SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
x Annual Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended December 31, 2015 or
¨ Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from to
Commission File Number | Registrant, State of Incorporation Address, Zip Code and Telephone Number | IRS Employer Identification No. | ||
001-14431 | American States Water Company (Incorporated in California) 630 E. Foothill Boulevard, San Dimas, CA 91773-1212 (909) 394-3600 | 95-4676679 | ||
001-12008 | Golden State Water Company (Incorporated in California) 630 E. Foothill Boulevard, San Dimas, CA 91773-1212 (909) 394-3600 | 95-1243678 | ||
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class | Name of Each Exchange on Which Registered | |
American States Water Company Common Shares | New York Stock Exchange | |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
American States Water Company | Yes x No ¨ | |||
Golden State Water Company | Yes ¨No x | |||
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
American States Water Company | Yes ¨ No x | |||
Golden State Water Company | Yes ¨ No x | |||
Indicate by check mark whether Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
American States Water Company | Yes x No ¨ | |||
Golden State Water Company | Yes x No ¨ | |||
Indicate by check mark whether Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or such shorter period that the Registrant was required to submit and post such files).
American States Water Company | Yes x No ¨ | |||
Golden State Water Company | Yes x No ¨ | |||
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
American States Water Company | ||||||
Large accelerated filer x | Accelerated filer ¨ | Non-accelerated filer ¨ | Smaller reporting company ¨ | |||
Golden State Water Company | ||||||
Large accelerated filer ¨ | Accelerated filer ¨ | Non-accelerated filer x | Smaller reporting company ¨ | |||
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)
American States Water Company | Yes ¨ No x | |||
Golden State Water Company | Yes ¨ No x | |||
The aggregate market value of all voting Common Shares held by non-affiliates of American States Water Company was approximately $1,393,317,000 and $1,710,746,000 on June 30, 2015 and February 22, 2016, respectively. The closing price per Common Share of American States Water Company on February 22, 2016, as quoted in The Wall Street Journal website, was $46.84. As of February 22, 2016, the number of Common Shares of American States Water Company outstanding was 36,523,179. As of that same date, American States Water Company owned all 146 outstanding Common Shares of Golden State Water Company. The aggregate market value of all voting stock held by non-affiliates of Golden State Water Company was zero on June 30, 2015 and February 22, 2016.
Golden State Water Company meets the conditions set forth in General Instruction I(1)(a) and (b) of Form 10-K and is therefore filing this Form, in part, with the reduced disclosure format for Golden State Water Company.
Documents Incorporated by Reference:
Portions of the Proxy Statement of American States Water Company will be subsequently filed with the Securities and Exchange Commission as to Part III, Item Nos. 10, 11, 13 and 14 and portions of Item 12, in each case as specifically referenced herein.
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PART I
Item 1. Business
This annual report on Form 10-K is a combined report being filed by two separate Registrants, American States Water Company (“AWR”) and Golden State Water Company (“GSWC”). References in this report to “Registrant” are to AWR and GSWC, collectively, unless otherwise specified. GSWC makes no representations as to the information contained in this report relating to AWR and its subsidiaries, other than GSWC.
AWR makes its periodic reports, Form 10-Q and Form 10-K, and current reports, Form 8-K, available free of charge through its website, www.aswater.com, as soon as material is electronically filed with or furnished to the Securities and Exchange Commission (“SEC”). Such reports are also available on the SEC’s website at www.sec.gov. AWR also makes available free of charge its code of business conduct and ethics, its corporate governance guidelines and the charters of its Board of Directors, Nominating and Governance Committee, Compensation Committee, and Audit and Finance Committee through its website or by calling (800) 999-4033. AWR and GSWC have filed the certification of officers required by Section 302 of the Sarbanes-Oxley Act as Exhibits 31.1 and 31.2 to its Form 10-K for the year ended December 31, 2015.
General
AWR is the parent company of GSWC and American States Utility Services, Inc. (“ASUS”) (and its subsidiaries (Fort Bliss Water Services Company (“FBWS”), Terrapin Utility Services, Inc. (“TUS”), Old Dominion Utility Services, Inc. (“ODUS”), Palmetto State Utility Services, Inc. (“PSUS”) and Old North Utility Services, Inc. (“ONUS”)). AWR was incorporated as a California corporation in 1998 as a holding company. AWR has three reportable segments: water, electric and contracted services. Within the segments, AWR has two principal business units, water and electric service utility operations, conducted through GSWC, and contracted services conducted through ASUS and its subsidiaries. FBWS, TUS, ODUS, PSUS and ONUS may be referred to herein individually as a “Military Utility Privatization Subsidiary” or collectively as the “Military Utility Privatization Subsidiaries.”
GSWC is a public utility engaged principally in the purchase, production, distribution and sale of water in 10 counties in the State of California. GSWC is regulated by the California Public Utilities Commission (“CPUC”). It was incorporated as a California corporation on December 31, 1929. GSWC also distributes electricity in several San Bernardino County mountain communities in California through its Bear Valley Electric Service (“BVES”) division.
GSWC served 260,151 water customers and 23,846 electric customers at December 31, 2015, or a total of 283,997 customers, compared with 258,191 water customers and 23,716 electric customers at December 31, 2014, or a total of 281,907 customers. GSWC’s operations exhibit seasonal trends. Although GSWC’s water utility operations have a diversified customer base, residential and commercial customers account for the majority of GSWC’s water sales and revenues. Revenues derived from commercial and residential water customers accounted for approximately 90% of total water revenues for the years ended December 31, 2015, 2014 and 2013.
ASUS, through its wholly owned subsidiaries, has contracted with the U.S. government to provide water and/or wastewater services at various military installations. ASUS operates, maintains and performs construction activities (including renewal and replacement capital work) on water and/or wastewater systems at various United States military bases pursuant to 50-year firm, fixed-price contracts. Each of the contracts with the U.S. government is subject to termination, in whole or in part, prior to the end of its 50-year term for convenience of the U.S. government or as a result of default or nonperformance by the subsidiary performing the contract. The contract price for each of these contracts is subject to redetermination every three years following the initial two years of the contract or annually under an economic price adjustment. Contracts are also subject to equitable price adjustments and modifications for changes in circumstances, changes in laws and regulations, additions to the contract value for new construction of facilities at the military bases and changes in wages and fringe benefits to the extent provided in the contract. AWR guarantees performance of ASUS’s military privatization contracts.
Pursuant to the terms of these contracts, the Military Utility Privatization Subsidiaries operate, as of the effective date of their respective contracts, the following water and wastewater systems:
• | FBWS - water and wastewater systems at Fort Bliss located near El Paso, Texas and extending into southeastern New Mexico effective October 1, 2004; |
• | TUS - water and wastewater systems at Joint Base Andrews in Maryland effective February 1, 2006; |
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• | ODUS - wastewater system at Fort Lee in Virginia effective February 23, 2006 and the water and wastewater systems at Joint-Base Langley Eustis and Joint Expeditionary Base Little Creek-Fort Story in Virginia (“TRADOC”) effective April 3, 2006; |
• | PSUS - water and wastewater systems at Fort Jackson in South Carolina effective February 16, 2008; and |
• | ONUS - water and wastewater systems at Fort Bragg, Pope Army Airfield and Camp Mackall, North Carolina effective March 1, 2008. |
Certain financial information for each of AWR’s business segments - water distribution, electric distribution, and contracted services - is set forth in Note 15 to the Notes to Consolidated Financial Statements of American States Water Company and its subsidiaries. AWR’s water and electric distribution segments are not dependent upon a single or only a few customers. The U.S. government is the primary customer for ASUS’s contracted services. ASUS, from time to time, performs work at military bases for other prime contractors of the U.S. government.
The revenue from AWR’s segments is seasonal. The impact of seasonality on these AWR businesses is discussed in more detail in Item 1A. “Risk Factors.”
Environmental matters and compliance with such laws and regulations are discussed in detail in Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operation” under the section titled “Environmental Matters.”
Competition
The businesses of GSWC are substantially free from direct and indirect competition with other public utilities, municipalities and other public agencies within their existing service territories. However, GSWC may be subject to eminent domain proceedings in which governmental agencies, under state law, may acquire GSWC’s water systems if doing so is necessary and in the public’s interest. GSWC competes with governmental agencies and other investor-owned utilities in connection with offering service to new real estate developments on the basis of financial terms, availability of water and ability to commence providing service on a timely basis. ASUS actively competes for business with other investor-owned utilities, other third party providers of water and/or wastewater services and governmental entities primarily on the basis of price and quality of service.
AWR Workforce
AWR and its subsidiaries had a total of 707 employees as of January 31, 2016. GSWC had 553 employees as of January 31, 2016. Seventeen employees of BVES are covered by a collective bargaining agreement with the International Brotherhood of Electrical Workers, which expires in December 2017. Prior to March 2015, sixty-three employees at one of GSWC’s water rate-making areas were covered by a collective bargaining agreement with the Utility Workers Union of America ("UWUA"), which expired by its own terms on August 31, 2014 and was thereafter extended on a monthly basis through February 28, 2015. In March 2015, GSWC received objective evidence that UWUA had lost support of a majority of the bargaining unit employees. Consequently, GSWC withdrew recognition of UWUA effective as of March 2, 2015. Thus, other than at BVES, GSWC has no other unionized employees.
ASUS had 154 employees as of January 31, 2016. Sixteen of FBWS's employees are covered by a collective bargaining agreement with the International Union of Operating Engineers. This agreement expires in 2017.
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Forward-Looking Information
This Form 10-K and the documents incorporated herein contain forward-looking statements intended to qualify for the “safe harbor” from liability established by the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on current estimates, expectations and projections about future events and assumptions regarding these events and include statements regarding management’s goals, beliefs, plans or current expectations, taking into account the information currently available to management. Forward-looking statements are not statements of historical facts. For example, when we use words such as “anticipate,” “believe,” “plan,” “estimate,” “expect,” “intend,” “may” and other words that convey uncertainty of future events or outcomes, we are making forward-looking statements. We are not able to predict all the factors that may affect future results. We caution you that any forward-looking statements made by us are not guarantees of future performance and the actual results may differ materially from those in our forward-looking statements. Some of the factors that could cause future results to differ materially from those expressed or implied by our forward-looking statements or from historical results, include, but are not limited to:
• | the outcome of pending and future regulatory, legislative or other proceedings, investigations or audits, including decisions in GSWC's general rate cases and the results of independent audits of GSWC's construction contracting procurement practices or other independent audits of our costs; |
• | changes in the policies and procedures of the CPUC; |
• | timeliness of CPUC action on rates; |
• | availability of water supplies, which may be adversely affected by the California drought, changes in weather patterns in the West, contamination, and court decisions or other governmental actions restricting the use of water from the Colorado River, the California State Water Project, and/or pumping of groundwater; |
• | our ability to efficiently manage GSWC capital expenditures and operating and maintenance expenses within CPUC authorized levels and timely recover our costs through rates; |
• | the impact of opposition to GSWC rate increases on our ability to recover our costs through rates; |
• | the impact of condemnation actions on the size of our customer base; |
• | our ability to forecast the costs of maintaining GSWC’s aging water and electric infrastructure; |
• | our ability to recover increases in permitting costs and in costs associated with negotiating and complying with the terms of our franchise agreements with cities and counties and other demands made upon us by the cities and counties in which GSWC operates; |
• | changes in accounting valuations and estimates, including changes resulting from our assessment of anticipated recovery of GSWC's regulatory assets, liabilities and revenues subject to refund or regulatory disallowances; |
• | changes in environmental laws and water and wastewater quality requirements and increases in costs associated with complying with these laws and requirements; |
• | our ability to obtain adequate, reliable and cost-effective supplies of chemicals, electricity, fuel, water and other raw materials that are needed for our water and wastewater operations; |
• | our ability to recover the costs associated with the contamination of GSWC’s groundwater supplies from parties responsible for the contamination or through the ratemaking process, and the time and expense incurred by us in obtaining recovery of such costs; |
• | adequacy of our electric division's power supplies and the extent to which we can manage and respond to the volatility of electricity and natural gas prices; |
• | our electric division's ability to comply with the CPUC’s renewable energy procurement requirements; |
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• | changes in GSWC's long-term customer demand due to changes in customer usage patterns as a result of conservation efforts, regulatory changes affecting demand such as mandatory restrictions on water use, new landscaping or irrigation requirements, recycling of water by customers or purchase of recycled water supplied by other parties, unanticipated population growth or decline, changes in climate conditions, general economic and financial market conditions and cost increases; |
• | changes in accounting treatment for regulated utilities; |
• | effects of changes in or interpretations of tax laws, rates or policies; |
• | changes in estimates used in ASUS’s revenue recognition under the percentage of completion method of accounting for construction activities; |
• | termination, in whole or in part, of one or more of our military utility privatization contracts to provide water and/or wastewater services at military bases for the convenience of the U.S. government or for default; |
• | termination of contracts and suspension or debarment for a period of time from contracting with the government due to violations of federal law or regulations in connection with military utility privatization activities; |
• | delays by the U.S. government in making timely payments to ASUS for water and/or wastewater services at military bases as a result of fiscal uncertainties over the funding of the U.S. government or otherwise; |
• | delays in obtaining redetermination of prices or economic price or equitable adjustments to our prices on one or more of our contracts to provide water and/or wastewater services at military bases; |
• | disallowance of costs on any of our contracts to provide water and/or wastewater services at military bases as a result of audits, cost reviews or investigations by contracting agencies; |
• | inaccurate assumptions used in preparing bids in our contracted services business; |
• | failure of the wastewater systems that we operate on military bases resulting in untreated wastewater or contaminants spilling into nearby properties, streams or rivers; |
• | failure to comply with the terms of our military privatization contracts; |
• | failure of any of our subcontractors to perform services for us in accordance with the terms of our military privatization contracts; |
• | issues with the implementation, maintenance or upgrading of our information technology systems; |
• | general economic conditions which may impact our ability to recover infrastructure investments and operating costs from customers; |
• | explosions, fires, accidents, mechanical breakdowns, the disruption of information technology and telecommunication systems, human error and similar events that may occur while operating and maintaining water and electric systems in California or operating and maintaining water and wastewater systems on military bases under varying geographic conditions; |
• | the impact of storms, earthquakes, floods, mudslides, drought, wildfires, disease and similar natural disasters, or acts of terrorism or vandalism, that affect customer demand or that damage or disrupt facilities, operations or information technology systems owned by us, our customers or third parties on whom we rely; |
• | potential costs, lost revenues, or other consequences resulting from misappropriation of assets or sensitive information, corruption of data, or operational disruption in connection with a cyber-attack or other cyber incident; |
• | restrictive covenants in our debt instruments or changes to our credit ratings on current or future debt that may increase our financing costs or affect our ability to borrow or make payments on our debt; and |
• | our ability to access capital markets and other sources of credit in a timely manner on acceptable terms. |
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Please consider our forward-looking statements in light of these risks as you read this Form 10-K. We qualify all of our forward-looking statements by these cautionary statements.
