Business context and reporting period
Public Service Enterprise Group Incorporated (PSEG) filed this combined, unaudited Form 10-Q for the quarter and nine months ended September 30, 2013. Its principal operating businesses are PSEG Power, a wholesale energy supplier, and PSE&G, a regulated New Jersey electric and gas transmission and distribution utility. Energy Holdings primarily has leveraged-lease and solar investments. Unless noted otherwise, amounts below are in millions of dollars.
Financial results and key metrics
| PSEG consolidated | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Operating revenue | $2,554 | $2,402 | $7,650 | $7,375 |
| Operating income | $712 | $594 | $1,934 | $1,810 |
| Net income | $390 | $347 | $1,043 | $1,051 |
| Diluted EPS | $0.77 | $0.68 | $2.06 | $2.07 |
| Operating margin | 27.9% | 24.7% | 25.3% | 24.5% |
Operating margins are calculated as operating income divided by revenue. Q3 net income increased $43 million year over year; nine-month net income declined $8 million. Nine-month revenue rose 4% and operating income rose 7%, while net income was affected by higher tax expense and lower other income.
- Segment earnings, Q3 / nine months 2013: Power $221 / $562; PSE&G $168 / $468; Energy Holdings $(3) / $1; other $4 / $12.
- Cash flow, nine months: operating cash flow was $2,435 versus $2,311 in 2012; investing cash outflow was $2,088 versus $2,051; financing cash outflow was $278 versus $314. Capital additions to property, plant and equipment were $2,102.
- Balance sheet at September 30: cash was $448 (up from $379 at year-end 2012); total assets were $32,610; current assets and current liabilities were $3,741 and $3,235, respectively.
- Debt and capitalization: long-term debt was $7,476, plus $1,010 of debt due within one year, for carrying debt of approximately $8,486 including securitization and project debt. Total capitalization was $18,815, including $11,339 of equity.
- Dividends: $0.36 per share was paid for Q3, versus $0.355 a year earlier. Management reported an indicated annual dividend of $1.44.
Material changes versus the prior comparable period
- Q3 revenue increased $152 million and operating income increased $118 million; nine-month revenue increased $275 million and operating income increased $124 million.
- Power’s Q3 earnings rose $40 million, helped by higher capacity revenue and prior-year mark-to-market losses. For nine months, Power earnings increased $24 million, with higher capacity pricing and generation partly offset by lower BGS and wholesale volumes, higher fuel and operating costs, and storm repairs.
- PSE&G earnings increased $13 million in Q3 and $15 million for nine months. Transmission investment and related revenues supported results; nine-month earnings were partly offset by the absence of 2012 tax benefits. Utility commodity revenues and associated energy costs generally move together, with no margin earned on BGS/BGSS supply.
- Nine-month operation and maintenance expense increased $193 million consolidated, including higher maintenance and Superstorm Sandy-related costs. Depreciation and amortization increased $89 million.
- Cash and credit resources remained substantial, but property, plant and equipment investment increased to $2,102 million from $1,969 million for the first nine months of 2012.
Outlook, management commentary, risks and unusual items
- Management did not provide a specific earnings forecast in the supplied filing text. It expects capital needs and dividends to be funded through operating cash flow and external debt financing. Base capital investment is estimated at approximately $6.4 billion for 2013–2015.
- PSE&G’s proposed Energy Strong program seeks approval for $2.6 billion of investments over an initial five years within a proposed $3.9 billion, ten-year resilience program; approval and recovery terms remained uncertain. Management also anticipated about $1.5 billion of additional transmission investment.
- PSE&G filed a 2014 FERC formula-rate update providing for approximately $176 million of increased annual transmission revenues from January 1, 2014, subject to the regulatory process. Management also planned to begin managing LIPA’s transmission and distribution system in 2014; implementation of the expanded arrangements remained subject to conditions, including IRS and budget approvals.
- The filing identifies market and regulatory uncertainty, persistently low power and gas prices, customer conservation and changing usage, environmental requirements, construction and permitting delays, severe weather, credit and counterparty risk, and the recovery of storm costs as significant risks. Management said the proposed EPA cooling-water intake rules could materially affect generating operations and capital needs; estimated Salem cooling-tower costs in the filing were approximately $1 billion, with Power’s share about $575 million, based on estimates not updated in the filing.
- Environmental contingencies: PSE&G recorded a $476 million liability for former manufactured-gas-plant remediation, at the low end of an estimated $476–$552 million range through 2021, with an equal regulatory asset. PSEG could not estimate its share of potential losses for several Passaic River and related claims; the EPA’s proposed remedy for the lower river had previously been estimated at $1.3–$3.7 billion for the broader cleanup.
- Storm costs and insurance: the filing cited approximately $426 million of total restoration costs in the Sandy insurance litigation, including $364 million for Power and $62 million for PSE&G. PSEG had recorded $50 million of insurance advances; the timing and amount of additional recovery were uncertain, and litigation over policy terms was ongoing.
- Leveraged leases: Energy Holdings’ coal-plant lease exposures involve financially distressed counterparties. Edison Mission and Midwest Generation were in bankruptcy; a proposed NRG acquisition agreement contemplated assumption of the Powerton and Joliet leases, but required approvals and was not assured. Failure to recover value could result in asset write-offs and significant cash tax liabilities.
- Subsequent regulatory development: after quarter-end, a federal court ruled the New Jersey LCAPP law and related capacity agreements void; appeal remained possible. A Maryland court also invalidated a state generation subsidy, subject to possible appeal.
- PSEG sold commercial real-estate investments in June for $41 million, recording a $6 million after-tax gain. Nine-month other-than-temporary impairments were $7 million. Management stated disclosure controls were effective at a reasonable assurance level and reported no material third-quarter change in internal control over financial reporting.
Important facts for investors to verify
- Whether the proposed Energy Strong investments, associated cost recovery, and the planned transmission investment receive regulatory approval on acceptable terms.
- Actual insurance proceeds and regulatory recovery of Superstorm Sandy restoration costs, and the final resolution of the related litigation.
- Developments in Passaic River, manufactured-gas-plant, cooling-water, air-emissions, and other environmental matters, including potential costs not estimable by the company.
- Whether the proposed NRG transaction closes and the impact on Energy Holdings’ Midwest coal-plant lease receivables, collateral, and tax exposure.
- Whether the LCAPP and Maryland subsidy rulings withstand appeal, and the resulting effects on capacity-market prices and PSE&G’s recorded derivative and regulatory balances.
- Power’s exposure to wholesale market prices, fuel costs, generation volumes, counterparties, and collateral calls, alongside the sustainability of cash generation, capital spending, debt levels, and dividends.