YORK WATER CO quarterly report, Q2 FY2018

The York Water Company: 2018 Second-Quarter Form 10-Q Summary

Business Context and Reporting Period

The York Water Company is a regulated water and wastewater utility serving 39 municipalities in York County and nine municipalities in Adams County, Pennsylvania, with wastewater operations in portions of four York County municipalities. The filing covers the three and six months ended June 30, 2018. Interim financial statements are unaudited.

Average daily water availability was approximately 35.4 million gallons versus average daily consumption of approximately 19.0 million gallons.
The average water customer count increased by 742, or approximately 1.1%, year over year to 70,003 in the second quarter.
The Company operates under Pennsylvania Public Utility Commission regulation, including rate setting, financing, and service requirements.

Financial Performance and Key Metrics

Metric	Q2 2018	Q2 2017	Six Months 2018	Six Months 2017
Operating revenue	$12.026 million	$12.254 million	$23.670 million	$23.544 million
Operating income	$5.318 million	$5.834 million	$10.458 million	$10.996 million
Net income	$3.305 million	$2.935 million	$5.899 million	$5.516 million
Diluted EPS	$0.26	$0.23	$0.46	$0.43
Operating cash flow	Not separately reported	Not separately reported	$8.531 million	$9.366 million
Capital expenditures	Not separately reported	Not separately reported	$6.606 million	$13.867 million

Q2 operating margin was approximately 44.2%, compared with 47.6% in the prior-year quarter. Six-month operating margin was approximately 44.2%, compared with 46.7%.
Q2 net margin was approximately 27.5%, compared with 24.0% in Q2 2017. Six-month net margin was approximately 24.9%, compared with 23.4%.
Income taxes were $0.270 million in Q2 and $1.141 million for the six months, compared with $1.370 million and $2.327 million, respectively, in the prior-year periods.
The effective tax rate declined to 7.6% in Q2 and 16.2% for the six months, from 31.8% and 29.7%, respectively, primarily because of the 2017 Tax Act and eligible asset-improvement deductions under IRS tangible property regulations.
Cash flow from operations declined $0.835 million, or 8.9%, for the first six months, primarily reflecting higher income taxes paid and working-capital changes.
Cash flow exceeded capital expenditures by approximately $1.925 million for the first six months, before financing activities and dividends.

Balance Sheet, Debt, and Liquidity

Total assets were $336.790 million at June 30, 2018, compared with $332.030 million at December 31, 2017. Net utility plant increased to $293.174 million from $288.787 million.
Total long-term debt was $94.656 million before discounts and issuance costs, compared with $92.833 million at year-end. The long-term portion reported on the balance sheet was $80.993 million, and current maturities were $11.044 million.
The Company had $7.234 million outstanding under unsecured lines of credit with aggregate availability of $41.5 million. The weighted-average line-of-credit borrowing rate was 3.26% at June 30, 2018.
Cash and cash equivalents were only $2 thousand. The cash management account had a $0.626 million overdraft, and excess cash is automatically applied against line-of-credit borrowings.
Debt represented 43.6% of total capitalization at June 30, 2018, compared with 43.7% at December 31, 2017. 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 on February 9, 2018.
Committed credit facilities were renewed or extended during the quarter, with maturities generally extending to 2019 or 2020.
The Company expects approximately $13.0 million of additional 2018 construction expenditures and believes current credit facilities and capital-market access will meet anticipated needs.

Material Changes Versus the Prior Comparable Period

Q2 revenue declined $0.228 million, or 1.9%, primarily because of a $0.572 million regulatory reduction related to the federal tax-rate change and approximately 0.5% lower per-capita consumption. These effects were partly offset by higher distribution system improvement charge revenue and customer growth.
Six-month revenue increased $0.126 million, or 0.5%, supported by distribution system improvement charge revenue, the West York Borough wastewater acquisition, and customer growth. The increase was partly offset by approximately 0.7% lower per-capita consumption and a $0.983 million tax-related regulatory revenue reduction.
Q2 operating expenses increased $0.288 million, or 4.5%; six-month operating expenses increased $0.664 million, or 5.3%. Increases included wastewater operations, maintenance, information technology, consulting, wages, treatment, and depreciation.
Interest expense increased 3.8% in Q2 and 3.7% for the six months because of increased line-of-credit borrowings and higher interest rates.
Allowance for funds used during construction declined $0.165 million in Q2 and $0.196 million for the six months because of lower eligible construction activity than in 2017.
Net income increased $0.370 million, or 12.6%, in Q2 and $0.383 million, or 6.9%, for the six months, driven primarily by lower income taxes despite weaker operating income.
The Company paid $4.282 million of dividends during the first six months and declared dividends of $0.1666 per share in Q2, up from $0.1602.
No shares were repurchased during the first six months of 2018; 618,004 shares remained authorized for repurchase at June 30, 2018.

Guidance, Outlook, Risks, Contingencies, and Unusual Items

The Company filed a rate request on May 30, 2018 seeking annual water-rate increases of $6.399 million, or 13.1%, and wastewater-rate increases of $0.289 million, or 25%. The PPUC review remains pending, and any approved increase is expected to be effective no later than March 1, 2019. The filing does not assure approval of the requested amounts.
Effective July 1, 2018, the distribution system improvement charge was 4.28% of applicable revenues. The DSIC generated $0.436 million in Q2 and $0.916 million for the six months.
Management expects the remainder of 2018 to benefit modestly from DSIC revenue, higher summer demand, and customer growth, but expects operating expenses to outpace revenue growth in the near term. Depreciation, water-treatment costs, distribution-system maintenance, and wastewater operating costs are expected to rise.
The Company reduced 2018 revenue by $0.983 million year to date through a regulatory liability related to returning the benefit of the federal tax-rate reduction to customers. The amount and treatment may change when the rate case is completed.
The Company is replacing lead service lines under a Pennsylvania Department of Environmental Protection consent order. Company-owned replacements cost approximately $1.855 million through June 30, 2018, with approximately $0.152 million of additional costs expected. Customer-owned lead-line replacements recorded as a regulatory asset totaled approximately $0.235 million; future estimates remain subject to adjustment.
2018 lead-compliance testing did not exceed the applicable action level.
An interest-rate swap converts $12.0 million of variable-rate debt to an effectively fixed rate. The swap liability had a fair value of $1.720 million at June 30, 2018. A credit-rating or other default event could have required an approximately $1.762 million payment at that date.
Primary risks include weather and drought restrictions, lower water consumption, regulatory or rate-case outcomes, tax-law changes, rising interest rates, availability and cost of financing, capital requirements, credit-rating changes, permits, customer losses, and environmental compliance.
The Company expects to contribute the remaining $1.150 million of its planned $2.300 million in 2018 pension contributions during the final two quarters.
Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.

Important Facts for Investors to Verify

Outcome and timing of the pending PPUC rate case, including treatment of the federal tax-rate reduction and recovery of regulatory assets.
Ability to fund approximately $13.0 million of remaining 2018 capital expenditures while maintaining the targeted capitalization mix and credit rating.
Growth in line-of-credit borrowings, refinancing requirements, interest-rate exposure, and compliance with debt covenants.
Trends in per-capita water consumption, summer weather, drought restrictions, and customer growth.
Future operating-cost growth, particularly wastewater operations, treatment, maintenance, depreciation, and pension costs.
Scope and ultimate cost of company-owned and customer-owned lead service-line replacements.
Whether the unusually low effective tax rate is sustainable, given its dependence on tax-law changes and eligible asset improvements.
Potential valuation and liquidity implications of the interest-rate swap and its credit-rating provisions.