Item 1A. Risk Factors
You should carefully read the risks described below and other information in this Form 10-K in order to understand certain of the risks of our business.
Our business is heavily regulated and, as a result, decisions by regulatory agencies and changes in laws and regulations can significantly affect our business
GSWC's revenues depend substantially on the rates and fees it charges its customers and the ability to recover its costs on a timely basis, including the ability to recover the costs of purchased water, groundwater assessments, electricity, natural gas, chemicals, water treatment, security at water facilities and preventative maintenance and emergency repairs. Any delays by the CPUC in granting rate relief to cover increased operating and capital costs at our public utilities or delays in obtaining approval of our requests at ASUS for economic price or equitable adjustments or price redeterminations for contracted services from the U.S. government may adversely affect our financial performance. We may file for interim rates in California in situations where there may be delays in granting final rate relief during a general rate case proceeding. If the CPUC approves lower rates, the CPUC will require us to refund to customers the difference between the interim rates and the rates approved by the CPUC. Similarly, if the CPUC approves rates that are higher than the interim rates, the CPUC may authorize us to recover the difference between the interim rates and the final rates. Interim rates may also be granted by the U.S. government should there be delays in the price redetermination process.
Regulatory decisions may also impact prospective revenues and earnings, affect the timing of the recognition of revenues and expenses, may overturn past decisions used in determining our revenues and expenses and could result in impairment charges and customer refunds. Management continually evaluates the anticipated recovery of regulatory assets, liabilities and revenues subject to refund and provides for allowances and reserves as deemed necessary. In the event that our assessment of the probability of recovery through the ratemaking process is incorrect, we will adjust the associated regulatory asset or liability to reflect the change in our assessment or any regulatory disallowances. A change in our evaluation of the probability of recovery of regulatory assets or a regulatory disallowance of all or a portion of our costs could have a material adverse effect on our financial results.
We are also, in some cases, required to estimate future expenses and, in others, we are required to incur the expense before recovering costs. As a result, our revenues and earnings may fluctuate depending on the accuracy of our estimates, the timing of our investments or expenses or other factors. If expenses increase significantly over a short period of time, we may experience delays in recovery of these expenses, the inability to recover carrying costs for these expenses and increased risks of regulatory disallowances or write-offs.
Regulatory agencies may also change their rules and policies which may adversely affect our profitability and cash flows. Changes in policies of the U.S. government may also adversely affect one or more of our Military Utility Privatization Subsidiaries. In certain circumstances, the U.S. government may be unwilling or unable to appropriate funds to pay costs mandated by changes in rules and policies of federal or state regulatory agencies. The U.S. government may disagree with the increases that we request and may delay approval of requests for equitable adjustment or redetermination of prices which could adversely affect our anticipated rates of return.
We may also be subject to fines or penalties if a regulatory agency, including the U.S. government, determines that we have failed to comply with laws, regulations or orders applicable to our businesses, unless we successfully appeal such an adverse determination. Regulatory agencies may also disallow certain costs if audit findings determine that we have failed to comply with our policies and procedures for procurement or other practices.
Our costs involved in maintaining water quality and complying with environmental regulation have increased and are expected to continue to increase
Our capital and operating costs at GSWC can increase substantially as a result of increases in environmental regulation arising from increases in the cost of upgrading and building new water treatment plants, disposing of residuals from our water treatment plants, compliance-monitoring activities and securing alternative supplies when necessary. GSWC may be able to recover these costs through the ratemaking process. We may also be able to recover these costs under settlement and contractual arrangements.
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We may sustain losses that exceed or are excluded from our insurance coverage or for which we are not insured
We are, from time to time, parties to legal or regulatory proceedings. These proceedings may pertain to regulatory investigations, employment matters or other disputes. Management periodically reviews its assessment of the probable outcome of these proceedings, the costs and expenses reasonably expected to be incurred, and the availability and extent of insurance coverage. On the basis of this review, management establishes reserves for such matters. We may, however, from time to time be required to pay fines, penalties or damages that exceed our insurance coverage and/or reserves if our estimate of the probable outcome of such proceedings proves to be inaccurate.
We maintain insurance coverage as part of our overall legal and risk management strategy to minimize our potential liabilities. However, our insurance policies contain exclusions and other limitations that may not cover our potential liabilities. Generally, our insurance policies cover property, workers compensation, employer liability, general liability and automobile liability. Each policy includes deductibles or self-insured retentions and policy limits for covered claims. As a result, we may sustain losses that exceed or that are excluded from our insurance coverage or for which we are not insured.
We have experienced increased costs and difficulties in obtaining insurance coverage for wildfires that could arise from BVES’s ordinary operations. Uninsured losses and increases in the cost of insurance may not be recoverable in customer rates. A loss which is not insured or not fully insured or cannot be recovered in customer rates could materially affect GSWC’s financial condition and results of operations.
Additional Risks Associated with our Public Utility Operations
Our operating costs may increase as a result of groundwater contamination
Our operations can be impacted by groundwater contamination in certain service territories. Historically, we have taken a number of steps to address contamination, including the removal of wells from service, decreasing the amount of groundwater pumped from wells in order to slow the movement of plumes of contaminated water, constructing water treatment facilities and securing alternative sources of supply from other areas not affected by the contamination. In emergency situations, we have supplied our customers with bottled water until the emergency situation has been resolved.
Our ability to recover these types of costs depends upon a variety of factors, including approval of rate increases, the willingness of potentially responsible parties to settle litigation and otherwise address the contamination and the extent and magnitude of the contamination. We may recover costs from certain third parties that may be responsible, or potentially responsible, for groundwater contamination. However, we often experience delays in obtaining recovery of these costs and incur additional costs associated with seeking recovery from responsible or potentially responsible parties which may adversely impact our liquidity. In some events we may be unable to recover all of these costs from third parties due to the inability to identify the potentially responsible parties, the lack of financial resources of responsible parties or the high litigation costs associated with obtaining recovery from responsible or potentially responsible parties.
We can give no assurance regarding the adequacy of any such recovery to offset the costs associated with contamination or the cost of recovery of any legal costs. To date, the CPUC has permitted us to establish memorandum accounts for potential recovery of these types of costs when they arise.
Management believes that rate recovery, proper insurance coverage and reserves are in place to appropriately manage these types of contamination issues. However, such issues, if ultimately resolved unfavorably to us, could, in the aggregate, have a material adverse effect on our results of operations and financial condition.
The adequacy of our water supplies depends upon weather and a variety of other uncontrollable factors
The adequacy of our water supplies varies from year to year depending upon a variety of factors, including:
* | rainfall, basin replenishment, flood control, snow pack levels in California and the West, reservoir levels and availability of reservoir storage; |
* | availability of Colorado River water and imported water from the State Water Project; |
* | the amount of usable water stored in reservoirs and groundwater basins; |
* | the amount of water used by our customers and others; |
* | water quality; |
* | legal limitations on production, diversion, storage, conveyance and use; and |
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* | climate change. |
The extended California drought and changes in weather patterns in the West and population growth in California have caused increased stress on surface water supplies and groundwater basins. In addition, low or no allocations of water from the State Water Project and court-ordered pumping restrictions on water obtained from the Sacramento-San Joaquin Delta decrease or eliminate the amount of water Metropolitan Water District of Southern California ("MWD") and other state water contractors are able to import from northern California.
We have implemented tiered rates and other practices in order to encourage water conservation. We have also implemented programs to assist customers in complying with mandated water usage reductions. Over the long term, we are acting to secure additional supplies from desalination and increase use of reclaimed water, where appropriate and feasible. We cannot predict the extent to which these efforts to reduce stress on our water supplies will be successful or sustainable, or the extent to which these efforts will enable us to continue to satisfy all of the water needs of our customers.
Water shortages at GSWC may:
* | adversely affect our supply mix, for instance, by causing increased reliance upon more expensive water sources; |
* | adversely affect our operating costs, for instance, by increasing the cost of producing water from more highly contaminated aquifers or requiring us to transport water over longer distances, truck water to water systems or adopt other emergency measures to enable us to continue to provide water service to our customers; |
* | result in an increase in our capital expenditures over the long term, for example, by requiring future construction of pipelines to connect to alternative sources of supply, new wells to replace those that are no longer in service or are otherwise inadequate to meet the needs of our customers, and other facilities to conserve or reclaim water; |
* | adversely affect the volume of water sold as a result of such factors as mandatory or voluntary conservation efforts by customers, changes in customer conservation patterns, recycling of water by customers and imposition of new regulations impacting such things as landscaping and irrigation patterns; |
* | adversely affect aesthetic water quality if we are unable to flush our water systems as frequently due to water shortages or drought restrictions; and |
* | result in customer dissatisfaction and harm to our reputation if water service is reduced, interrupted or otherwise adversely affected as a result of the California drought, water contamination or other causes. |
Our liquidity may be adversely affected by changes in water supply costs
We obtain our water supplies for GSWC from a variety of sources, which vary among our water systems. Certain systems obtain all of their supply from water that is pumped from aquifers within our service areas; some systems purchase all of the supply from wholesale suppliers; some systems obtain the supply from treating surface water sources; and other systems obtain the supply from a combination of wells, surface water sources or wholesale suppliers. The cost of obtaining these supplies varies, and overall costs can be impacted as use within a system varies from time to time. As a result, our cost of providing, distributing and treating water for our customers’ use can vary significantly.
Furthermore, imported water wholesalers, such as MWD, may not always have an adequate supply of water to sell to us. Wholesale water suppliers may increase their prices for water delivered to us based on factors that affect their operating costs. Purchased-water rate increases are beyond our control.
GSWC has implemented a modified supply cost balancing account ("MCBA") to track and recover costs from supply mix changes and rate changes by wholesale suppliers, as authorized by the CPUC. However, cash flows from operations can be significantly affected as much of the balance we recognize in the MCBA account is collected from or refunded to customers primarily through surcharges or surcredits, respectively, generally over twelve to eighteen month periods.
Our liquidity and earnings may be adversely affected by maintenance costs
Some of our infrastructure in California is more than fifty years old. We have experienced leaks and mechanical problems in some of these older systems. In addition, well and pump maintenance expenses are affected by labor and material costs and more stringent water discharge requirements. These costs can increase substantially and unexpectedly.
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We include estimated increases in maintenance costs for future years in each general rate case filed by GSWC for possible recovery. We may not recover overages from amounts estimated in rates.
Our liquidity and earnings may be adversely affected by our conservation efforts
Our water utility business is heavily dependent upon revenue generated from rates charged to our residential customers for the volume of water used. The rates we charge for water are regulated by the CPUC and may not be adequately adjusted to reflect changes in demand. Declining usage also negatively impacts our long-term operating revenues if we are unable to secure rate increases or if growth in the residential customer base does not occur to the extent necessary to offset per-customer residential-usage decline.
