FirstEnergy Corp. — Q3 2009 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2009; comparisons are with the corresponding 2008 periods unless noted. The combined filing also reports for FirstEnergy Solutions and several regulated utility subsidiaries. Financial statements are unaudited and were reviewed, not audited, by PricewaterhouseCoopers.
Business context and financial performance
FirstEnergy operates regulated electric transmission and distribution businesses and competitive generation and energy-supply businesses. It served 4.5 million customers across Ohio, Pennsylvania and New Jersey. The recession, weaker industrial demand and milder summer weather weighed on electricity sales; regulatory changes altered generation procurement and cost recovery.
| FirstEnergy consolidated | Q3 2009 | Q3 2008 | Nine months 2009 | Nine months 2008 |
|---|---|---|---|---|
| Revenue | $3.408bn | $3.904bn | $10.013bn | $10.426bn |
| Operating income | $487m | $846m | $1.636bn | $2.046bn |
| Net income | $230m | $471m | $754m | $1.011bn |
| Earnings available to FirstEnergy | $234m | $471m | $768m | $1.010bn |
| Basic EPS | $0.77 | $1.55 | $2.52 | $3.32 |
| Diluted EPS | $0.77 | $1.54 | $2.51 | $3.29 |
Operating margin was approximately 14.3% in Q3 2009 versus 21.7% in Q3 2008, and 16.3% for the first nine months versus 19.6%. Revenue fell 13% in Q3 and 4% year to date. Q3 earnings available fell by $237m; year-to-date earnings available fell by $242m.
- Q3 drivers: Energy delivery services earnings fell $144m to $139m, primarily on lower revenue and reduced deferrals of new regulatory assets. Competitive energy services earnings rose $19m to $183m, mainly reflecting investment income, partly offset by lower gross sales margins. Ohio transitional generation earnings fell $10m to $9m.
- Nine-month drivers: Energy delivery services earnings declined $425m to $230m. Competitive energy services earnings increased $297m to $614m, including a $252m pre-tax gain from selling a 9% OVEC participation interest and higher investment income. Ohio transitional generation earnings declined $7m to $55m.
- Electric distribution deliveries fell 9.8% in Q3 and 8.6% year to date. Industrial deliveries were especially weak. Lower purchased-power and fuel costs helped offset part of the pressure on earnings.
Cash flow, debt and liquidity
- For the first nine months, operating cash flow was $1.464bn, compared with $1.431bn in 2008. It included a $500m pension contribution; before that contribution, cash flow would have been higher. Investing cash outflow was $1.788bn, including $1.575bn of property additions. Financing cash inflow was $617m. Cash and cash equivalents ended September at $838m, up from $545m at year-end 2008.
- At September 30, current assets were $3.770bn and current liabilities $5.736bn, a working-capital deficit of approximately $1.966bn. Management attributed the deficit principally to short-term borrowings and variable-rate pollution-control bonds classified as currently payable.
- Balance-sheet debt-related amounts included $2.020bn of currently payable long-term debt, $1.653bn of short-term borrowings and $11.647bn of long-term debt and other long-term obligations. These categories total approximately $15.320bn, compared with approximately $13.973bn at December 31, 2008.
- As of October 30, available liquidity was reported at $2.408bn: $1.660bn of available facilities and $748m of cash. The $2.75bn revolving facility expires in August 2012; $550m of receivables facilities also support working-capital needs. Management said available sources were expected to remain sufficient.
- The revolving-credit covenant limits debt to total capitalization to 65%; FirstEnergy reported 61.6% at September 30. FirstEnergy’s short-term borrowings were approximately $1.7bn, and approximately $2.0bn of debt was classified as currently payable.
Material changes, outlook and unusual items
- FirstEnergy’s Q3 results included a $0.30-per-share loss from redeeming $1.2bn of 6.45% notes, including a $122m cash premium and redemption expense. A $0.25-per-share benefit from investment income, primarily related to nuclear decommissioning trust securities, partly offset the effect. Nine-month EPS also benefited from the $252m OVEC sale gain.
- CEI reported a $32m net loss for the first nine months, versus $219m income in 2008. Its results included $228m of regulatory charges associated with its electric security plan, including impairment of regulatory assets.
- The Ohio PUCO approved accelerated recovery of $305.1m of deferred distribution costs beginning September 2009, with collection scheduled over 18 non-summer months through May 2011. Ohio’s May 2009 generation auction set a weighted average wholesale price of 6.15 cents per kWh for service through May 2011. A separate procurement proposal for service beginning June 2011 remained pending.
- On November 3, 2009, FES and Pennsylvania utility affiliates agreed that FES would supply essentially all of Met-Ed’s and Penelec’s energy requirements in 2010, subject to the agreement’s terms. FES also agreed to reimburse specified congestion expenses above agreed thresholds. This post-quarter agreement creates exposure to power-supply performance and congestion costs.
- FirstEnergy forecast approximately $8.0bn of capital spending for 2009–2013, excluding nuclear fuel, and approximately $800m of environmental-compliance capital expenditures over that period. It expected about $410m of property additions and capital-lease requirements, plus $164m of debt maturities, in the final quarter of 2009. No consolidated EPS guidance is stated in the provided filing text.
- Regulatory and market risks include unresolved Ohio energy-efficiency benchmarks and possible PUCO forfeitures; Pennsylvania transmission and procurement proceedings; and the proposed transfer of ATSI transmission assets from MISO to PJM, subject to FERC approval and potentially material costs or delay.
- Environmental exposures include Clean Air Act litigation and investigations, uncertain future rules on greenhouse gases, mercury, coal ash and cooling-water intakes, and estimated compliance spending. Accrued environmental liabilities were approximately $104m. FirstEnergy also disclosed various legal proceedings and guarantees; potential outcomes and total future costs are uncertain.
- The NRC had identified a tentative $147.5m present-value decommissioning funding shortfall for Beaver Valley Unit 1 and requested further information on FirstEnergy’s methodology. The NRC renewed the Beaver Valley units’ operating licenses in November 2009; the company expected renewal to help mitigate the estimated shortfall, but further funding actions could be required.
- A $500m voluntary pension contribution and related remeasurement reduced accumulated other comprehensive income by approximately $494m before tax ($304m net of tax). A voluntary retirement program was accepted by 715 employees and generated a $13m Q3 postretirement-benefit cost. The pension plan remained underfunded after the contribution and remeasurement.
Most important facts for investors to verify
- Whether regulated-rate recovery and regulatory-asset accounting—including CEI’s charges and Ohio’s accelerated collections—proceed as expected.
- How weak demand, customer deliveries, generation margins and power-procurement prices develop, particularly under the 2010 FES-Pennsylvania supply agreement.
- Debt maturities, variable-rate pollution-control bonds, collateral requirements and access to the revolving and receivables facilities; the working-capital deficit and covenant headroom merit monitoring.
- Final regulatory outcomes and costs for environmental compliance, the Beaver Valley decommissioning funding review, and other material legal and reliability proceedings.
- Whether the planned capital program and pension funding needs can be met while sustaining the dividend; dividends declared were $1.10 per share in Q3 and $1.65 per share for the first nine months.