AES Corporation — Q3 2015 Form 10-Q Summary
Business context and reporting period
AES is a diversified global power generation and utility company operating through six strategic business units: US, Andes, Brazil, MCAC, Europe and Asia. This unaudited Form 10-Q covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods.
Management’s priorities were to reduce portfolio complexity, expand existing platforms, improve operating performance, access capital through strategic partnerships and allocate capital toward shareholder returns and growth. AES reported 5,782 MW under construction, representing approximately $7 billion of expected capital expenditures.
Financial performance and key metrics
| Metric | Q3 2015 | Q3 2014 | 9M 2015 | 9M 2014 |
|---|---|---|---|---|
| Revenue | $3.721 billion | $4.441 billion | $11.563 billion | $13.014 billion |
| Operating margin | $673 million | $767 million | $2.148 billion | $2.380 billion |
| Income from continuing operations | $203 million | $508 million | $721 million | $878 million |
| Net income attributable to AES | $180 million | $488 million | $391 million | $563 million |
| Diluted EPS from continuing operations | $0.26 | $0.67 | $0.56 | $0.81 |
| Adjusted EPS | $0.39 | $0.37 | $0.88 | $0.89 |
| Cash flow from operations | $915 million | $763 million | $1.505 billion | $1.216 billion |
| Proportional free cash flow | $621 million | $427 million | $948 million | $604 million |
Q3 revenue declined 16%, while operating margin declined 12%. Nine-month revenue declined 11% and operating margin declined 10%. Management attributed approximately $789 million of the Q3 revenue decline and $1.8 billion of the nine-month decline to unfavorable foreign exchange effects.
Reported earnings were materially affected by nonrecurring and unusual items. Q3 included $231 million of asset impairment expense, principally $118 million at Buffalo Gap III and $113 million at Kilroot, compared with $15 million in Q3 2014. The prior-year quarter included approximately $362 million of gains on disposals and investment sales, primarily the Masinloc transaction and UK Wind sales.
Interest expense was $388 million in Q3 and $1.061 billion for the first nine months, down modestly from the comparable periods. Interest income increased to $150 million in Q3 and $373 million for nine months, primarily due to the Mong Duong service-concession financing element, Brazilian regulatory assets and Argentine receivables.
Liquidity, debt and capital allocation
- September 30 unrestricted cash and cash equivalents were $1.437 billion; short-term investments were $453 million; restricted cash and debt-service reserves totaled approximately $680 million.
- Recourse debt was $5.107 billion and non-recourse debt was approximately $15.6 billion. No recourse debt matured within the following 12 months.
- Parent Company liquidity was $631 million, consisting of $6 million of Parent and qualified holding-company cash and $625 million of available borrowings under Parent credit facilities.
- Approximately $2.3 billion of non-recourse debt was classified as current, including approximately $1.1 billion associated with covenant or other technical defaults at Maritza, Sul, Kavarna and Altai. These were not payment defaults, and management stated that none triggered or was at risk of triggering a Parent cross-default as of September 30, 2015.
- Capital expenditures were $1.687 billion for the first nine months, up from $1.389 billion. Growth capital expenditures were $1.091 billion and maintenance and environmental capital expenditures were $596 million.
- AES repurchased approximately 8.4 million shares for $101 million during Q3 and 32 million shares for approximately $407 million during the first nine months. The quarterly dividend was increased to $0.10 per share from $0.05 in the comparable 2014 quarter.
- In April 2015, AES issued $575 million of 5.50% senior notes due 2025 and used proceeds to refinance or redeem higher-cost debt. The company recognized $165 million of debt-extinguishment losses in the first nine months.
Material changes versus the prior comparable period
- Reported Q3 net income attributable to AES fell 63% to $180 million, and diluted continuing-operations EPS fell 61% to $0.26. Adjusted EPS increased 5% to $0.39, reflecting higher Guacolda equity earnings, fewer shares outstanding and lower Parent interest expense, partly offset by currency devaluation.
- Nine-month adjusted EPS was broadly stable at $0.88 versus $0.89, despite lower operating contributions and foreign-exchange pressure.