Conservation by all customer classes at GSWC is a top priority. However, customer conservation will result in lower volumes of water sold. We may experience a decline in per-residential-customer water usage due to factors such as:
* conservation efforts to reduce costs;
* drought conditions resulting in additional water conservation;
* the use of more efficient household fixtures and appliances by consumers to save water;
* voluntary or mandatory changes in landscaping and irrigation patterns; and
* recycling of water by our customers.
These types of changes may result in permanent decreases in demand even if our water supplies are sufficient to meet higher levels of demand after a drought ends. In addition, governmental restrictions on water usage during drought conditions may result in a decreased demand for our water, even if our water reserves are sufficient to serve our customers during such drought conditions.
We implemented a CPUC-approved water-revenue adjustment mechanism ("WRAM") at GSWC, which has the effect of reducing the adverse impact of our customers’ conservation efforts on revenues. However, cash flows from operations can be significantly affected as much of the balance we recognize in the WRAM account is collected from or refunded to customers generally over a twelve, eighteen or thirty-six month period.
Our earnings may be affected by weather during different seasons
The demand for water and electricity varies by season. For instance, there can be a higher level of water consumption during the third quarter of each year when weather in California tends to be hot and dry. During unusually wet weather, our customers generally use less water. The CPUC-approved WRAM helps mitigate fluctuations in revenues due to changes in water consumption by our customers in California.
The demand for electricity in our electric customer service area is greatly affected by winter snow levels. An increase in winter snow levels reduces the use of snowmaking machines at ski resorts in the Big Bear area and, as a result, reduces our electric revenues. Likewise, unseasonably warm weather during a skiing season may result in temperatures too high for snowmaking conditions, which also reduces our electric revenues. GSWC has implemented a CPUC-approved base-revenue-requirement adjustment mechanism for our electric business which helps mitigate fluctuations in the revenues of our electric business due to changes in the amount of electricity used by GSWC’s electric customers.
Our liquidity may be adversely affected by increases in electricity and natural gas prices in California
We generally purchase most of the electric energy sold to customers in our electric customer service area from others under purchased power contracts. In addition to purchased power contracts, we purchase additional energy from the spot market to meet peak demand and following the expiration of purchased power contracts if there are delays in obtaining CPUC authorization of new power purchase contracts. We may sell surplus power to the spot market during times of reduced energy demand. As a result, our cash flows may be affected by increases in spot market prices of electricity purchased and decreases in spot market prices for electricity sold. However, GSWC has implemented supply-cost balancing accounts, as approved by the CPUC, to alleviate any fluctuation to supply costs. We also operate a natural-gas-fueled 8.4 megawatt generator in our electric service area.
Unexpected generator downtime or a failure to perform by any of the counterparties to our electric and natural gas purchase contracts could further increase our exposure to fluctuating natural gas and electricity prices.
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Changes in electricity prices also affect the unrealized gains and losses on our block forward purchased power contracts that qualify as derivative instruments as we adjust the asset or liability on these contracts to reflect the fair market value of the contracts at the end of each month. The CPUC has authorized us to establish a memorandum account to track the changes in the fair market value of our purchased power contracts. As a result, unrealized gains and losses on these types of purchased power contracts do not impact earnings.
We may not be able to procure sufficient renewable energy resources to comply with CPUC rules
We are required to procure a portion of our electricity from renewable energy resources to meet the CPUC’s renewable procurement requirements. We have an agreement with a third party to purchase renewable energy credits which we believe allows us to meet these requirements through 2023. In the event that the third party fails to perform in accordance with the terms of the agreement, we may not be able to obtain sufficient resources to meet the renewable procurement requirements. We may be subject to fines and penalties by the CPUC if the CPUC determines that we are not in compliance with the renewable resource procurement rules.
Our assets are subject to condemnation
Municipalities and other governmental subdivisions may, in certain circumstances, seek to acquire certain of our assets through eminent domain proceedings. It is generally our practice to contest these proceedings, which may be costly and may divert the attention of management from the operation of our business. If a municipality or other governmental subdivision succeeds in acquiring our assets, there is a risk that we will not receive adequate compensation for the assets acquired or be able to recover all charges associated with the condemnation of these assets. In addition, we would no longer be entitled to any portion of revenue generated from the use of such assets.
Our costs of obtaining and complying with the terms of franchise agreements are increasing
Cities and counties in which GSWC operates have granted GSWC franchises to construct, maintain and use pipes and appurtenances in public streets and rights of way. The costs of obtaining, renewing and complying with the terms of these franchise agreements have been increasing as cities and counties attempt to regulate GSWC’s operations within the boundaries of the city or unincorporated areas of the counties in which GSWC operates. Cities and counties have also been attempting to impose new fees on GSWC’s operations, including pipeline abandonment fees and road-cut or other types of capital improvement fees. At the same time, there is increasing opposition from consumer groups to rate increases that may be necessary to compensate GSWC for the increased costs of regulation by local governments. These trends may adversely affect GSWC’s ability to recover its costs of providing water service in rates and to efficiently manage capital expenditures and operating and maintenance expenses within CPUC authorized levels.
The generation, transmission and distribution of electricity are dangerous and involve inherent risks of damage to private property and injury to employees and the general public
Electricity is dangerous for employees and the general public should they come in contact with electrical current or equipment, including through downed power lines or equipment malfunctions. Injuries and property damage caused by such events may subject GSWC to significant liabilities that may not be covered or fully covered by insurance. Additionally, the CPUC has delegated to its staff the authority to issue citations, which carry a fine of $50,000-per-violation per day, to electric utilities subject to its jurisdiction for violations of safety rules found in statutes, regulations, and the General Orders of the CPUC which could also materially affect GSWC's liquidity and results of operations.
We may be subject to financial losses, penalties and other liabilities if we fail to maintain safe work sites
Our safety record is critical to our reputation. We maintain health and safety standards to protect our employees, customers, vendors and the public. Although we intend to adhere to such health and safety standards, it is unlikely that we will be able to avoid accidents at all times.
Our business sites, including construction and maintenance sites, often put our employees and others in close proximity with large pieces of equipment, moving vehicles, pressurized water, chemicals and other regulated materials. On many sites we are responsible for safety and, accordingly, must implement safety procedures. If we fail to implement such procedures or if the procedures we implement are ineffective or are not followed by our employees or others, our employees and others may be injured or die. Unsafe work sites also have the potential to increase our operating costs. Any of the foregoing could result in financial losses, which could have a material adverse impact on our business, financial condition, and results of operations.
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In addition, our operations can involve the handling and storage of hazardous chemicals, which, if improperly handled, stored or disposed of, could subject us to penalties or other liabilities. We are also subject to regulations dealing with occupational health and safety. Although we maintain functional employee groups whose primary purpose is to ensure that we implement effective health, safety, and environmental work procedures throughout our organization, including construction sites and maintenance sites, a failure to comply with such regulations could subject us to liability.
Additional Risks Associated with our Contracted Services
We derive revenues from contract operations primarily from the operation and maintenance of water and/or wastewater systems at military bases and the construction of water and wastewater infrastructure on these bases (including renewal and replacement of these systems). As a result, these operations are subject to risks that are different from those of our public utility operations.
Our 50-year contracts for servicing military bases create certain risks that are different from our public utility operations
We have entered into contracts to provide water and/or wastewater services at military bases pursuant to 50-year contracts, subject to termination, in whole or in part, for the convenience of the U.S. government. In addition, the U.S. government may stop work under the terms of one or more of the contracts, delay performance of our obligations under the contracts or modify the contracts at its convenience.
Our contract pricing was based on a number of assumptions, including assumptions about prices and availability of labor, equipment and materials. We may be unable to recover all costs if any of these assumptions are inaccurate or if all costs incurred in connection with performing the work were not considered. Our contracts are also subject to periodic price adjustments at the time of price redetermination or in connection with economic price adjustments or requests for equitable adjustment or other changes permitted by the terms of the contracts. The contract price for each of these contracts is subject to redetermination every three years following the initial two years of the contracts or economic price adjustments on an annual basis. Prices are also subject to equitable adjustment based upon changes in circumstances, laws or regulations and service-requirement changes with respect to wages and fringe benefits to the extent provided in each of the contracts.
We are required to record all costs under these types of contracts as they are incurred. As a result, we may record losses associated with unanticipated conditions, higher than anticipated infrastructure levels and emergency work at the time such expenses occur. We recognize additional revenue for such work as, and to the extent that, our price redeterminations, economic price adjustments and/or requests for equitable adjustments are approved. Delays in obtaining approval of price redeterminations, economic price adjustments and/or equitable adjustments can negatively impact our results of operations and cash flows.
Certain payments under these contracts are subject to appropriations by Congress. We may experience delays in receiving payment or delays in redetermination of prices or other price adjustments due to canceled or delayed appropriations specific to our projects or reductions in government spending for the military generally or military-base operations specifically. Appropriations and the timing of payment may be influenced by, among other things, the state of the economy, competing political priorities, budget constraints, the timing and amount of tax receipts and the overall level of government expenditures for the military generally or military-base operations specifically.
Management also reviews goodwill for impairment at least annually. ASUS has $1.1 million of goodwill which may be at risk for potential impairment if requested price redeterminations, economic price adjustments and/or equitable adjustments are not granted.
Risks associated with the collection of wastewater are different from those of our water distribution operations
The wastewater-collection-system operations of our subsidiaries providing wastewater services on military bases are subject to substantial regulation and involve significant environmental risks. If collection or sewage systems fail, overflow or do not operate properly, untreated wastewater or other contaminants could spill onto nearby properties or into nearby streams and rivers, causing damage to persons or property, injury to aquatic life and economic damages. The cost of addressing such damages may not be recoverable. This risk is most acute during periods of substantial rainfall or flooding, which are common causes of sewer overflows and system failures. Liabilities resulting from such damage could adversely and materially affect our business, results of operations and financial condition. In the event that we are deemed liable for any damage caused by overflows, our losses may not be recoverable under our contracts with the U.S. government, covered by insurance policies or we may find it difficult to secure insurance for this business in the future at acceptable rates.
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Our contracts for the construction of infrastructure improvements on military bases create risks that are different from those of our operations and maintenance activities
We have entered into contract modifications with the U.S. government and agreements with third parties for the construction of new water and/or wastewater infrastructure at the military bases on which we operate. Most of these contracts are firm fixed-price contracts. Under firm fixed-price contracts, we will benefit from cost savings, but are generally unable (except for changes in scope or circumstances approved by the U.S. government or third party) to recover any cost overruns to the approved contract price. Under most circumstances, the U.S. government or third party has approved increased-cost change orders due to changes in scope of work performed.
We generally recognize revenues from these types of contracts using the percentage-of-completion method of accounting. This accounting practice results in our recognizing contract revenues and earnings ratably over the contract term in proportion to contract costs incurred or the physical completion of the construction projects. The earnings or losses recognized on individual contracts are based on periodic estimates of contract revenues, costs and profitability as these construction projects progress.
We establish prices for these types of firm fixed-price contracts and the overall 50-year contracts taken as a whole, based, in part, on cost estimates that are subject to a number of assumptions, including assumptions regarding future economic conditions. If these estimates prove inaccurate or circumstances change, cost overruns could have a material adverse effect on our contracted business operations and results of operations.
We may be adversely affected by disputes with the U.S. government regarding our performance of contracted services on military bases
We are routinely audited or reviewed by the Defense Contract Auditing Agency (“DCAA”) and/or the Defense Contract Management Agency ("DCMA") for compliance with federal acquisition regulations, cost-accounting standards and other laws, regulations and standards that are not applicable to the operations of GSWC. During the course of these audits/reviews, the DCAA or DCMA may question our incurred project costs or the manner in which we have accounted for such costs and recommend to our U.S. government administrative contracting officer that such costs be disallowed.
If there is a dispute with the U.S. government regarding performance under these contracts or the amounts owed to us, the U.S. government may delay, reject or withhold payment, delay price redeterminations or assert its right to offset damages against amounts owed to us. If we are unable to collect amounts owed to us on a timely basis or the U.S. government asserts its offset rights, profits and cash flows could be adversely affected.
If we fail to comply with the terms of one or more of our U.S. government contracts, other agreements with the U.S. government or U.S. government statutes and regulations, we could also be suspended or barred from future U.S. government contracts for a period of time and be subject to possible damages, fines and penalties and damage to our reputation in the water and wastewater industry.
We depend, to some extent, upon subcontractors to assist us in the performance of contracted services on military bases
We rely, to some extent, on subcontractors to assist us in the operation and maintenance of the water and wastewater systems at military bases. The failure of any of these subcontractors to perform services for us in accordance with the terms of our contracts with the U.S. government could result in the termination of our contract to provide water and/or wastewater services at the affected base(s), a loss of revenues or increases in costs to correct a subcontractor’s performance failures.
