SOUTHERN CO quarterly report, Q2 FY2014

Southern Company — Q2 2014 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2014; unaudited. The combined filing covers Southern Company and its operating subsidiaries. Amounts below are for the consolidated parent unless noted.

Financial performance and liquidity

Metric	Q2 2014	Q2 2013	Six months 2014	Six months 2013
Operating revenue	$4.467B	$4.246B	$9.111B	$8.143B
Operating income	$1.103B	$640M	$1.803B	$965M
Net income after subsidiary preferred dividends	$611M	$297M	$962M	$378M
Diluted EPS	$0.68	$0.34	$1.07	$0.43

• Q2 operating margin was approximately 24.7%, versus 15.1% a year earlier; six-month margin was approximately 19.8%, versus 11.9%. The comparison is substantially affected by the Kemper loss charges recorded in 2013.
• Six-month operating cash flow was $2.070B, compared with $1.947B. Investing cash flow was negative $2.769B, mainly reflecting utility property additions; financing cash flow was positive $623M. Cash ended the period at $583M.
• At June 30, total assets were $66.4B, long-term debt was $22.121B, notes payable were $1.817B, and securities due within one year were $585M. Current liabilities of $5.974B exceeded current assets of $5.376B. Unused committed bank credit totaled approximately $5.183B.
• System construction spending was estimated at $6.9B for 2014, $5.6B for 2015, and $4.5B for 2016. The common dividend was $0.525 per share for Q2, up from $0.5075.

Material changes and management commentary

• Revenue rose 5.2% in Q2 and 11.9% year to date. Management attributed growth to retail rate increases, weather, fuel-cost recovery, and wholesale sales. Weather-adjusted industrial sales increased; residential and commercial trends varied by subsidiary.
• Net income growth primarily reflects the absence of the 2013 Kemper IGCC charges: a $450M pre-tax charge in Q2 2013. In Q1 2014, Southern recorded a $380M pre-tax Kemper charge ($235M after tax); first-half 2013 charges totaled $990M pre-tax. No Kemper loss charge was recorded in Q2 2014.
• Fuel and purchased-power costs rose with higher generation, demand, and natural-gas prices. For regulated utilities, these costs are generally recovered through fuel clauses and typically do not materially affect earnings, though recovery timing affects cash flow. O&M expense increased $72M in Q2 and $84M year to date.
• Southern Power’s net income attributable to the company increased to $30.8M for Q2 from $27.9M, and to $64.3M for the half-year from $57.1M. It acquired two solar facilities, approximately 20 MW and 50 MW, each with a 20-year power purchase agreement.

Outlook, projects, risks, and unusual items

• Kemper IGCC is the principal risk. Mississippi Power’s estimated total project cost was $5.56B, including exclusions and other categories; the cost estimate for the plant subject to the cost cap was $4.44B against a $2.88B cap, net of DOE grants and excluding specified exceptions. Mississippi Power said it would not seek recovery or joint-owner contributions for costs above the cap, apart from potentially recoverable exceptions subject to review. Further in-service delays were estimated to add about $20M per month.
• The gasification portion of Kemper was expected in service in Q2 2015; the combined-cycle and common-facilities portion was expected in summer 2014. The estimate included costs through May 31, 2015. Southern reported $925M of non-recoverable cash expenditures incurred through June 30 and expected approximately $635M more through completion. Cost recovery, prudence, schedule, and project performance remained uncertain.
• Georgia Power’s Plant Vogtle Units 3 and 4 remained under construction, with estimated in-service dates of Q4 2017 and Q4 2018. Contractor litigation and potential additional cost claims remained unresolved; the contractor’s initial claim attributable to Georgia Power was approximately $425M, with newer claims unspecified.
• After quarter-end, Mississippi Power entered an August 1 settlement with the Sierra Club, including $15M of grants over five years and a $2M conservation contribution, plus commitments to convert or retire certain generating units on stated deadlines. The settlement also called for withdrawal of specified challenges; related motions and outcomes were not all final at filing.
• Environmental regulation could require additional capital or operating costs. The filing discusses proposed EPA carbon-emissions rules, water regulations, and the reinstatement process for CSAPR; ultimate requirements, costs, and recovery were uncertain. Management warned that unrecovered compliance or construction costs could affect earnings, cash flow, and financial condition.
• No specific consolidated earnings or EPS guidance is provided in the supplied filing text. Management said results are affected by weather, demand, fuel costs, regulation, project execution, and timely recovery of prudent costs. It described Southern’s financial condition as stable at June 30, 2014.

Most important facts for investors to verify

• Progress, final cost, commissioning, and rate recovery for Kemper, including the distinction between capped costs and cost-cap exceptions.
• Whether Kemper achieves its stated schedule and qualifies for anticipated tax benefits, grants, and the proposed SMEPA ownership sale.
• Vogtle construction timing, final costs, regulatory approvals, and resolution of contractor claims and litigation.
• Recovery timing for under-recovered fuel costs, particularly Georgia Power’s $244M balance, and the impact on utility cash flows.
• Actual construction spending, debt and liquidity needs, and the ability to recover environmental and capital costs through rates.