- Operating performance weakened in the US, Andes, MCAC and Europe, while Brazil’s Q3 operating margin improved but remained lower for the nine-month period. Asia improved due to Mong Duong’s commencement of principal operations and stronger Masinloc performance.
- Net equity earnings from affiliates increased to $82 million in Q3 and $97 million for nine months, primarily due to a $66 million Guacolda restructuring benefit.
- Cash flow from operations improved 20% in Q3 and 24% for nine months, while investing cash use increased substantially because of higher capital spending and lower asset-sale proceeds than in 2014.
- AES adopted service-concession accounting prospectively effective January 1, 2015, reclassifying approximately $1.5 billion from property, plant and equipment to service-concession assets and reducing retained earnings by $18 million net of tax, with a $13 million cumulative translation adjustment.
- IPALCO was partially sold to CDPQ. CDPQ’s investment reached a 24.90% interest during 2015, with a commitment to reach 30% after an additional $135 million investment.
Guidance, outlook, commentary and risks
The filing does not provide a specific quantitative full-year earnings or revenue guidance range. Management expects improved operating performance, new businesses and cost-reduction initiatives to offset continuing currency, commodity, hydrology, regulatory and macroeconomic pressures.
- Operating trends: Generation commercial availability declined to 89.1% from 91.2%; equivalent forced outage factor increased to 3.7% from 3.5%; and heat rate deteriorated to 10,082 BTU/kWh from 9,828. Utility SAIFI and non-technical losses improved, while SAIDI worsened.
- Hydrology and market exposure: Dry conditions in Brazil, Panama, Chile and Colombia could reduce hydro generation and require costly spot-market purchases. Management expected El Niño conditions to continue through spring 2016, with uncertain effects by geography.
- Brazil: Economic weakness, lower demand, high energy costs, regulatory assets and covenant issues at AES Sul could require waivers, restructuring, additional equity or create debt-acceleration risk.
- Argentina: Approximately $343 million of long-term financing receivables, principally from Argentina, remain exposed to collection, regulatory, economic and currency risks.
- Bulgaria: Maritza had $333 million of outstanding receivables, including $287 million overdue. The proposed PPA amendment depended on NEK paying overdue amounts, and failure to resolve the matter could require support, restructuring or asset write-downs.
- Puerto Rico: PREPA’s financial restructuring remained unresolved. AES Puerto Rico receivables were $83 million, including $28 million overdue but subsequently collected.
- Regulation and environmental matters: Potential impacts from the Clean Power Plan, coal-combustion-residual rules, water-discharge rules, ozone standards, MATS and other environmental requirements could be material but were not yet estimable.
- Contingencies: Accrued litigation liabilities were approximately $184 million. The estimated range of reasonably possible losses for material contingencies was $1.0 billion to $1.3 billion, excluding accrued amounts. Parent guarantees and commitments totaled approximately $482 million.
- Impairments: Further impairments could result from weaker power prices, regulatory changes, adverse fuel or hydrology conditions, lower demand, competition or asset-disposition decisions.
Most important facts for investors to verify
- Reconcile GAAP EPS of $0.26 with adjusted EPS of $0.39 and assess the sustainability of the underlying operating earnings.
- Review the $231 million Q3 impairments at Kilroot and Buffalo Gap III and test whether additional impairment indicators exist.
- Assess the liquidity and refinancing implications of $1.1 billion of non-recourse debt in technical default and $2.3 billion of current non-recourse debt.
- Evaluate Parent Company liquidity of $631 million against dividends, share repurchases, debt service, guarantees and construction commitments.
- Monitor Maritza overdue receivables, AES Sul covenant waivers, Brazilian regulatory matters and PREPA exposure.
- Analyze the effect of foreign exchange, hydrology, power prices and commodity costs on margins and cash flow.
- Review the estimated $1.0 billion to $1.3 billion range of reasonably possible material contingencies and the unresolved Eletropaulo, tax, environmental and arbitration matters.
- Confirm subsequent events, including the additional share repurchases, expanded $2.1 billion repurchase authorization, Solar Italy sale and fourth-quarter gain expectations.