We are also required to make a good faith effort to achieve our small business subcontracting plan goals pursuant to U.S. government regulations. If we fail to use good faith efforts to meet these goals, the U.S. government may assess damages against us either at the end of each price redetermination or economic adjustment period or at the end of the contract. The U.S. government has the right to offset claimed damages against any amounts owed to us.
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We also rely on third-party manufacturers, as well as third-party subcontractors, to complete our construction projects. To the extent that we cannot engage subcontractors or acquire equipment or materials, our ability to complete a project in a timely fashion or at a profit may be impaired. If the amount of costs we incur for these projects exceeds the amount we have estimated in our bid, we could experience reduced profits or losses in the performance of these contracts. In addition, if a subcontractor or manufacturer is unable to deliver its services, equipment or materials according to the negotiated terms for any reason, including the deterioration of its financial condition, we may be required to purchase the services, equipment or materials from another source at a higher price. This may reduce the profit to be realized or result in a loss on a project for which the services, equipment or materials were needed.
If these subcontractors fail to perform services to be provided to us or fail to provide us with the proper equipment or materials, we may be penalized for their failure to perform; however, our contracts with these subcontractors include certain protective provisions, which may include the assessment of liquidated damages. We mitigate these risks by requiring our subcontractors, as appropriate, to obtain performance bonds and to compensate us for any penalties we may be required to pay as a result of their failure to perform.
Our earnings may be affected, to some extent, by weather during different seasons
Seasonal weather conditions, such as hurricanes, heavy rainfall or significant winter storms, occasionally cause temporary office closures and/or result in temporary halts to construction activity at military bases. To the extent that our construction activities are impeded by these events, we will experience a delay in recognizing revenues from these construction projects.
We continue to incur costs associated with the expansion of our contract activities
We continue to incur additional costs in connection with the attempted expansion of our contract operations associated with the preparation of bids for new contract operations on prospective and existing military bases. Our ability to recover these costs and to earn a profit on our contract operations will depend upon the extent to which we are successful in obtaining new contracts and recovering these costs and other costs from new contract revenues.
Other Risks
The accuracy of our judgments and estimates about financial and accounting matters will impact our operating results and financial condition
The quality and accuracy of estimates and judgments used have an impact on our operating results and financial condition. If our estimates are not accurate, we will be required to make an adjustment in a future period. We make certain estimates and judgments in preparing our financial statements regarding, among others:
*timing of recovering of WRAM and MCBA regulatory assets;
*amounts to set aside for uncollectible accounts receivable, inventory obsolescence and uninsured losses;
* | our legal exposure and the appropriate accrual for claims, including general liability and workers compensation claims; |
*future costs and assumptions for pensions and other post-retirement benefits;
*regulatory recovery of deferred items; and
*possible tax uncertainties.
Our business requires significant capital expenditures
The utility business is capital intensive. We spend significant sums of money for additions to, or replacement of, our property, plant and equipment at our water and electric utilities. We obtain funds for these capital projects from operations, contributions by developers and others and advances from developers (which are repaid over a period of time at no interest). We also periodically borrow money or issue equity for these purposes. In addition, we have a syndicated bank credit facility that is partially used for these purposes. We cannot provide assurance that these sources will continue to be adequate or that the cost of funds will remain at levels permitting us to earn a reasonable rate of return.
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Our subsidiaries providing water and wastewater services on military bases also expect to incur significant capital expenditures. To the extent that the U.S. government does not reimburse us for these expenditures as the work is performed or completed, the U.S. government will repay us over time.
We may be adversely impacted by economic conditions
Access to external financing on reasonable terms depends, in part, on conditions in the debt and equity markets. When business and market conditions deteriorate, we may no longer have access to the capital markets on reasonable terms. Our ability to obtain funds is dependent upon our ability to access the capital markets by issuing debt or equity to third parties or obtaining funds from our revolving credit facility. In the event of financial turmoil affecting the banking system and financial markets, consolidation of the financial services industry, significant financial service institution failures or our inability to renew or replace our existing revolving credit facility on favorable terms, it may become necessary for us to seek funds from other sources on less favorable terms.
Market conditions and demographic changes may adversely impact the value of our benefit plan assets and liabilities
Market factors can affect assumptions we use in determining funding requirements with respect to our pension and postretirement benefit plans. For example, a relatively modest change in our assumptions regarding discount rates can materially affect our calculation of funding requirements. To the extent that market data compels us to reduce the discount rate used in our assumptions, our benefit obligations could materially increase, which could adversely affect our financial position and our cash flow position. Further, changes in demographics, such as increases in life expectancy assumptions may also increase the funding requirements of our obligations related to the pension and other postretirement benefit plans.
Market conditions also affect the values of the assets that are held in trust to satisfy significant future obligations under our pension and postretirement benefit plans. These assets are subject to market fluctuations, which may cause investment returns to fall below our projected rates of return. A decline in the market value of our pension and postretirement benefit plan assets will increase the funding requirements under our pension and postretirement benefit plans if future returns on these assets are insufficient to offset the decline in value. Future increases in pension and other postretirement costs as a result of the reduced value of plan assets may not be fully recoverable in rates, and our results of operations and financial position could be negatively affected. These risks are mitigated to some extent by the two-way pension balancing account authorized by the CPUC which permits us to track differences between forecasted annual pension expense adopted in rates and actual pension expenses for future recovery or refund to customers.
Payment of our debt may be accelerated if we fail to comply with restrictive covenants in our debt agreements
Our failure to comply with restrictive covenants in our debt agreements could result in an event of default. If the default is not cured or waived, we may be required to repay or refinance this debt before it becomes due. Even if we are able to obtain waivers from our creditors, we may only be able to do so on unfavorable terms.
The price of our Common Shares may be volatile and may be affected by market conditions beyond our control
The trading price of our Common Shares may fluctuate in the future because of the volatility of the stock market and a variety of other factors, many of which are beyond our control. Factors that could cause fluctuations in the trading price of our Common Shares include: regulatory developments; general economic conditions and trends; price and volume fluctuations in the overall stock market from time to time; actual or anticipated changes or fluctuations in our results of operations; actual or anticipated changes in the expectations of investors or securities analysts; actual or anticipated developments in other utilities' businesses or the competitive landscape generally; litigation involving us or our industry; and major catastrophic events or sales of large blocks of our stock.
AWR is a holding company that depends on cash flow from its subsidiaries to meet its financial obligations and to pay dividends on its Common Shares
As a holding company, our subsidiaries conduct substantially all operations and our only significant assets are investments in our subsidiaries. This means that we are dependent on distributions of funds from our subsidiaries to meet our debt service obligations and to pay dividends on our Common Shares.
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Our subsidiaries are separate and distinct legal entities and generally have no obligation to pay any amounts due on our credit facility. Our subsidiaries only pay dividends if and when declared by the subsidiary board. Moreover, GSWC is obligated to give first priority to its own capital requirements and to maintain a capital structure consistent with that determined to be reasonable by the CPUC in its most recent decision on capital structure in order that customers not be adversely affected by the holding company structure. Furthermore, our right to receive cash or other assets in the unlikely event of liquidation or reorganization of any of our subsidiaries is generally subject to the prior claims of creditors of that subsidiary. If we are unable to obtain funds from a subsidiary in a timely manner, we may be unable to meet our financial obligations, make additional investments or pay dividends.
Failure to attract, retain, train, motivate, develop and transition key employees could adversely affect our business
In order to be successful, we must attract, retain, train, motivate, and develop key employees, including those in managerial, operational, financial, business-development and information-technology support positions. Our regulated business and contracted services operations are complex. Attracting and retaining high quality staff allows us to minimize the cost of providing quality service. In order to attract and retain key employees in a competitive marketplace, we must provide a competitive compensation package and be able to effectively recruit qualified candidates. The failure to successfully hire key employees or the loss of a material number of key employees could have a significant impact on the quality of our operations in the short term. Further, changes in our management team may be disruptive to our business, and any failure to successfully transition key new hires or promoted employees could adversely affect our business and results of operations.
We must successfully maintain and/or upgrade our information technology systems as we are increasingly dependent on the continuous and reliable operation of these systems
We rely on various information technology systems to manage our operations. Such systems require periodic modifications, upgrades and/or replacement, which subject us to inherent costs and risks including potential disruption of our internal control structure, substantial capital expenditures, additional administration and operating expenses, retention of sufficiently skilled personnel to implement and operate the new systems, and other risks and costs of delays or difficulties in transitioning to new systems or of integrating new systems into our current systems. In addition, the difficulties with implementing new technology systems may cause disruptions in our business operations and have an adverse effect on our business and operations, if not anticipated and appropriately mitigated.
We rely on our computer, information and communications technology systems in connection with the operation of our business, especially with respect to customer service and billing, accounting and, in some cases, the monitoring and operation of our treatment, storage and pumping facilities. Our computer and communications systems and operations could be damaged or interrupted by weather, natural disasters, telecommunications failures or acts of war or terrorism or similar events or disruptions. Any of these or other events could cause system interruption, delays and loss of critical data or delay or prevent operations and adversely affect our financial results.
Security risks, data protection breaches and cyber-attacks could disrupt our internal operations, and any such disruption could increase our expenses, damage our reputation and adversely affect our stock price
There have been an increasing number of cyber-attacks on companies around the world, which have caused operational failures or compromised sensitive corporate or customer data. These attacks have occurred over the internet, through malware, viruses or attachments to e-mails or through persons inside the organization or with access to systems inside the organization. Although we do not believe that our systems are at a materially greater risk of cyber security attacks than other similar organizations, our information technology systems remain vulnerable to damage or interruption from:
* | computer viruses; |
* | malware; |
* | hacking; and |
* | denial of service actions. |
We have implemented security measures and will continue to devote significant resources to address any security vulnerabilities in an effort to prevent cyber-attacks. Despite our efforts, we cannot be assured that a cyber-attack will not cause water, wastewater or electric system problems, disrupt service to our customers, compromise important data or systems or result in unintended release of customer or employee information. Moreover, if a computer security breach affects our systems or results in the unauthorized release of sensitive data, our reputation could be materially damaged. We could also be exposed to a risk of loss or litigation and possible liability.
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Our operations are geographically concentrated in California
Although we operate water and wastewater facilities in a number of states, our operations are concentrated in California, particularly Southern California. As a result, our financial results are largely subject to political, water supply, labor, utility cost and regulatory risks, economic conditions, natural disasters and other risks affecting California.
We operate in areas subject to natural disasters or that may be the target of terrorist activities
We operate in areas that are prone to earthquakes, fires, mudslides, hurricanes, tornadoes, flooding and other natural disasters. While we maintain insurance policies to help reduce our financial exposure, a significant seismic event in Southern California, where GSWC's operations are concentrated, or other natural disasters in any of the areas that we serve could adversely impact our ability to deliver water and electricity or provide wastewater service and adversely affect our costs of operations. With respect to GSWC, the CPUC has historically allowed utilities to establish a catastrophic event memorandum account to potentially recover such costs.
Terrorists could seek to disrupt service to our customers by targeting our assets. We have invested in additional security for facilities throughout our regulated service areas to mitigate the risks of terrorist activities. We also may be prevented from providing water and/or wastewater services at the military bases we serve in times of military crisis affecting these bases.
The final determination of our income tax liability may be materially different from our income tax provision
Significant judgment is required in determining our provision for income taxes. Our calculation of the provision for income taxes is subject to our interpretation of applicable business tax laws in the jurisdictions in which we file. In addition, our income tax returns are subject to periodic examination by the Internal Revenue Service and other taxing authorities.
In December 2014, the Company changed its tax method of accounting to permit the expensing of qualifying utility asset improvement costs that were previously being capitalized and depreciated for tax purposes. As a result of the change, which included a cumulative adjustment for 2013 and prior years, the Company deducted a significant amount of asset costs that consisted primarily of water mains and connections. Our determination of costs that qualify as a capital asset versus a tax deduction for utility asset improvements is subject to subsequent adjustment arising from review by taxing authorities, and may impact the deductions that have been taken on recently filed income tax returns. Although we believe our income tax estimates are appropriate, there is no assurance that the final determination of our current taxes payable will not be materially different, either higher or lower, from the amounts reflected in our financial statements. In the event we are assessed additional income taxes, our financial condition and cash flows could be adversely affected.
Item 1B. Unresolved Staff Comments
None.
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Item 2. Properties
Water Properties
As of December 31, 2015, GSWC’s physical properties consisted of water transmission and distribution systems which included 2,820 miles of pipeline together with services, meters and fire hydrants and approximately 425 parcels of land, generally less than one acre each, on which are located wells, pumping plants, reservoirs and other water utility facilities, including four surface water treatment plants. GSWC also has franchises, easements and other rights of way for the purpose of accessing wells and tanks and constructing and using pipes and appurtenances for transmitting and distributing water. All of GSWC's properties are located in California.
