PINNACLE WEST CAPITAL CORP quarterly report, Q1 FY2012

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Pinnacle West Capital Corporation — Q1 2012 Form 10-Q

Period: Three months ended March 31, 2012. Pinnacle West owns Arizona Public Service Company (APS), whose regulated electric utility business accounts for essentially all consolidated revenue and earnings. Figures below are in U.S. dollars; financial statement amounts are generally in millions unless stated otherwise.

Financial performance and position

MetricQ1 2012Q1 2011
Operating revenue$620.6$648.8
Operating income$48.0$35.8
Net loss attributable to common shareholders$8.3$15.1
Basic and diluted loss per share$0.08$0.14
Operating cash flow$115.3$243.5
Capital expenditures$241.0$191.6
Cash and cash equivalents at March 31$20.7$114.2
  • Operating margin was approximately 7.7% of revenue, versus 5.5% in the prior-year quarter. Despite higher operating income, Pinnacle West reported a common-shareholder loss; APS reported net income of $3.7 million, but $7.8 million was attributable to noncontrolling interests.
  • Operating cash flow declined by $128.2 million, primarily reflecting changes in collateral and margin posted and working capital. Investing cash outflow was $235.1 million; financing provided $106.9 million, including $216.6 million of net short-term borrowings. Cash decreased $12.9 million during the quarter.
  • At March 31, Pinnacle West had $216.6 million in short-term borrowings and $3.38 billion in long-term debt, including current maturities and Palo Verde sale-leaseback debt. APS had $216.6 million in commercial paper, $1 billion of revolving credit facilities, and no facility borrowings or letters of credit outstanding. Pinnacle West had no commercial paper or credit-facility borrowings. Management described liquidity as ample.
  • APS issued $325 million of 4.50% senior notes due 2042 and used the proceeds with other funds to repay $375 million of 6.50% notes at maturity. APS’s common-equity ratio was 55%, above the ACC-required minimum of 40%; debt-to-capitalization covenant ratios were 49% for Pinnacle West and 47% for APS, below the 65% limit.
  • The declared quarterly dividend was $0.525 per share, unchanged from Q1 2011. Pinnacle West total assets were $13.18 billion at March 31, 2012.

Changes versus the prior-year quarter

  • Revenue fell $28.2 million (about 4.3%), while operating income rose $12.2 million. Management attributed the improved operating result primarily to lower operations and maintenance expense and depreciation, partly offset by weaker usage and higher property taxes.
  • Operations and maintenance expense declined $44.4 million, including a $28 million prior-year transmission right-of-way settlement that had increased both revenue and expense without affecting earnings. Lower fossil-plant maintenance also contributed. Depreciation and amortization declined $6.5 million, largely following Palo Verde’s 20-year license extensions; taxes other than income taxes increased $4.9 million.
  • Weather-adjusted retail electricity sales declined 0.9%; retail customer growth was 0.8% compared with the prior-year period. The filing cites lower usage per customer and milder weather as factors affecting results.
  • Operating cash flow was substantially lower, while capital expenditures increased about $49.4 million. The company’s net loss attributable to common shareholders narrowed from $15.1 million to $8.3 million.

Outlook, material matters, and risks

  • Rates: APS and parties to its pending retail rate case had agreed to a settlement providing zero net base-rate change: a $116.3 million non-fuel increase, a $153.1 million fuel-related decrease, and transfer of an estimated $36.8 million of renewable-project recovery into base rates. The settlement proposed a 10.0% authorized return on equity and a stay-out from a new general rate case before May 31, 2015. ACC approval remained pending; APS expected implementation around July 1, 2012 if approved. The outcome and any changes were uncertain.
  • Forecasts and investment: Management expected average annual customer growth of about 1.6% and weather-adjusted retail sales to remain flat on average during 2012–2014. Estimated APS capital expenditures were $1.122 billion in 2012, $983 million in 2013, and $1.141 billion in 2014; the 2012 estimate includes $294 million for the proposed Four Corners purchase. These are estimates, not guarantees.
  • Four Corners: The CPUC approved APS’s proposed purchase of SCE’s 48% interests in Units 4 and 5 for $294 million, subject to adjustments. On April 18, 2012, the ACC voted to allow the purchase to proceed, but not to close before December 1, 2012; other approvals and conditions remained. APS planned to close Units 1–3 if the purchase is completed. Cost recovery and transaction completion remained uncertain.
  • Discontinued operations: SunCor filed for bankruptcy in February 2012 to liquidate its business. Management did not expect a material effect on Pinnacle West. SunCor had about $8 million in assets, including $7 million of intercompany receivables, and no debt at quarter-end. APSES had been sold in 2011.
  • Contingencies and operating risks: APS faced a Clean Air Act lawsuit concerning Four Corners; it said it could not estimate a reasonably possible loss range. Further inquiry into the September 2011 Southwest power outage could result in reliability findings or penalties; potential penalties can reach $1 million per violation per day. A climate-change nuisance lawsuit and a FERC proceeding concerning historical Pacific Northwest power-market activity also remained unresolved; management did not expect the FERC matter to have a material adverse impact.
  • Other exposures: Nuclear operations carry spent-fuel, insurance, regulatory, and safety risks. The NRC issued new Palo Verde safety requirements after Fukushima, but APS could not predict their financial or operational impact. Derivative and counterparty exposures, fuel and power costs, weather, rate recovery, capital needs, credit ratings, and Arizona economic conditions are additional risks. A downgrade below investment grade could trigger collateral demands.
  • Required minimum pension contributions were estimated at approximately $65 million in 2012, $160 million in 2013, and $175 million in 2014; other postretirement contributions were expected to be about $20 million annually. Accelerated tax depreciation was expected to provide APS $425–475 million of cash-tax benefits through 2013, with most expected in 2012.

Important facts for investors to verify

  • Whether the ACC approved the retail-rate settlement, its final terms, and its effective date.
  • Whether the Four Corners acquisition closed, its final cost, required environmental approvals, and recoverability of related costs.
  • How operating cash flow, short-term borrowing, capital spending, and liquidity develop through the year.
  • Whether sales, customer growth, weather, and fuel and purchased-power costs track management’s 2012–2014 assumptions.
  • Developments in the Four Corners lawsuit, outage investigations, nuclear safety requirements, and other regulatory or legal contingencies.
  • Actual pension funding, realization and timing of expected tax benefits, and any changes in credit ratings or collateral requirements.