Otter Tail Corporation — Q2 2011 Form 10-Q
Reporting period: Three and six months ended June 30, 2011. Unaudited consolidated results. The company operates electric utility and diversified nonelectric businesses.
Financial performance
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Operating revenue | $317.0m | $251.3m | $598.3m | $494.3m |
| Operating income (loss) | $14.6m | $(15.2)m | $30.5m | $(1.0)m |
| Continuing-operations net income (loss) | $6.0m | $(16.3)m | $11.6m | $(12.8)m |
| Total net income (loss) | $18.8m | $(14.2)m | $24.5m | $(9.5)m |
| Diluted EPS, continuing operations | $0.16 | $(0.46) | $0.31 | $(0.37) |
| Diluted EPS, total | $0.51 | $(0.40) | $0.66 | $(0.28) |
Operating margin was approximately 4.6% in Q2 and 5.1% for the first half, versus losses in the comparable 2010 periods. Total net income includes discontinued operations and the gain on the sale of Idaho Pacific Holdings (IPH); continuing results are a clearer indicator of ongoing operations.
Six-month cash from operating activities was $40.7m, down from $49.4m; continuing-operations operating cash flow was $40.7m versus $49.8m. Capital expenditures were $48.1m, compared with $38.6m. Cash from investing activities was $33.3m, including $84.4m net sale proceeds from discontinued operations. Financing activities used $73.7m, principally reflecting repayment of short-term borrowings. Cash and cash equivalents were zero at June 30.
At June 30, short-term debt was $30.4m, current maturities of long-term debt $3.3m, and long-term debt net of current maturities $433.7m. Total short- and long-term debt including current maturities was $469.8m. Credit facilities totaled $370m, with $334.6m available after borrowings and letters-of-credit restrictions. Total assets were $1.71bn. Common dividends remained $0.2975 per share quarterly; management said the payout ratio had exceeded 100% in each of the prior three years.
Changes and operating drivers
- Revenue rose 26% in Q2 and 21% for the first half, largely from higher nonelectric sales. Growth came from wind tower production, manufacturing, construction and PVC pipe; electric revenue was nearly flat.
- Wind Energy remained loss-making: operating losses were $6.7m in Q2 and $12.7m for the first half, versus $2.7m and $0.8m, respectively, in 2010. DMI cited rework, underutilized capacity, quality-control spending and steel-supply issues.
- Manufacturing returned to operating income, partly because the prior-year periods included a $19.7m asset impairment charge. Construction and Plastics also improved. Health Services revenue declined, although lower equipment rental costs supported operating income.
- IPH was sold May 6, 2011 for approximately $87m cash; the sale generated a $16.8m pretax gain and $13.3m after-tax gain. Proceeds, net of escrow, were used to reduce borrowings. Wylie exited its wind-heavy-haul business, reported as discontinued operations.
Outlook, risks and unusual items
- Management lowered 2011 EPS guidance to $0.42–$0.94 from continuing operations and $0.72–$1.30 including discontinued operations, the IPH sale gain and Wylie wind-heavy-haul results. The wind segment outlook worsened; management cited softer tower demand, expected lower production, pricing pressure, and possible warranty, remediation or liquidated-damages exposure. Wind Energy backlog was $82m.
- Management forecast electric-segment capital expenditures of $67m in 2011, $130m in 2012 and $219m in 2013, including transmission and environmental work. Estimated Big Stone air-quality-control project cost was $490m, of which OTP’s share was $264m; regulatory prudence reviews were pending.
- Minnesota’s rate-case order authorized about $5m, or 3.76%, in base-rate revenue increases, while changes to recovery mechanisms implied an overall customer increase of about 1.6%. OTP accrued an estimated $3.9m interim-rate refund, expected to be distributed in Q4 2011.
- On July 29, 2011, OTP agreed to issue $140m of 4.63% senior notes due 2021, expected to close December 1, subject to conditions. Proceeds are intended partly to refinance $90m of 6.63% notes due December 2011 and $10.4m of bonds due 2012.
- Key exposures include wind-tower quality and warranty claims (warranty reserve $3.0m), contract execution and customer concentration (one DMI customer represented 11.7% of first-half consolidated revenue), environmental regulation, fuel and material costs, and capital-market access. The filing states potential losses across certain contingencies could reach $9m. OTP also reported a dispute concerning the Bemidji transmission project; a preliminary injunction was issued in June.
Investor verification priorities
- Reconcile reported total EPS and earnings to continuing operations, the IPH disposal gain, and discontinued-business losses.
- Track DMI production, margins, backlog, customer concentration, and any warranty, remediation or liquidated-damages developments.
- Verify the closing and use of proceeds for OTP’s planned $140m note issuance and monitor debt covenant headroom; the company reported compliance, but some coverage ratios were relatively close to minimums.
- Monitor the Big Stone environmental project’s final cost, OTP’s share, regulatory approvals and recoverability through rates.
- Assess whether operating cash flow, planned utility investment and earnings growth can support the dividend and forecast capital expenditures; management noted the historical payout ratio exceeded 100%.