As of December 31, 2015, GSWC owned 238 wells, of which 191 are active operable wells equipped with pumps with an aggregate production capacity of approximately 203 million gallons per day. GSWC has 63 connections to the water distribution facilities of the MWD and other municipal water agencies. GSWC’s storage reservoirs and tanks have an aggregate capacity of approximately 113.6 million gallons. GSWC owns no dams. The following table provides information regarding the water utility plant of GSWC:
Pumps | Distribution Facilities | Reservoirs | ||||||||||||||||||
Well | Booster | Mains* | Services | Hydrants | Tanks | Capacity* | ||||||||||||||
238 | 384 | 2,820 | 260,321 | 25,658 | 141 | 113,554 | (1) | |||||||||||||
* Reservoir capacity is measured in thousands of gallons. Mains are in miles.
(1) GSWC has additional capacity in its Bay Point system through an exclusive capacity right to use 4.4 million gallons from a treatment plant owned by the Contra Costa Water District. GSWC also has additional reservoir capacity through an exclusive right to use an eight-million-gallon reservoir, one-half of another eight-million-gallon reservoir, and one-half of a treatment plant’s capacity, all owned by the Three Valleys Municipal Water District, to serve the cities of Claremont and San Dimas.
Electric Properties
GSWC’s electric properties are located in the Big Bear area of San Bernardino County, California. As of December 31, 2015, GSWC owned and operated 30.23 miles of overhead 34.5 kilovolt (“kv”) transmission lines, 1.42 miles of underground 34.5 kv transmission lines, 183.78 miles of 4.16 kv or 2.4 kv distribution lines, 54.2 miles of underground cable, 13 sub-stations and a natural-gas-fueled 8.4 MW peaking generation facility. GSWC also has franchises, easements and other rights of way for the purpose of constructing and using poles, wires and other appurtenances for transmitting electricity.
Adjudicated and Other Water Rights
GSWC owns groundwater and surface water rights in California. Groundwater rights are further subject to classification as either adjudicated or unadjudicated rights. Adjudicated rights have been subjected to comprehensive litigation in the courts, are typically quantified and are actively managed for optimization and sustainability of the resource. Surface water rights are quantified and managed by the State Water Resources Control Board, unless they originated prior to 1914. As of December 31, 2015, GSWC had adjudicated groundwater rights and surface water rights of 74,332 and 11,335 acre feet per year, respectively. GSWC also has a number of unadjudicated groundwater rights, which have not been quantified and are not subject to predetermined limitations, but are typically measured by historical usage.
Office Buildings
Registrant owns its general headquarters facilities in San Dimas, California. GSWC also owns and leases certain facilities that house district and customer service offices. ASUS leases office facilities in California, Georgia, Virginia and North Carolina. However, in 2015, ASUS entered into an agreement to sublet its office facility in California to a third party, which expires in August 2017. TUS rents a temporary service center facility in Maryland, pending the completion of a facility expected to be constructed at that location. FBWS has a ten-year, renewable, no-cost license for use of space in a U.S. government building at Fort Bliss as a service center. PSUS, ODUS and ONUS own service centers in South Carolina, Virginia and North Carolina, respectively.
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Mortgage and Other Liens
As of December 31, 2015, neither AWR, GSWC, nor ASUS, or any of its subsidiaries, had any mortgage debt or liens securing indebtedness outstanding.
Under the terms of certain debt of AWR and GSWC, AWR and GSWC are prohibited from issuing any secured debt, without providing equal and ratable security to the holders of this existing debt.
Condemnation of Properties
The laws of the state of California provide for the acquisition of public utility property by governmental agencies through their power of eminent domain, also known as condemnation, where doing so is necessary and in the public interest. In addition, these laws provide that the owner of utility property (i) may contest whether the condemnation is actually necessary and in the public interest, and (ii) is entitled to receive the fair market value of its property if the property is ultimately taken.
Claremont System:
On November 4, 2014, voters in the City of Claremont ("Claremont" or "the City") approved a measure authorizing the issuance of $135.0 million in water revenue bonds by the City to finance the acquisition of GSWC's Claremont water system. On December 9, 2014, the City filed an eminent domain lawsuit against GSWC. GSWC does not believe the seizure is necessary and continues to vigorously defend against the potential condemnation. The eminent domain Right to Take trial is scheduled to begin on June 13, 2016. At this time, management cannot predict the outcome of the eminent domain proceeding. The Claremont water system has a net book value of approximately $49.3 million. GSWC serves approximately 11,000 customers in Claremont.
Ojai System:
In March 2013, the Casitas Municipal Water District ("CMWD") passed resolutions under the Mello-Roos Communities Facilities District Act of 1982 ("Mello-Roos Act") authorizing the establishment of a Community Facilities District, and the issuance of bonds to finance the potential acquisition of GSWC’s Ojai system through eminent domain. At this time, management cannot predict the potential for an eminent domain proceeding. GSWC serves approximately 3,000 customers in Ojai.
Environmental Clean-Up and Remediation of Properties
GSWC has been involved in environmental remediation and cleanup at a plant site ("Chadron Plant") that contained an underground storage tank which was used to store gasoline for its vehicles. This tank was removed from the ground in July 1990 along with the dispenser and ancillary piping. Since then, GSWC has been involved in various remediation activities at this site. Analysis indicates that offsite monitoring wells may also be necessary to document effectiveness of remediation.
GSWC has accrued an estimated liability which includes costs for two years of continued activities of groundwater cleanup and monitoring, future soil treatment and site-closure-related activities. The ultimate cost may vary as there are many unknowns in remediation of underground gasoline spills and the estimated liability is based on currently available information. Management also believes it is probable that the estimated additional costs will be approved in rate base by the CPUC.
Item 3. Legal Proceedings
On December 9, 2014, the City of Claremont filed an eminent domain lawsuit in the County of Los Angeles Superior Court against GSWC (City of Claremont v. Golden State Water Company, Case No. BC 566125) to acquire the portion of GSWC's system which serves the City of Claremont. GSWC is vigorously contesting this action.
Registrant is subject to ordinary routine litigation incidental to its business. Management believes that rate recovery, proper insurance coverage and reserves are in place to insure against property, general liability and workers compensation claims incurred in the ordinary course of business. Registrant is unable to predict an estimate of the loss, if any, resulting from any pending suits or administrative proceedings.
Item 4. Mine Safety Disclosure
Not applicable.
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PART II
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Stock Performance Graph
The graph below compares the cumulative 5-year total return provided shareholders on American States Water Company's Common Shares relative to the cumulative total returns of the S&P 500 index and a customized peer group of eight companies. The eight companies included in the Company's customized peer group are: American Water Works Company Inc., Aqua America Inc., Artesian Resources Corp, California Water Service Group, Connecticut Water Service Inc., Middlesex Water Company, York Water Company and SJW Corp.
An investment of $100 (with reinvestment of all dividends) is assumed to have been made in our Common Shares, and in the common stock in the index and in the peer group on December 31, 2010. Relative performance is tracked through December 31, 2015.
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
among American States Water Company, the S&P 500 Index,
and a Peer Group
*$100 invested on December 31, 2010 in stock or index, including reinvestment of dividends.
Fiscal year ending December 31.
Copyright©2016 S&P, a division of McGraw Hill Financial. All rights reserved.
12/2010 | 12/2011 | 12/2012 | 12/2013 | 12/2014 | 12/2015 | ||||||||||||||||||
American States Water Company | $ | 100.00 | $ | 104.54 | $ | 148.29 | $ | 182.46 | $ | 245.77 | $ | 279.96 | |||||||||||
S&P 500 | $ | 100.00 | $ | 102.11 | $ | 118.45 | $ | 156.82 | $ | 178.29 | $ | 180.75 | |||||||||||
Peer Group | $ | 100.00 | $ | 114.09 | $ | 134.47 | $ | 158.27 | $ | 192.68 | $ | 217.32 | |||||||||||
The stock price performance included in this graph is not necessarily indicative of future stock price performance.
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Market Information Relating to Common Shares
Common Shares of American States Water Company are traded on the New York Stock Exchange (“NYSE”) under the symbol “AWR”. The intra-day high and low NYSE prices on the Common Shares for each quarter during the past two years, were:
Stock Prices | |||||||
High | Low | ||||||
2015 | |||||||
First Quarter | $ | 41.73 | $ | 36.86 | |||
Second Quarter | $ | 40.70 | $ | 35.87 | |||
Third Quarter | $ | 41.84 | $ | 35.80 | |||
Fourth Quarter | $ | 44.14 | $ | 39.67 | |||
2014 | |||||||
First Quarter | $ | 32.97 | $ | 27.02 | |||
Second Quarter | $ | 33.27 | $ | 27.82 | |||
Third Quarter | $ | 34.00 | $ | 30.11 | |||
Fourth Quarter | $ | 38.74 | $ | 30.26 | |||
The closing price of the Common Shares of American States Water Company on the NYSE on February 22, 2016 was $46.84.
Approximate Number of Holders of Common Shares
As of February 22, 2016, there were 2,434 holders of record of the 36,523,179 outstanding Common Shares of American States Water Company. AWR owns all of the outstanding Common Shares of GSWC and ASUS. ASUS owns all of the outstanding stock of the Military Utility Privatization Subsidiaries.
Frequency and Amount of Any Dividends Declared and Dividend Restrictions
For the last two years, AWR has paid dividends on its Common Shares on or about March 1, June 1, September 1 and December 1. The following table lists the amounts of dividends paid on Common Shares of American States Water Company:
2015 | 2014 | ||||||
First Quarter | $ | 0.2130 | $ | 0.2025 | |||
Second Quarter | $ | 0.2130 | $ | 0.2025 | |||
Third Quarter | $ | 0.2240 | $ | 0.2130 | |||
Fourth Quarter | $ | 0.2240 | $ | 0.2130 | |||
Total | $ | 0.8740 | $ | 0.8310 | |||
AWR’s ability to pay dividends is subject to the requirement in its $100.0 million revolving credit facility to maintain compliance with all covenants described in footnote (14) to the table in the section entitled “Contractual Obligations, Commitments and Off Balance Sheet Arrangements” included in Part II, Item 7, in Management’s Discussion and Analysis of Financial Condition and Results of Operation. GSWC’s maximum ability to pay dividends is restricted by certain Note Agreements to the sum of $21.0 million plus 100% of consolidated net income from certain dates plus the aggregate net cash proceeds received from capital stock offerings or other instruments convertible into capital stock from various dates. Under the most restrictive of the Note Agreements, $353.3 million was available from GSWC to pay dividends to AWR as of December 31, 2015. GSWC is also prohibited under the terms of senior notes from paying dividends if, after giving effect to the dividend, its total indebtedness to capitalization ratio (as defined) would be more than 0.6667-to-1. GSWC would have to issue additional debt of $499.4 million to invoke this covenant as of December 31, 2015.
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Under California law, AWR, GSWC and ASUS are each permitted to distribute dividends to its shareholders and repurchase its shares so long as the Board of Directors determines, in good faith, that either: (i) the value of the corporation’s assets equals or exceeds the sum of its total liabilities immediately after the dividend, or (ii) its retained earnings equals or exceeds the amount of the distribution. Under the least restrictive of the California tests, approximately $220.9 million was available to pay dividends to AWR’s common shareholders and repurchase shares from AWR’s common shareholders at December 31, 2015. Approximately $184.9 million was available for GSWC to pay dividends to AWR at December 31, 2015. ASUS's ability to pay dividends is subject to the ability of each of its subsidiaries to pay dividends to it, which may, in turn, be restricted by the laws under the states in which the applicable subsidiary was formed.
AWR paid $32.7 million in dividends to shareholders for the year ended December 31, 2015, as compared to $32.1 million for the year ended December 31, 2014. GSWC paid dividends of $62.0 million and $52.0 million to AWR in 2015 and 2014, respectively. ASUS did not pay dividends to AWR in 2015 or 2014. AWR paid $72.9 million and $17.2 million to repurchase its Common Shares in 2015 and 2014, respectively.
Other Information
The shareholders of AWR have approved the material features of all equity-compensation plans under which AWR directly issues equity securities. AWR did not directly issue any unregistered equity securities during 2015.
The following table provides information about AWR repurchases of its Common Shares during the fourth quarter of 2015:
Period | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (1) | Maximum Number of Shares That May Yet Be Purchased under the Plans or Programs (1)(3) | |||||||||
October 1—31, 2015 | 1,285 | $ | 41.71 | — | 238,147 | ||||||||
November 1—30, 2015 | 239,484 | $ | 40.55 | 238,147 | — | ||||||||
December 1—31, 2015 | 26,649 | $ | 41.00 | — | — | ||||||||
Total | 267,418 | (2) | $ | 40.60 | 238,147 | ||||||||
(1) On May 19, 2015, AWR's Board of Directors approved a stock repurchase program to purchase up to 1.2 million shares of its Common Shares through June 30, 2017. AWR also from time to time purchases its Common Shares for employees pursuant to AWR's 401(k) plan and for participants in its Common Share Purchase and Dividend Reinvestment Plan.
