Business context and reporting period
American Water Works Company, Inc. filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2016. Its primary business is regulated water and wastewater utilities; it also operates non-regulated water and wastewater service businesses. Results are seasonal, with operating cash flows generally higher in the third quarter.
Financial results and position
Amounts in millions except per-share data. Comparisons are with the corresponding 2015 period.
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Operating revenue | $827 | $782 | $1,570 | $1,480 |
| Operating income | $299 | $278 | $513 | $482 |
| Net income attributable to common stockholders | $137 | $123 | $219 | $203 |
| Diluted EPS | $0.77 | $0.68 | $1.23 | $1.13 |
| Operating margin | 36.2% | 35.5% | 32.7% | 32.6% |
Q2 revenue rose 5.8% and net income rose 11.4%; six-month revenue rose 6.1% and net income rose 7.9%. Growth primarily reflected authorized rate increases, infrastructure surcharges, acquisitions and market-based business activity. Lower regulated water consumption partly offset revenue growth. Q2 operating and maintenance expense increased 4.5%, while six-month expense increased 5.9%; depreciation and general taxes also increased. Interest expense was higher year over year.
- Cash flow, six months: Operating cash flow was $518, versus $418 in 2015. Capital expenditures were $597; cash used in investing was $665. Financing provided $154, including $321 of net short-term borrowings. Cash ended at $52, up from $45 at year-end 2015.
- Balance sheet, June 30: Total assets were $17.706 billion; common stockholders’ equity was $5.153 billion. Long-term debt was $5.850 billion, current long-term debt $54 million, and short-term debt $950 million. Cash was $52 million and current liabilities $1.740 billion.
- Debt and liquidity: The company reported $950 million of commercial paper outstanding, no borrowings under its revolving credit facility, and $1.677 billion of available credit facility capacity. Its debt-to-capitalization covenant ratio was 0.57 against a maximum of 0.70. Capital structure comprised 42.9% equity, 48.8% long-term debt and redeemable preferred stock, and 8.3% short-term debt and current maturities.
- Margins and shareholder returns: Adjusted regulated O&M efficiency ratio was 35.2% for the twelve months ended June 30, compared with 35.9% a year earlier. The quarterly dividend declared was $0.375 per share, versus $0.34 in 2015.
Material changes, outlook and management commentary
- Management attributed earnings growth primarily to continued regulated-business growth, including authorized revenue from investment and acquisitions. Regulated net income increased 10.7% in Q2 and 9.4% year to date; market-based revenue grew, but related expenses also rose.
- First-half capital investment, including acquisitions, was approximately $552 million as described by management. The full-year 2016 capital investment outlook, including acquisitions, was $1.4–$1.5 billion, primarily for regulated infrastructure. Separately, cash capital expenditures were $597 million in the first half.
- Ten regulated-system acquisitions closed in the first half for an aggregate purchase price of $23 million, net of cash received; they added approximately 7,600 customers. The company was pursuing the Scranton-area wastewater system acquisition for a stated $195 million purchase price, including approximately $38 million of cash to transfer, subject to approvals. Management targeted closing by September 30, 2016; the system’s required upgrades were estimated at $140 million.
- As of August 3, the company was awaiting final rate-case orders in six states for requested annualized revenue of $110 million and approval of $3 million in additional annualized surcharges; approval was not assured. The filing also describes interim rates, new filings and rate increases effective after quarter-end.
- The company expected higher employee medical and prescription drug costs to continue through the rest of 2016. Military Services Group capital upgrades were expected to be lower in 2016 than in 2015. No formal earnings-per-share guidance is stated in the provided filing text.
- Plans for a new Camden, New Jersey headquarters anticipated construction in 2017–2018, with estimated cost up to $165 million, excluding potential tax incentives. A proposed Shorelands Water Company acquisition, to be paid for with company stock, was subject to regulatory approval and targeted for first-quarter 2017 closing.
- Contingencies and unusual items: The Freedom Industries chemical spill litigation remained unresolved, with 69 pending cases and a class-certification motion; the company said it could not reasonably estimate possible losses. It reported approximately $7 million of accrued probable loss contingencies and a maximum $54 million for reasonably possible contingencies, excluding matters for which losses could not be estimated. A Missouri infrastructure-surcharge case had a reasonably possible loss range of $0–$26 million; the state Supreme Court accepted the case for review, vacating the appellate ruling. A non-cybersecurity firmware failure affecting an IT storage device occurred in April; water and wastewater systems were not impacted, and recovery procedures were used.
- Other risks highlighted include regulatory decisions and timing, weather and demand variability, infrastructure and financing needs, water contamination, cybersecurity or technology disruption, and litigation. Management reported disclosure controls effective at a reasonable level of assurance and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether requested rate cases and infrastructure surcharges are approved, and how quickly authorized revenues translate into cash and earnings.
- Progress, approval conditions, required capital spending and closing status for the Scranton and Shorelands acquisitions.
- Developments in Freedom Industries litigation and regulatory proceedings, including any impact on the company’s ability to estimate or recover losses.
- Outcome of the Missouri surcharge litigation and potential exposure within the disclosed $0–$26 million range.
- Execution of the $1.4–$1.5 billion full-year investment plan, funding needs, commercial-paper capacity and leverage covenant headroom.
- Whether revenue gains continue to outpace operating-cost growth, particularly insurance costs, and whether lower consumption or market-based business costs pressure margins.