YORK WATER CO quarterly report, Q3 FY2017

The York Water Company: 2017 Third-Quarter Form 10-Q Summary

Business Context and Reporting Period

The York Water Company provides regulated water service across York and Adams Counties, Pennsylvania, and operates wastewater collection and treatment systems. The filing covers the three and nine months ended September 30, 2017; financial statements are unaudited and amounts are in thousands except per-share data.

The company added approximately 80 water customers through the Stockham’s Village acquisition and approximately 1,700 wastewater customers through its West York Borough acquisition. These acquisitions were immaterial to total results but contributed to 2017 revenue growth.

Financial Performance and Position

Metric	Q3 2017	Q3 2016	9M 2017	9M 2016
Operating revenues	$12,692	$12,601	$36,236	$35,699
Operating income	$6,147	$6,414	$16,533	$17,323
Net income	$3,931	$3,571	$9,447	$8,904
Diluted EPS	$0.31	$0.27	$0.74	$0.69
Operating cash flow	Not separately provided	Not separately provided	$15,416	$14,016
Cash and equivalents	$2 at Sept. 30	$6,199 at Sept. 30, 2016

Operating margin was approximately 48.4% in Q3 2017 versus 50.9% in Q3 2016, and approximately 45.6% for the first nine months versus 48.5% in the prior-year period. Net margin was approximately 31.0% in Q3 versus 28.3% and 26.1% for the nine months versus 24.9%.

Q3 revenue increased 0.7%; nine-month revenue increased 1.5%.
Q3 net income increased 10.1%; nine-month net income increased 6.1%.
Operating expenses increased 5.8% in Q3 and 7.2% for the nine months, driven by West York wastewater costs, depreciation, maintenance, health insurance and other expenses.
The effective tax rate declined to 22.0% in Q3 and 26.7% for the nine months, compared with 27.8% and 31.9%, respectively, primarily because of tax deductions under the IRS tangible property regulations.
Cash from operations increased to $15,416, but capital expenditures rose substantially to $20,628 from $8,302 in the prior-year period.

Debt, Liquidity and Capital Resources

Total long-term debt was $91,701 at September 30, 2017, compared with $87,488 at December 31, 2016; the long-term portion reported on the balance sheet was $88,930.
The company had $5,246 outstanding under lines of credit, including $4,246 under a $13,000 facility and $1,000 under a $10,000 facility. Total committed lines aggregated $41,500, with maturities from June 2018 through May 2019.
Cash was effectively fully utilized, resulting in a $1,206 cash overdraft and only $2 of reported cash and cash equivalents at September 30.
Debt represented 43.8% of total capitalization, compared with 43.4% at year-end 2016. Management expects the ratio to trend upward toward approximately 50% before considering additional equity.
Standard & Poor’s affirmed the company’s A- credit rating with a stable outlook and adequate liquidity.
The company believes current credit facilities and capital-market access will be adequate for anticipated 2017 and 2018 needs, although future financing availability and terms are not guaranteed.

Material Changes Versus the Prior Comparable Period

Revenue growth reflected the 3.72% DSIC surcharge effective October 1, 2017, DSIC revenue of $405 in Q3 and $467 for the nine months, the West York wastewater acquisition, and customer growth. Lower per-capita consumption partially offset these benefits.
Per-capita consumption declined approximately 9.5% in Q3 and 4.8% for the first nine months.
Operating income declined despite higher revenue because expenses grew faster than revenue.
Net income increased because lower income taxes and higher allowance for funds used during construction more than offset higher operating expenses.
Capital investment accelerated, primarily for utility infrastructure and an additional raw water pumping station and force main. Utility plant increased to $364,053 gross and $287,610 net from $343,412 gross and $270,907 net at December 31, 2016.
The company repurchased 37,229 shares during the first nine months and issued 42,861 shares through employee, direct-stock and dividend-reinvestment plans.
Cash dividends declared increased to $0.1602 per share in Q3 from $0.1555 and to $0.4806 for the nine months from $0.4665.

Guidance, Outlook, Risks and Unusual Items

Management expects 2017 revenue to benefit from DSIC and continued customer growth and expects the effective tax rate to be approximately 25% to 30% for 2017.
Operating expenses are expected to rise as depreciation increases with new utility investment and as West York wastewater operations reach their full cost profile. Interest expense is also expected to remain higher because of line-of-credit borrowings.
Remaining 2017 construction expenditures were estimated at approximately $4,200, excluding potential acquisitions. The company expects to use internally generated funds, credit-line borrowings, stock-plan proceeds, customer advances and contributions.
The company does not expect to file a base-rate increase request in 2017. Future earnings remain dependent on PPUC rate relief, DSIC eligibility, customer usage, weather and customer growth.
Lead and Copper Rule compliance remains a material operational and regulatory matter. The company must replace remaining company-owned lead service lines within four years under a Pennsylvania DEP consent order. Costs were approximately $1,478 through September 30, 2017, with approximately $1,082 of additional company-owned replacement costs expected.
Customer-owned lead-line replacements cost approximately $110 through September 30 and are recorded as a regulatory asset. Additional estimated costs are approximately $79 under the four-year tariff modification and approximately $1,040 under the nine-year modification, subject to adjustment.
Two 2017 rounds of lead testing did not exceed the action level, and monitoring is expected to decline from semiannual to annual beginning in 2018.
The $12,000 variable-rate debt is economically hedged by an interest-rate swap. The swap had a fair-value liability of $2,232 at September 30; a triggering credit-rating or default event could have required approximately $2,367 of payment.
The union contract expired April 30, 2017. The parties are continuing under the expired contract while negotiating, and management expects no service interruption.
Weather, drought restrictions, conservation, water demand, regulatory decisions, interest rates, credit availability, permitting, tax-law changes and future capital requirements could materially affect results.

Investor Verification Checklist

Verify the sustainability of earnings growth given declining per-capita consumption and operating margins.
Monitor cash conversion, capital expenditures, cash overdrafts and reliance on lines of credit.
Review upcoming credit-line maturities and the company’s ability to refinance or replace short-term borrowings.
Track PPUC rate actions, DSIC eligibility and recovery of regulatory assets, including lead-service-line costs.
Assess the total cost and timing of lead-service-line replacements and potential changes to customer-owned replacement estimates.
Review interest-rate exposure, swap collateral or termination requirements, and the company’s A- credit rating.
Confirm the expected 2017 tax rate and the extent to which IRS tangible-property deductions may decline as eligible projects change.
Evaluate the pending Shrewsbury/Springfield wastewater acquisition and Dallastown-Yoe interconnect, both subject to regulatory approvals.