(2) Of this amount, 21,000 Common Shares were acquired on the open market for employees pursuant to AWR's 401(k) Plan and 8,270 Common Shares were acquired on the open market for participants in the Common Share Purchase and Dividend Reinvestment Plan.
(3) Neither the 401(k) plan nor the Common Share Purchase and Dividend Reinvestment Plan contains a maximum number of common shares that may be purchased in the open market.
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Item 6. Selected Financial Data
AMERICAN STATES WATER COMPANY (AWR):
(in thousands, except per share amounts) | 2015 | 2014 | 2013 | 2012 | 2011 | |||||||||||||||
Income Statement Information: | ||||||||||||||||||||
Total Operating Revenues | $ | 458,641 | $ | 465,791 | $ | 472,077 | $ | 466,908 | $ | 419,913 | ||||||||||
Total Operating Expenses | 340,152 | 346,746 | 353,005 | 355,814 | 324,809 | |||||||||||||||
Operating Income | 118,489 | 119,045 | 119,072 | 111,094 | 95,104 | |||||||||||||||
Interest Expense | 21,088 | 21,617 | 22,415 | 22,765 | 23,681 | |||||||||||||||
Interest Income | 458 | 927 | 707 | 1,333 | 859 | |||||||||||||||
Income from Continuing Operations | $ | 60,484 | $ | 61,058 | $ | 62,686 | $ | 54,148 | $ | 42,010 | ||||||||||
Income from Discontinued Operations, net of tax (2) | $ | — | $ | — | $ | — | $ | — | $ | 3,849 | ||||||||||
Basic Earnings per Common Share (1): | ||||||||||||||||||||
Income from Continuing Operations | $ | 1.61 | $ | 1.57 | $ | 1.61 | $ | 1.42 | $ | 1.12 | ||||||||||
Income from Discontinued Operations (2) | — | — | — | — | 0.10 | |||||||||||||||
Total | $ | 1.61 | $ | 1.57 | $ | 1.61 | $ | 1.42 | $ | 1.22 | ||||||||||
Fully Diluted Earnings per Common Share (1): | ||||||||||||||||||||
Income from Continuing Operations | $ | 1.60 | $ | 1.57 | $ | 1.61 | $ | 1.41 | $ | 1.11 | ||||||||||
Income from Discontinued Operations (2) | — | — | — | — | 0.10 | |||||||||||||||
Total | $ | 1.60 | $ | 1.57 | $ | 1.61 | $ | 1.41 | $ | 1.21 | ||||||||||
Average Shares Outstanding | 37,389 | 38,658 | 38,639 | 37,998 | 37,386 | |||||||||||||||
Average number of Diluted Shares Outstanding | 37,614 | 38,880 | 38,869 | 38,262 | 37,674 | |||||||||||||||
Dividends Declared per Common Share | $ | 0.874 | $ | 0.831 | $ | 0.760 | $ | 0.635 | $ | 0.550 | ||||||||||
Balance Sheet Information: | ||||||||||||||||||||
Total Assets (3) | $ | 1,348,600 | $ | 1,378,298 | $ | 1,310,183 | $ | 1,280,943 | $ | 1,238,362 | ||||||||||
Common Shareholders’ Equity | 465,945 | 506,801 | 492,404 | 454,579 | 408,666 | |||||||||||||||
Long-Term Debt | 325,541 | 325,798 | 326,079 | 332,463 | 340,395 | |||||||||||||||
Total Capitalization | $ | 791,486 | $ | 832,599 | $ | 818,483 | $ | 787,042 | $ | 749,061 | ||||||||||
GOLDEN STATE WATER COMPANY (GSWC):
(in thousands) | 2015 | 2014 | 2013 | 2012 | 2011 | |||||||||||||||
Income Statement Information: | ||||||||||||||||||||
Total Operating Revenues | $ | 364,550 | $ | 361,059 | $ | 358,540 | $ | 342,931 | $ | 336,725 | ||||||||||
Total Operating Expenses | 264,141 | 261,317 | 256,197 | 256,326 | 253,047 | |||||||||||||||
Operating Income | 100,409 | 99,742 | 102,343 | 86,605 | 83,678 | |||||||||||||||
Interest Expense | 20,998 | 21,524 | 22,287 | 22,609 | 23,292 | |||||||||||||||
Interest Income | 440 | 894 | 615 | 1,293 | 801 | |||||||||||||||
Net Income | $ | 47,591 | $ | 47,857 | $ | 48,642 | $ | 39,220 | $ | 34,822 | ||||||||||
Balance Sheet Information: | ||||||||||||||||||||
Total Assets (3) | $ | 1,276,520 | $ | 1,282,374 | $ | 1,233,381 | $ | 1,214,052 | $ | 1,173,383 | ||||||||||
Common Shareholder’s Equity | 423,730 | 435,190 | 437,613 | 416,257 | 384,806 | |||||||||||||||
Long-Term Debt | 325,541 | 325,798 | 326,079 | 332,463 | 340,395 | |||||||||||||||
Total Capitalization | $ | 749,271 | $ | 760,988 | $ | 763,692 | $ | 748,720 | $ | 725,201 | ||||||||||
(1) On September 3, 2013, a two-for-one stock split became effective. The number of shares outstanding, and basic and diluted earnings per share (“EPS”) have been restated for all periods presented above to reflect the stock split.
(2) In May 2011, AWR completed its sale of Chaparral City Water Company (“CCWC”) and recorded a gain on the sale (net of taxes and transaction costs) of approximately $2.2 million, or $0.06 per share. The results of CCWC for 2011 have been presented as a discontinued operation.
(3) Registrant adopted Accounting Standards Update 2015-17, Balance Sheet Classification of Deferred Taxes, as of December 31, 2015 on a prospective basis, whereby all deferred tax assets and liabilities are classified as noncurrent on the Registrant's balance sheet. Prior periods were not retrospectively adjusted.
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation
The following discussion and analysis provides information on AWR’s consolidated operations and assets, and where necessary, includes specific references to AWR’s individual segments and/or its subsidiaries: GSWC and ASUS and its subsidiaries. Included in the following analysis is a discussion of water and electric gross margins. Water and electric gross margins are computed by subtracting total supply costs from total revenues. Registrant uses these gross margins and related percentages as an important measure in evaluating its operating results. Registrant believes this measure is a useful internal benchmark in evaluating the performance of GSWC.
The discussions and tables included in the following analysis also present Registrant’s operations in terms of earnings per share by business segment. Registrant believes that the disclosure of earnings per share by business segment provides investors with clarity surrounding the performance of its different services. Registrant reviews these measurements regularly and compares them to historical periods and to its operating budget. However, these measures, which are not presented in accordance with Generally Accepted Accounting Principles (“GAAP”), may not be comparable to similarly titled measures used by other entities and should not be considered as an alternative to operating income or earnings per share, which are determined in accordance with GAAP. A reconciliation of water and electric gross margins to the most directly comparable GAAP measures is included in the table under the section titled “Operating Expenses: Supply Costs.” Reconciliations to AWR’s diluted earnings per share are included in the discussions under the sections titled “Summary Results by Segment.”
Overview
GSWC's revenues, operating income and cash flows are earned primarily through delivering potable water to homes and businesses in California and the delivery of electricity in the Big Bear area of San Bernardino County, California. Rates charged to GSWC customers are determined by the CPUC. These rates are intended to allow recovery of operating costs and a reasonable rate of return on capital. Factors affecting the financial performance of GSWC are described under Forward-Looking Information and Risk Factors and include: the process and timing of setting rates charged to customers; the ability to recover, and the process for recovering in rates, the costs of distributing water and electricity and overhead costs; pressures on water supply caused by the drought in California, changing weather patterns in the West, population growth, more stringent water quality standards and deterioration in water quality and water supply from a variety of causes; fines, penalties and disallowances by the CPUC arising from failures to comply with regulatory requirements; the impact of increased water-quality standards and environmental regulations on the cost of operations and capital expenditures; changes in long-term customer demand due to changes in usage patterns as a result of conservation efforts, mandatory regulatory changes impacting the use of water, such as mandatory restrictions on water use, new landscaping or irrigation requirements, recycling of water by customers and purchases of recycled water by customers from other third parties; capital expenditures needed to upgrade water systems; increased costs and risks associated with litigation relating to water quality and water supply, including suits initiated by GSWC to protect its water supply and condemnation actions initiated by municipalities; fines, penalties and liabilities arising from failure to comply with health and safety standards and other liabilities related to hazards associated with electricity and chemicals used in our business; and increased costs and difficulties in obtaining insurance protecting BVES from wildfires in its service territory. GSWC plans to continue to seek additional rate increases in future years from the CPUC to recover operating and supply costs and receive reasonable returns on invested capital. Capital expenditures in future years at GSWC are expected to remain at higher levels than depreciation expense. When necessary, GSWC obtains funds from external sources in the capital markets and through bank borrowings.
ASUS's revenues, operating income and cash flows are earned by providing water and/or wastewater services, including the operation, maintenance, renewal and replacement of the water and/or wastewater systems at various military installations pursuant to 50-year firm, fixed-price contracts. The contract price for each of these contracts is subject to prospective price redeterminations or economic price adjustments. Additional revenues generated by contract operations are primarily dependent on new construction activities under contract modifications with the U.S. government or agreements with other third-party prime contractors. As a result, ASUS is subject to risks that are different from those of GSWC. Factors affecting the financial performance of the Military Utility Privatization Subsidiaries are described under Forward-Looking Information and under Risk Factors and include delays in receiving payments from, and the redetermination and economic price or equitable adjustment of prices under, contracts with the U.S. government; fines, penalties or disallowance of costs by the U.S. government; and termination of contracts and suspension or debarment for a period of time from contracting with the government due to violations of federal statutes and regulations in connection with military utility privatization activities. ASUS's financial performance is also dependent upon its ability to accurately estimate costs in bidding on firm fixed-price contracts for additional construction work at existing bases and the costs of seeking new contracts for the operation and maintenance and renewal and replacement of water and/or wastewater systems at military bases. ASUS is actively pursuing utility privatization contracts of other military bases to expand the contracted services segment.
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During the third quarter of 2015, ASUS received retroactive contract modifications from the U.S. government for price redeterminations related to Joint Base Andrews, Fort Jackson and the military bases in Virginia. As a result, included in earnings for the year ended December 31, 2015 was approximately $3.0 million in retroactive revenues related to these redeterminations for prior periods.
In 2014 and 2015, AWR's Board of Directors approved two stock repurchase programs, authorizing AWR to repurchase up to 2.45 million shares of AWR's Common Shares. Both stock repurchase programs were completed in 2015. The repurchase programs were intended to enable AWR to achieve a consolidated shareholders’ equity ratio (as a percentage of total capitalization) that is more reflective of the current CPUC-authorized equity ratio for GSWC and an equity ratio for ASUS that is more consistent with firms in the government contracting industry. As a result, AWR repurchased 1.9 million and 545,000 shares of its stock in 2015 and 2014, respectively, resulting in reduced weighted-average shares outstanding on a diluted basis in both periods, which positively benefited earnings per share in 2015 and 2014. As of December 31, 2015, the equity ratio as a percent of total capitalization was 59%.
Summary Results by Segment
The table below sets forth diluted earnings per share by business segment for AWR’s operations:
Diluted Earnings per Share | |||||||||||
Year Ended | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | |||||||||
Water | $ | 1.19 | $ | 1.16 | $ | 0.03 | |||||
Electric | 0.07 | 0.07 | — | ||||||||
Contracted services | 0.32 | 0.31 | 0.01 | ||||||||
AWR (parent) | 0.02 | 0.03 | (0.01 | ) | |||||||
Totals from operations, as reported | $ | 1.60 | $ | 1.57 | $ | 0.03 | |||||
For the year ended December 31, 2015, fully diluted earnings per share for the water segment increased by $0.03 per share to $1.19 per share, as compared to $1.16 per share for 2014. The discussion below includes the items which impacted the comparability of the two periods. The discussion excludes the effects of a decrease in water surcharges billed to customers to recover previously incurred costs, which resulted in lower water revenues of approximately $2.0 million with a corresponding decrease in operating expenses and, therefore, had no impact on operating income.
