Business context and reporting period
Pinnacle West Capital Corporation filed this combined Form 10-K for the fiscal year ended December 31, 2010; it is an annual report, not a standalone fourth-quarter filing. Pinnacle West is a holding company whose results largely reflect Arizona Public Service Company (APS), its regulated electric utility, serving approximately 1.1 million customers in Arizona. Amounts below are in U.S. dollars; figures are identified as Pinnacle West consolidated or APS where relevant.
Financial performance and position
| Metric | FY 2010 | FY 2009 | Change / context |
|---|---|---|---|
| Pinnacle West revenue | $3.264 billion | $3.176 billion | Up 2.8% |
| Pinnacle West operating income | $723.9 million | $610.2 million | Up 18.6%; operating margin approximately 22.2% versus 19.2% |
| Pinnacle West net income attributable to common shareholders | $350.1 million | $68.3 million | Basic EPS $3.28 versus $0.68; diluted EPS $3.27 versus $0.67 |
| Income from continuing operations attributable to common shareholders | $330.4 million | $233.3 million | Basic EPS $3.10 versus $2.31 |
| APS electric revenue | $3.181 billion | $3.150 billion | Up 1.0% |
| APS operating income | $549.0 million | $469.8 million | Operating margin approximately 17.3% versus 14.9% |
| APS net income attributable to common shareholder | $335.7 million | $251.2 million | Up approximately 33.6% |
| Pinnacle West operating cash flow | $750.5 million | $1.067 billion | Down about $317 million |
FY 2010 Pinnacle West investing cash flow was negative $575.9 million and financing cash flow negative $209.7 million; cash and equivalents declined $35.2 million to $110.2 million. APS generated $695.3 million in operating cash flow and used $748.0 million for capital expenditures.
At year-end, Pinnacle West reported $12.363 billion in assets, $3.678 billion in total long-term debt including current maturities, $16.6 million in short-term borrowings, and $3.775 billion in equity. Its debt-to-capitalization ratio was approximately 49%; APS’s was 46%. Pinnacle West and APS reported $1.152 billion of unused credit capacity across their facilities, subject to facility terms and existing credit support. APS’s common-equity ratio was 53%, above the 40% minimum in its ACC financing order.
Pinnacle West declared dividends of $2.10 per share for 2010, unchanged from 2009. The quarterly dividend was $0.525 per share.
Fourth-quarter snapshot
Pinnacle West reported fourth-quarter 2010 revenue of $683.6 million and net income attributable to common shareholders of $7.4 million, or $0.07 per basic and diluted share. In fourth-quarter 2009, revenue was $660.9 million and the common-shareholder net loss was $30.2 million, or $0.30 per share. APS’s fourth-quarter 2010 revenue was $653.6 million and net income attributable to its common shareholder was $7.8 million. Utility earnings were seasonal, with the strongest results generally occurring in the summer quarter.
Material changes versus the prior comparable period
- Pinnacle West’s common-shareholder net income rose by $281.7 million year over year. Management attributed the improvement primarily to substantially lower SunCor real-estate impairment charges; the 2010 result also included a $25 million after-tax gain from APSES’s district-cooling business sale.
- APS’s regulated electricity segment net income increased approximately $82 million. Retail rate increases effective January 1, 2010 contributed to higher revenues, while fuel and purchased-power costs fell to $1.047 billion from $1.179 billion.
- Weather-adjusted retail electricity sales declined 1.0% in 2010, reflecting weak economic conditions and energy-efficiency programs. Customer growth was 0.6%.
- Operating cash flow declined, principally due to approximately $200 million of voluntary pension contributions, changes in commodity collateral and margin cash, and working-capital movements.
- In April 2010 Pinnacle West issued 6.9 million shares, generating approximately $253 million net proceeds, which were contributed to APS. APS’s long-term debt less current maturities decreased to $2.949 billion from $3.180 billion.
Outlook, management commentary, risks and unusual items
- Management estimated average APS customer growth of approximately 1.7% annually for 2011–2013 and weather-adjusted retail electricity sales to remain flat on average. These are operating estimates, not earnings guidance; the filing does not provide a specific earnings forecast.
- APS expected capital expenditures of $961 million in 2011, $1.334 billion in 2012 and $962 million in 2013. The 2012 estimate includes a proposed $294 million purchase of Southern California Edison’s interests in Four Corners Units 4 and 5, subject to approvals and closing conditions. APS said it would close Units 1–3 if the purchase is completed.
- APS planned a June 2011 retail rate-case filing. Its 2009 settlement included an authorized 11% return on equity, expense-reduction commitments and at least $700 million of equity infusions through 2014; $253 million had been contributed by year-end 2010.
- Environmental compliance is a significant uncertainty. EPA proposals for Four Corners could require APS to incur up to approximately $400 million for nitrogen-oxide controls and $220 million for particulate controls under the scenario described in the filing. Requirements and costs depend on final rules and the proposed plant transaction. Additional coal-plant rules, including mercury standards, may require further investment.
- Other material risks include recovery of costs through regulated rates, economic and weather-driven demand, fuel and purchased-power costs, drought and water availability, plant outages, renewable-energy obligations, nuclear safety and spent-fuel disposal, and renewal of leases and rights-of-way on tribal lands. APS reported the DOE spent-fuel litigation produced a $30.2 million damages award to Palo Verde participants in 2010, but broader federal repository and spent-fuel obligations remained unresolved.
- SunCor continued winding down its real-estate business; it had $16 million of assets and no debt at year-end. Potential warranty, construction and local-district funding claims remain a risk. The filing also reported a $1 million reserve for investigation costs at the Motorola 52nd Street Superfund site; total remediation costs were not yet estimable.
- Effective January 1, 2010, amended variable-interest-entity accounting required consolidation of Palo Verde sale-leaseback trusts. The change added related plant assets and debt to the balance sheet; management said it did not change Pinnacle West shareholder net income or net cash flows.
Important facts for investors to verify
- Review the audited financial statements and notes for the source and sustainability of the sharp increase in reported net income, particularly SunCor impairment changes and the APSES sale gain.
- Track the June 2011 rate-case filing, rate recovery, and fulfillment of the settlement’s required APS equity infusions.
- Confirm the status, approvals, purchase price and cost-recovery treatment of the Four Corners transaction, including final emissions requirements and plant closure plans.
- Assess whether the 2011–2013 capital plan, pension funding needs and debt maturities can be met while maintaining liquidity and credit ratings.
- Monitor weather-adjusted sales, customer growth, fuel-cost recovery, renewable and efficiency program costs, and unresolved environmental, water and spent-nuclear-fuel matters.