Business Context and Reporting Period
Company: Pinnacle West Capital Corporation (Pinnacle West) and its primary subsidiary, Arizona Public Service Company (APS).
Reporting Period: Fiscal year ended December 31, 2009.
Business Overview: Pinnacle West is a holding company deriving the majority of its revenues and earnings from APS, a vertically-integrated electric utility serving most of Arizona. Pinnacle West also operates a real estate segment through its subsidiary SunCor, which has been significantly impacted by distressed market conditions.
Key Financial Metrics (2009)
| Metric | Value (in millions) |
|---|---|
| Consolidated Operating Revenues | $3,297.1 |
| Net Income Attributable to Common Shareholders | $68.3 |
| Net Income from Continuing Operations | $67.2 |
| Net Loss from Discontinued Operations | $(13.7) |
| EPS (Basic) | $0.68 |
| Total Assets | $11,808.2 |
| Total Long-Term Debt (less current) | $3,370.5 |
| Operating Cash Flow | $1,031.1 |
| Capital Expenditures | $745.0 |
Material Changes vs. Prior Period
- Significant Decline in Net Income: Consolidated net income attributable to common shareholders dropped to $68.3 million in 2009 from $242.1 million in 2008. This 72% decrease was primarily driven by a $266 million pre-tax real estate impairment charge recorded by SunCor.
- Regulated Electricity Segment: Net income for the regulated electricity segment decreased by approximately $13 million to $243 million. This was due to lower retail sales (driven by lower usage per customer and economic conditions), higher interest charges, and higher depreciation, partially offset by rate increases effective January 1, 2009.
- Real Estate Segment: The segment reported a net loss of $167 million in 2009 compared to a net loss of $26 million in 2008. The deterioration was caused by increased impairment charges ($213 million increase) and decreased income from other real estate operations.
- Revenue Stability: Total operating revenues remained relatively flat at $3,297 million in 2009 compared to $3,311 million in 2008, despite the real estate downturn, due to stable utility revenues.
Guidance, Outlook, and Risks
- Rate Case Settlement: The Arizona Corporation Commission (ACC) approved a settlement agreement in December 2009. This agreement provides rate stability, authorizes a net retail rate increase of $207.5 million effective January 1, 2010, and requires equity infusions into APS of at least $700 million by December 31, 2014.
- Renewable Energy Commitments: APS committed to an interim renewable energy target of 10% by year-end 2015 (double the statutory requirement) and plans to invest an estimated $500 million in photovoltaic solar plants.
- Real Estate Restructuring: SunCor is actively disposing of homebuilding operations, master-planned communities, and commercial assets to eliminate debt. The real estate segment may no longer be a reporting segment in the future.
- Key Risks:
- Regulatory & Environmental: Potential costs associated with greenhouse gas emission regulations (cap-and-trade), regional haze rules, and mercury emissions could impact the economic viability of coal-fired plants (Four Corners, Cholla, Navajo).
- Climate Change: Physical risks include drought affecting water supplies for cooling and increased wildfire potential.
- Financial: SunCor faces liquidity risks regarding its debt facilities, which matured or are maturing in early 2010. Pinnacle West does not guarantee SunCor debt, but a default could impact consolidated earnings.
- Market: Continued economic downturn in Arizona could further suppress customer growth and electricity sales.
Investor Verification Checklist
- SunCor Debt Status: Verify the outcome of negotiations regarding the extension or renewal of SunCor's Secured Revolver and other matured debt facilities.
- Real Estate Asset Sales: Monitor the progress of SunCor's asset sales program and the sufficiency of proceeds to repay outstanding debt.
- Environmental Compliance Costs: Track final regulatory determinations regarding Regional Haze (BART) and Mercury emissions, as these could require significant capital expenditures at coal plants.
- Equity Infusions: Confirm the timing and execution of the required $700 million equity infusion into APS mandated by the rate case settlement.
- Renewable Energy Procurement: Review the results of Requests for Proposals (RFPs) for solar and wind projects to ensure APS meets its 10% renewable target by 2015.