Otter Tail Corporation — FY2017 Form 10-K
Business context and reporting period. This annual report covers the year ended December 31, 2017; it is not a standalone quarterly filing. Otter Tail operates Electric, Manufacturing and Plastics businesses, with the regulated Otter Tail Power Company serving customers in Minnesota, North Dakota and South Dakota. The filing also reports unaudited fourth-quarter results.
Financial performance
| Metric | FY2017 | FY2016 |
|---|---|---|
| Operating revenue | $849.4 million | $803.5 million |
| Operating income | $126.1 million | $111.1 million |
| Net income from continuing operations | $72.1 million | $62.0 million |
| Total net income | $72.4 million | $62.3 million |
| Diluted EPS, continuing operations | $1.81 | $1.60 |
| Operating cash flow, continuing operations | $173.6 million | $163.5 million |
| Capital expenditures | $132.9 million | $161.3 million |
| Long-term debt, net | $490.4 million | $505.3 million |
Revenue rose 5.7%; operating income rose 13.5%; continuing net income rose 16.3%. Approximate operating margin increased to 14.9% from 13.8%, and continuing net margin to 8.5% from 7.7%. Operating cash flow less capital expenditures was approximately $40.7 million. Dividends declared were $1.28 per share, with a 70% payout ratio.
Segment results: Electric revenue was $434.5 million and net income was $49.4 million, down slightly from 2016. Manufacturing revenue was $229.7 million and net income was $11.1 million, up from $5.7 million. Plastics revenue was $185.1 million and net income was $21.7 million, up from $10.6 million.
Fourth quarter: Revenue was $206.7 million versus $196.6 million in Q4 2016; operating income was $32.1 million versus $29.2 million. Continuing net income was $18.1 million versus $17.4 million; total net income was $18.3 million versus $17.5 million. Diluted EPS was $0.46, including $0.45 from continuing operations, compared with $0.44 and $0.44, respectively, in Q4 2016.
Liquidity, debt and capital
At year-end, cash was $16.2 million, current assets were $239.1 million and current liabilities were $256.7 million. Short-term borrowings were $112.4 million, up from $42.9 million; $187.3 million remained available on the company’s and utility’s combined $300 million revolving facilities. Total short- and long-term debt, including current maturities, was approximately $602.9 million. The company reported compliance with debt covenants; debt-to-capitalization ratios were 0.46 for the consolidated company and 0.49 for OTP.
2017 capital spending was lower primarily because the Big Stone South–Brookings transmission project was energized. Management estimates $973 million of capital expenditures for 2018–2022, including $302 million for renewable generation, $161 million for natural-gas generation and $136 million for technology and infrastructure. The utility’s average rate base is projected to grow at a 9% compound annual rate from 2017 to 2022.
Material changes, outlook and risks
- Drivers of growth: Plastics revenue increased 19.5%, supported by 7.2% higher sales volume and 11.5% higher prices. Gulf Coast hurricane-related supply concerns contributed an estimated $12.5 million to Plastics revenue and $3.4 million to segment net income. Manufacturing benefited from stronger recreational, lawn-and-garden, life-science and horticultural sales.
- Electric utility: Revenue increased 1.7%, while net income declined 0.8%, reflecting higher fuel, purchased-power and property-tax costs. Minnesota’s 2016 rate case produced final annualized revenue increases of $10.5 million, below the $16.8 million interim amount; a $9.0 million interim-rate refund was credited to customers in late 2017. OTP’s North Dakota rate case received interim approval for a $12.8 million annual increase effective January 2018; final rates remain subject to regulatory action.
- Tax reform: The Tax Cuts and Jobs Act reduced the federal corporate tax rate from 35% to 21%. Remeasurement of deferred taxes resulted in a provisional, noncash $1.8 million income-tax expense in 2017. Regulators were assessing how the lower tax rate should affect utility rates, including potential refunds or adjustments.
- Guidance: Management forecast 2018 diluted EPS of $1.80–$1.95. It expected Electric and Manufacturing earnings to increase, while Plastics earnings were expected to decline from the hurricane-influenced 2017 level and face lower expected selling prices and higher resin costs. Management’s longer-term objective is annual EPS growth of 4%–7%, using 2017 continuing-operations diluted EPS as the base.
- Key exposures and contingencies: Utility earnings depend on regulatory decisions, cost recovery, weather, fuel and purchased-power prices, plant availability and transmission returns. The company faces environmental compliance and potential carbon-regulation costs; Hoot Lake is planned for retirement in 2021. Two vendors supplied all PVC resin purchases in 2017, and a small number of customers accounted for substantial Manufacturing and Plastics segment revenue. A pending MISO Revenue Sufficiency Guarantee appeal could create an exposure that the company could not estimate. OTP also reported a $1.6 million MISO transmission-return refund liability. The company stated that other pending legal matters were not expected to have a material effect.
Investor facts to verify
- Track the final North Dakota rate-case outcome and regulatory treatment of tax-reform savings, including any customer refunds.
- Test the 2018 EPS guidance against Plastics pricing and resin costs, Manufacturing margins and utility operating expenses.
- Monitor funding and execution of the $973 million five-year capital program, including the Merricourt wind project and planned Astoria gas facility.
- Review developments in the MISO refund and Revenue Sufficiency Guarantee proceedings; the latter’s potential exposure was not estimable in the filing.
- Assess customer concentration, PVC resin supplier concentration, and the $112.4 million of year-end variable-rate short-term debt. The independent auditor issued an unmodified opinion and reported effective internal control over financial reporting.