• | The water gross margin increased by $1.2 million primarily as a result of CPUC-approved third-year rate increases and advice letter filings for the completion of certain capital projects not previously included in rates. These increases were partially offset by $1.4 million of under-collections in the 2015 Water Revenue Adjustment Mechanism ("WRAM") not recorded as revenue, as this amount is estimated to not be fully collectable within 24 months following the end of the year under current CPUC amortization guidelines. Under the accounting guidance for alternative revenue programs such as the WRAM, GSWC is required to collect its WRAM balances, net of MCBA, within 24 months following the year in which they are recorded. Due to the state-mandated water-conservation targets, lower water usage has resulted in an increase in under-collections recorded in the 2015 WRAM accounts. Based on the CPUC guidelines, some of GSWC's ratemaking areas will have recovery periods greater than 24 months. This accounting guidance impacts the timing of when WRAM revenues are recorded, but not the collectability; therefore, the $1.4 million will be recognized as revenue in future periods as it becomes collectable within 24 months. |
• | Excluding supply costs, there was an increase in operating expenses of approximately $1.0 million due primarily to increases in maintenance costs and depreciation expense. These increases in operating expenses were partially offset by lower other operation-related costs, such as water treatment, mainly as a result of decreases in water usage and pumped water. |
• | An increase in earnings per share for the water segment due to the Company’s stock repurchase programs in 2014 and 2015 was partially offset by a decrease in other income, net of other expenses (including interest), of $637,000 due to a decrease in interest income as well as a decrease in gains on investments held for a retirement benefit plan resulting from market conditions during 2015. |
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For the years ended December 31, 2015 and 2014, diluted earnings from the electric segment were $0.07 per share. Third-year rate increases approved by the CPUC were mostly offset by an increase in operating expenses mainly attributable to costs associated with energy-efficiency and solar-initiative programs approved by the CPUC. The costs of these programs have been included in customer rates equally over the rate cycle. The spending of such funds increased in 2015 due to the delay in receiving the final decision in November 2014 of the BVES rate case, which authorized these programs.
For the year ended December 31, 2015, diluted earnings from contracted services were $0.32 per share, compared to $0.31 per share for the same period in 2014. Impacting the comparability of the two periods were the following items:
• | An increase of $2.6 million in operations and maintenance ("O&M") management fees in 2015 as a result of successful resolutions of various price redeterminations received during the third quarter of 2015. These price redeterminations included an increase of $1.2 million in retroactive O&M management fees, as compared to the retroactive impact for the price redeterminations received in the same period of 2014. |
• | An increase in operating expenses of $2.0 million primarily due to an increase in labor, insurance and other outside services costs. |
• | An overall decrease in construction activity reducing pretax operating income by approximately $2.0 million due to significant work on several larger projects being substantially completed during 2014, which did not recur in 2015. |
• | An increase in earnings per share due to the Company's stock repurchase programs, as well as a reduction in state income taxes, which vary among the jurisdictions in which it operates. |
Diluted earnings from AWR (parent) decreased $0.01 per share as compared to the same period in 2014 due primarily to higher state income taxes.
The following discussion and analysis for the years ended December 31, 2015, 2014 and 2013 provides information on AWR’s consolidated operations and assets and, where necessary, includes specific references to AWR’s individual segments and subsidiaries: GSWC and ASUS and its subsidiaries.
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Consolidated Results of Operations — Years Ended December 31, 2015 and 2014 (amounts in thousands, except per share amounts):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
OPERATING REVENUES | ||||||||||||||
Water | $ | 328,511 | $ | 326,672 | $ | 1,839 | 0.6 | % | ||||||
Electric | 36,039 | 34,387 | 1,652 | 4.8 | % | |||||||||
Contracted services | 94,091 | 104,732 | (10,641 | ) | -10.2 | % | ||||||||
Total operating revenues | 458,641 | 465,791 | (7,150 | ) | -1.5 | % | ||||||||
OPERATING EXPENSES | ||||||||||||||
Water purchased | 62,726 | 57,790 | 4,936 | 8.5 | % | |||||||||
Power purchased for pumping | 8,988 | 10,700 | (1,712 | ) | -16.0 | % | ||||||||
Groundwater production assessment | 13,648 | 16,450 | (2,802 | ) | -17.0 | % | ||||||||
Power purchased for resale | 10,395 | 9,649 | 746 | 7.7 | % | |||||||||
Supply cost balancing accounts | 7,785 | 6,346 | 1,439 | 22.7 | % | |||||||||
Other operation | 28,429 | 28,288 | 141 | 0.5 | % | |||||||||
Administrative and general | 79,817 | 78,268 | 1,549 | 2.0 | % | |||||||||
Depreciation and amortization | 42,033 | 41,073 | 960 | 2.3 | % | |||||||||
Maintenance | 16,885 | 16,092 | 793 | 4.9 | % | |||||||||
Property and other taxes | 16,636 | 16,722 | (86 | ) | -0.5 | % | ||||||||
ASUS construction | 52,810 | 65,368 | (12,558 | ) | -19.2 | % | ||||||||
Total operating expenses | 340,152 | 346,746 | (6,594 | ) | -1.9 | % | ||||||||
OPERATING INCOME | 118,489 | 119,045 | (556 | ) | -0.5 | % | ||||||||
OTHER INCOME AND EXPENSES | ||||||||||||||
Interest expense | (21,088 | ) | (21,617 | ) | 529 | -2.4 | % | |||||||
Interest income | 458 | 927 | (469 | ) | -50.6 | % | ||||||||
Other, net | 356 | 751 | (395 | ) | -52.6 | % | ||||||||
(20,274 | ) | (19,939 | ) | (335 | ) | 1.7 | % | |||||||
INCOME FROM OPERATIONS BEFORE INCOME TAX EXPENSE | 98,215 | 99,106 | (891 | ) | -0.9 | % | ||||||||
Income tax expense | 37,731 | 38,048 | (317 | ) | -0.8 | % | ||||||||
NET INCOME | $ | 60,484 | $ | 61,058 | $ | (574 | ) | -0.9 | % | |||||
Basic earnings per Common Share | $ | 1.61 | $ | 1.57 | $ | 0.04 | 2.5 | % | ||||||
Fully diluted earnings per Common Share | $ | 1.60 | $ | 1.57 | $ | 0.03 | 1.9 | % | ||||||
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Operating Revenues
General
Registrant relies upon approvals by the CPUC of rate increases to recover operating expenses and to provide for a return on invested and borrowed capital used to fund utility plant for GSWC. Registrant relies on price redeterminations, economic price adjustments and equitable adjustments by the U.S. government in order to recover operating expenses and provide a profit margin for ASUS. If adequate rate relief or price redeterminations and other contract adjustments are not granted in a timely manner, operating revenues and earnings can be negatively impacted. ASUS’s earnings are also impacted by the level of additional construction projects at the Military Utility Privatization Subsidiaries, which may or may not continue at current levels in future periods.
Water
For the year ended December 31, 2015, revenues from water operations increased by $1.8 million to $328.5 million, compared to $326.7 million for the year ended December 31, 2014. The increase in water revenues was primarily due to CPUC-approved third-year rate increases effective January 1, 2015 for certain rate-making areas and CPUC-approved increases generated from advice letter filings. There were also CPUC-approved increases in rates implemented during the second and third quarters of 2014 specifically intended to cover increases in supply costs experienced in certain rate-making areas, increasing revenues by $2.9 million for the year ended December 31, 2015 as compared to the same period in 2014. This increase in revenues was offset by a corresponding increase in supply cost, resulting in no impact to pretax operating income.
These increases were partially offset by a $2.0 million decrease in surcharges during the year ended December 31, 2015 to recover previously incurred costs approved by the CPUC. Most of these surcharges were implemented in 2013 and expired during 2014. The decrease in revenues from these surcharges was offset by a corresponding decrease in operating expenses (primarily administrative and general) resulting in no impact to pretax operating income.
Billed water consumption for the year ended December 31, 2015 decreased by approximately 16% as compared to the same period in 2014. In general, changes in consumption do not have a significant impact on recorded revenues due to the CPUC-approved WRAM accounts in place in all three water regions. However, under the accounting guidance for alternative revenue programs such as the WRAM, significant decreases in consumption may impact the timing of when revenues are recorded. During the fourth quarter of 2015, GSWC did not record $1.4 million of the 2015 WRAM under-collection balance as revenue, as previously discussed. GSWC records the difference between what it bills its water customers and that which is authorized by the CPUC in the WRAM accounts as regulatory assets or liabilities.
Electric
For the year ended December 31, 2015, revenues from electric operations increased by $1.6 million to $36.0 million as compared to $34.4 million for the year ended December 31, 2014. In November 2014, the CPUC issued a final decision on BVES's general rate case, which set new rates for years 2013—2016. The new rates were retroactive to January 1, 2013. The newly adopted revenues for the years 2013 through 2016 are lower than revenues in the previous rate cycle resulting from a revised return on equity of 9.95%, as well as lower depreciation and certain other operating expenses. As a result of the final decision, a cumulative reduction in revenues was recorded during the fourth quarter of 2014, along with a cumulative reduction in depreciation expense. The impact of the retroactive effect of the new rates to BVES's 2014 net earnings was not significant. However, because the new rates were retroactive to January 1, 2013, a portion of the retroactive adjustment recorded during the fourth quarter of 2014 related to 2013. Excluding the impact of 2013's retroactive adjustment, electric revenues increased by approximately $500,000 in 2015 as compared to 2014 due primarily to the CPUC-approved third-year rate increases effective January 1, 2015, and the CPUC-approved increases generated from advice letter filings.
Billed electric usage for the year ended December 31, 2015 increased 5.4% as compared to the same period in 2014. The winters experienced in California during the first and fourth quarters of 2014 were too warm for snowmaking, resulting in less electric usage in the Big Bear area than in 2015. Due to the CPUC-approved base revenue requirement adjustment mechanism, which adjusts base revenues to adopted levels authorized by the CPUC, changes in usage do not have a significant impact on earnings.
28
Contracted Services
Revenues from contracted services are composed of construction revenues (including renewal and replacements) and management fees for operating and maintaining the water and/or wastewater systems at various military bases. For the year ended December 31, 2015, revenues from contracted services were $94.1 million as compared to $104.7 million for 2014. The decrease was due primarily to the completion of several large capital upgrade projects during 2014 which did not recur in 2015. The decrease in construction revenues was partially offset by an increase in O&M management fees as a result of successful resolutions of various price redeterminations received during the third quarter of 2015, increasing earnings by approximately $3.0 million as compared to 2014. These price redeterminations also included an increase of $1.2 million in retroactive O&M management fees, as compared to the retroactive impact for the price redeterminations received in 2014.
ASUS's subsidiaries continue to enter into U.S. government-awarded contract modifications and agreements with third-party prime contractors for new construction projects at the Military Utility Privatization Subsidiaries. During the third quarter of 2015, the U.S. government awarded ASUS approximately $50.0 million in new construction projects, the majority of which are expected to be completed during 2016. Similarly, during the third quarter of 2014, the U.S. government awarded ASUS $27.0 million in new construction projects, the majority of which were completed in 2015. Earnings and cash flows from modifications to the original 50-year contracts with the U.S. government and agreements with third-party prime contractors for additional construction projects may or may not continue in future periods.
Operating Expenses:
Supply Costs
Supply costs for the water segment consist of purchased water, purchased power for pumping, groundwater production assessments and water-supply-cost balancing accounts. Supply costs for the electric segment consist of power purchased for resale, the cost of natural gas used by the electric segment’s generating unit, the cost of renewable energy credits and the electric-supply-cost balancing account. Water and electric gross margins are each computed by subtracting total supply costs from total revenues. Registrant uses these gross margins and related percentages as important measures in evaluating its operating results. Registrant believes these measures are useful internal benchmarks in evaluating the utility business performance within its water and electric segments. Registrant reviews these measurements regularly and compares them to historical periods and to its operating budget. However, these measures, which are not presented in accordance with GAAP, may not be comparable to similarly titled measures used by other entities and should not be considered as alternatives to operating income, which is determined in accordance with GAAP.
Total supply costs comprise the largest segment of total operating expenses. Supply costs accounted for 30.4% and 29.1% of total operating expenses for the years ended December 31, 2015 and 2014, respectively.
The table below provides the amounts (in thousands) of increases (decreases) and percent changes in water and electric revenues, supply costs and gross margin during the years ended December 31, 2015 and 2014:
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Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
WATER OPERATING REVENUES (1) | $ | 328,511 | $ | 326,672 | $ | 1,839 | 0.6 | % | ||||||
WATER SUPPLY COSTS: | ||||||||||||||
Water purchased (1) | 62,726 | 57,790 | 4,936 | 8.5 | % | |||||||||
Power purchased for pumping (1) | 8,988 | 10,700 | (1,712 | ) | -16.0 | % | ||||||||
Groundwater production assessment (1) | 13,648 | 16,450 | (2,802 | ) | -17.0 | % | ||||||||
Water supply cost balancing accounts (1) | 3,623 | 1,378 | 2,245 | 162.9 | % | |||||||||
TOTAL WATER SUPPLY COSTS | $ | 88,985 | $ | 86,318 | $ | 2,667 | 3.1 | % | ||||||
WATER GROSS MARGIN (2) | $ | 239,526 | $ | 240,354 | $ | (828 | ) | -0.3 | % | |||||
PERCENT MARGIN - WATER | 72.9 | % | 73.6 | % | 0.7 | |||||||||
ELECTRIC OPERATING REVENUES (1) | $ | 36,039 | $ | 34,387 | $ | 1,652 | 4.8 | % | ||||||
ELECTRIC SUPPLY COSTS: | ||||||||||||||
Power purchased for resale (1) | 10,395 | 9,649 | 746 | 7.7 | % | |||||||||
Electric supply cost balancing accounts (1) | 4,162 | 4,968 | (806 | ) | -16.2 | % | ||||||||
TOTAL ELECTRIC SUPPLY COSTS | $ | 14,557 | $ | 14,617 | $ | (60 | ) | -0.4 | % | |||||
ELECTRIC GROSS MARGIN (2) | $ | 21,482 | $ | 19,770 | $ | 1,712 | 8.7 | % | ||||||
PERCENT MARGIN - ELECTRIC | 59.6 | % | 57.5 | % | 0.6 | |||||||||
(1) As reported on AWR’s Consolidated Statements of Income, except for supply-cost-balancing accounts. The sums of water and electric supply-cost balancing accounts in the table above are shown on AWR’s Consolidated Statements of Income and totaled $7.8 million and $6.3 million for the years ended December 31, 2015 and 2014, respectively. Revenues include surcharges, which increase both revenues and operating expenses by corresponding amounts, thus having no net earnings impact.
