payable long-term debt, $15.527 billion of long-term debt and other long-term obligations, and $1.075 billion of short-term borrowings. Current short-term borrowings were nil at year-end.
Material changes and drivers
- FirstEnergy’s reported earnings available increased $254 million year over year. Management’s EPS bridge attributed $0.37 per share to lower merger-related costs, $0.17 to net merger accretion, $0.08 to mark-to-market adjustments and $0.05 to plant-closing costs as a negative; the Allegheny comparison includes three months in 2012 versus one month in 2011. Shares outstanding also increased, from a 342 million to 418 million basic weighted average.
- Competitive Energy Services benefited from higher direct and governmental aggregation sales and wholesale revenues, including gains on financially settled contracts and higher capacity revenue. Purchased-power costs rose, partly offset by lower operating expenses and transmission costs.
- Regulated Distribution results benefited from Allegheny earnings and lower merger costs, but were pressured by weaker weather-related usage. Deliveries for the pre-merger utilities fell 3.6%; heating degree days were 25% below the prior-year level.
- Operating cash flow swung to an outflow, principally reflecting a $600 million pension contribution (versus $157 million in Q1 2011), weaker working capital and timing of vendor payments. FirstEnergy said remaining 2012 property-addition and capital-lease requirements were estimated at approximately $1.8 billion.
Outlook, risks and unusual items
- Outlook: No specific earnings or EPS guidance is provided in the supplied filing text. Management expected existing liquidity sources to be sufficient for anticipated obligations and expected to use external financing for capital and other needs.
- Generation retirements: FirstEnergy announced retirement by September 1, 2012, subject to PJM reliability review, of nine coal-fired plants totaling 3,349 MW—about 10% of company generation on average over the prior three years—primarily in response to environmental rules. Q1 included approximately $7 million of pre-tax severance expense. PJM subsequently requested reliability-must-run arrangements for certain units; the filing describes a feasibility study for approximately 800 MW of peaking generation at Eastlake.
- Regulatory and environmental exposure: Potential compliance costs from air, water and coal-combustion-residual rules could be material, but estimates are not clear in the filing. Environmental remediation liabilities accrued were approximately $106 million. FirstEnergy also disclosed numerous ongoing environmental, regulatory and other legal proceedings.
- Transmission and market matters: The PATH project remained suspended pending PJM’s review. FirstEnergy disputed allocation of Michigan Thumb transmission-project costs; MISO estimated approximately $15 million of annual revenue requirements could be allocated to ATSI. FES and AE Supply reported approximately $35 million of FTR underfunding losses for the 2010–2011 delivery year and estimated another $6 million through March 31, 2012, with related FERC proceedings pending.
- Contingent funding and guarantees: Outstanding guarantees and other assurances totaled approximately $4.1 billion; additional credit-contingent collateral or accelerated-payment exposure was $671 million. A $350 million joint-venture loan facility was due in October 2012, and management said an extension was not assured.
- Unusual financing item: FGCO elected an early buyout of the 1987 Bruce Mansfield sale-and-leaseback leases. The aggregate special termination value was approximately $435 million, covering debt and equity under the leases; fair market value was still subject to appraisal.
Most important facts for investors to verify
- How much of the earnings increase is sustainable after separating merger timing, merger-cost reductions, mark-to-market movements and other one-time or unusual items.
- Whether operating cash flow improves after the unusually large pension contribution and working-capital outflows, and how the $1.8 billion remaining 2012 capital requirement will be funded.
- The effects of planned coal-plant retirements, PJM reliability requirements and replacement generation or power costs on earnings, capacity and capital spending.
- Outcomes of major transmission-cost, FTR, rate and environmental proceedings, including the disputed $254 million of historical marginal transmission losses claimed by ME and PN.
- Availability and terms of refinancing or extensions for the joint-venture loan, credit facilities and other near-term obligations, including the Bruce Mansfield lease buyout cost once appraised.