(2) Water and electric gross margins do not include depreciation and amortization, maintenance, administrative and general, property and other taxes, and other operation expenses.
Two of the principal factors affecting water supply costs are the amount of water produced and the source of the water. Generally, the variable cost of producing water from wells is less than the cost of water purchased from wholesale suppliers. Under the MCBA, GSWC tracks adopted and actual expense levels for purchased water, power purchased for pumping and pump taxes, as established by the CPUC. GSWC records the variances (which include the effects of changes in both rate and volume) between adopted and actual purchased water, purchased power and pump tax expenses. GSWC recovers from, or refunds to, customers the amount of such variances. GSWC tracks these variances individually for each water rate-making area.
The overall actual percentages for purchased water for the years ended December 31, 2015 and 2014 were 41% and 35%, respectively, as compared to the adopted percentages of 36% and 35%, respectively. The increase in the supply mix was due to several wells being temporarily out of service during 2015, resulting in an increase in purchased water as compared to pumped water. The overall water gross margin percent was 72.9% for the year ended December 31, 2015 as compared to 73.6% for the same period of 2014. This decrease was primarily due to CPUC-approved increases in rates implemented in the second and third quarters of 2014 specifically intended to cover increases in supply costs experienced in certain rate-making areas, increasing revenues by $2.9 million for the year ended December 31, 2015 as compared to the same period in 2014. This increase in revenues was offset by a corresponding increase in supply cost, resulting in no impact to the water gross dollar margin but lowering the gross margin as a percentage of total water revenues. There was also $1.4 million of WRAM revenue not recorded, as previously discussed.
Purchased water costs for the year ended December 31, 2015 increased by 8.5% to $62.7 million as compared to $57.8 million for the same period in 2014 primarily due to an increase of purchased water in the supply mix as a result of wells being out of service, and an increase in wholesale water costs as compared to the year ended December 31, 2014. These increases were partially offset by a lower volume of water purchased due to lower water consumption.
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For the year ended December 31, 2015, the cost of power purchased for pumping decreased to $9.0 million as compared to $10.7 million for the same period in 2014 primarily due to decreases in pumped water resulting from lower water consumption and an increase in purchased water. Groundwater production assessments were $13.6 million in 2015 as compared to $16.5 million in 2014 due to a decrease in well production resulting from several wells being out of service during 2015 as compared to 2014.
The water-supply-cost balancing account increased $2.2 million during the year ended December 31, 2015 as compared to the same period in 2014 due to rates implemented in mid-2014 specifically intended to cover increases in supply costs for certain rate-making areas. This increase in revenues was offset by a corresponding increase in the water-supply-cost balancing account, resulting in no impact to the water gross dollar margin. There was also an increase due to lower customer water usage during 2015 as compared to 2014. These increases in the water-supply-cost balancing account were partially offset by increases in water vendor rates and an increase in purchased water in the water supply mix as compared to 2014.
For the year ended December 31, 2015, the cost of power purchased for resale to BVES's customers increased to $10.4 million, as compared to $9.6 million for the year ended December 31, 2014, due to an increase in customer usage during the year ended December 31, 2015, partially offset by a decrease in the average price per MWh. Customer usage increased 5.4% as compared to the year ended December 31, 2014. The average price per MWh decreased from $48.00 per MWh for the year ended December 31, 2014 to $46.39 per MWh for the same period in 2015. The electric-supply-cost balancing account included in total supply costs decreased by $806,000 primarily due to a decrease in supply cost surcharges, which have no impact on pretax operating income.
Other Operation
The primary components of other operation expenses for GSWC include payroll, materials and supplies, chemicals and water treatment costs and outside service costs of operating the regulated water systems, including the costs associated with water transmission and distribution, pumping, water quality, meter reading, billing and operations of district offices. Registrant’s contracted services operations incur many of the same types of expenses. For the years ended December 31, 2015 and 2014, other operation expenses by business segment consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 21,961 | $ | 22,871 | $ | (910 | ) | -4.0 | % | |||||
Electric Services | 2,931 | 2,677 | 254 | 9.5 | % | |||||||||
Contracted Services | 3,537 | 2,740 | 797 | 29.1 | % | |||||||||
Total other operation expenses | $ | 28,429 | $ | 28,288 | $ | 141 | 0.5 | % | ||||||
Excluding an overall reduction of $286,000 in billed surcharges, which have no impact on earnings, other operation expenses at the utility segments decreased by $370,000 during the year ended December 31, 2015 as compared to the same period in 2014. The decrease was due primarily to lower water treatment costs as a result of lower water consumption as well as a higher amount of filter replacements performed in 2014, and a reduction in materials and supplies and bad debt expenses at the water segment. These decreases were partially offset by an increase in drought-related costs at the water segment and labor-related expenses at the electric segment. In April 2015, as a response to ongoing drought conditions, the Governor of California issued an executive order mandating an overall 25% reduction in water usage as compared to 2013. GSWC has been authorized by the CPUC to track incremental drought-related costs incurred in a memorandum account for possible future recovery. Such incremental drought-related costs are being expensed until recovery is approved by the CPUC.
For the year ended December 31, 2015, other operation expenses for the contracted services segment increased by $797,000 as compared to the same period in 2014 primarily due to a shift in labor costs to operation-related activities from administrative and general activities.
Administrative and General
Administrative and general expenses include payroll related to administrative and general functions, the related employee benefits, insurance expenses, outside legal and consulting fees, regulatory utility commission expenses, expenses associated with being a public company and general corporate expenses charged to expense accounts. For the years ended December 31, 2015 and 2014, administrative and general expenses by business segment, including AWR (parent), consisted of the following amounts (in thousands):
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Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 55,977 | $ | 57,729 | $ | (1,752 | ) | -3.0 | % | |||||
Electric Services | 8,900 | 8,085 | 815 | 10.1 | % | |||||||||
Contracted Services | 14,929 | 12,406 | 2,523 | 20.3 | % | |||||||||
AWR (parent) | 11 | 48 | (37 | ) | -77.1 | % | ||||||||
Total administrative and general expenses | $ | 79,817 | $ | 78,268 | $ | 1,549 | 2.0 | % | ||||||
Excluding an overall reduction of $1.7 million in billed surcharges, which have no impact on earnings, administrative and general expenses for the water services segment decreased slightly during the year ended December 31, 2015 as compared to the same period in 2014. Lower employee-related costs were mostly offset by increases in legal and other outside services costs primarily related to condemnation activities. Legal and outside services costs tend to fluctuate and are expected to continue to fluctuate.
Excluding an overall reduction of $96,000 in billed surcharges, which have no impact on earnings, administrative and general expenses for the electric services segment increased by $911,000 during the year ended December 31, 2015 as compared to the same period in 2014 due primarily to an increase in costs associated with energy-efficiency and solar-initiative programs approved by the CPUC. The costs of these programs have been included in customer rates equally over the rate cycle. The spending of such funds increased in 2015 due to the delay in receiving the final decision in November 2014 of the BVES rate case, which authorized these programs.
For the year ended December 31, 2015, administrative and general expenses for contracted services increased by $2.5 million primarily due to a shift in labor and other indirect costs to administrative and general-related activities, in support of various functions at ASUS, from construction-related activities. There was also an increase in insurance and other outside services costs, as compared to the same period in 2014.
Depreciation and Amortization
For the years ended December 31, 2015 and 2014, depreciation and amortization expense by segment consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 39,190 | $ | 38,388 | $ | 802 | 2.1 | % | ||||||
Electric Services | 1,703 | 1,466 | 237 | 16.2 | % | |||||||||
Contracted Services | 1,140 | 1,219 | (79 | ) | -6.5 | % | ||||||||
Total depreciation and amortization | $ | 42,033 | $ | 41,073 | $ | 960 | 2.3 | % | ||||||
For the year ended December 31, 2015, depreciation and amortization expense for the utility segments increased by $1.0 million resulting primarily from additions to utility plant during 2014.
Maintenance
For the years ended December 31, 2015 and 2014, maintenance expense by segment consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 13,935 | $ | 13,067 | $ | 868 | 6.6 | % | ||||||
Electric Services | 758 | 878 | (120 | ) | -13.7 | % | ||||||||
Contracted Services | 2,192 | 2,147 | 45 | 2.1 | % | |||||||||
Total maintenance | $ | 16,885 | $ | 16,092 | $ | 793 | 4.9 | % | ||||||
For the year ended December 31, 2015, maintenance expense for water services increased by $868,000 compared to the year ended December 31, 2014 due to higher levels of both planned and unplanned maintenance performed in 2015.
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For the year ended December 31, 2015, maintenance expense for electric services decreased by $120,000 due to a higher level of expenses related to unplanned maintenance and tree trimming performed in 2014.
Property and Other Taxes
For the years ended December 31, 2015 and 2014, property and other taxes by segment, consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 14,250 | $ | 14,285 | $ | (35 | ) | -0.2 | % | |||||
Electric Services | 994 | 936 | 58 | 6.2 | % | |||||||||
Contracted Services | 1,392 | 1,501 | (109 | ) | -7.3 | % | ||||||||
Total property and other taxes | $ | 16,636 | $ | 16,722 | $ | (86 | ) | -0.5 | % | |||||
For the year ended December 31, 2015, property and other taxes for contracted services decreased by $109,000 due to lower gross receipts taxes primarily resulting from the elimination of such taxes in North Carolina effective July 1, 2014.
ASUS Construction
For the year ended December 31, 2015, construction expenses for contracted services were $52.8 million, decreasing by $12.6 million compared to the same period in 2014 due primarily to significant work on several larger projects being substantially completed during 2014, which did not recur in 2015. In addition, there was a higher amount of internal labor incurred for administrative and general-related activities, while in 2014 such labor was incurred for construction activities.
Interest Expense
For the years ended December 31, 2015 and 2014, interest expense by segment, including AWR (parent), consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 19,898 | $ | 20,260 | $ | (362 | ) | -1.8 | % | |||||
Electric Services | 1,100 | 1,264 | (164 | ) | -13.0 | % | ||||||||
Contracted Services | 33 | 151 | (118 | ) | -78.1 | % | ||||||||
AWR (parent) | 57 | (58 | ) | 115 | -198.3 | % | ||||||||
Total interest expense | $ | 21,088 | $ | 21,617 | $ | (529 | ) | -2.4 | % | |||||
Overall, interest expense for the year ended December 31, 2015 decreased by $529,000 as compared to the same period in 2014 due largely to an increase in capitalized interest at the water segment resulting from the approval of an allowance for funds used during construction ("AFUDC") from advice letter filings approved by the CPUC during the first quarter of 2015. In addition, GSWC replaced $15.0 million of certain long-term notes during the fourth quarter of 2014 with a note that bears a lower interest rate.
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Interest Income
For the years ended December 31, 2015 and 2014, interest income by business segment, including AWR (parent), consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 430 | $ | 890 | $ | (460 | ) | -51.7 | % | |||||
Electric Services | 10 | 4 | 6 | 150.0 | % | |||||||||
Contracted Services | 7 | 9 | (2 | ) | -22.2 | % | ||||||||
AWR (parent) | 11 | 24 | (13 | ) | -54.2 | % | ||||||||
Total interest income | $ | 458 | $ | 927 | $ | (469 | ) | -50.6 | % | |||||
Interest income decreased by $469,000 for the year ended December 31, 2015 as compared to the same period in 2014 due to interest collected on certain outstanding balances owed to GSWC during 2014. There was no similar item in 2015.
Other, net
For the year ended December 31, 2015, other income decreased by $395,000 primarily due to lower gains recorded on investments held for a retirement benefit plan resulting from recent market conditions as compared to 2014.
Income Tax Expense
For the years ended December 31, 2015 and 2014, income tax expense by segment, including AWR (parent), consisted of the following amounts (in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2015 | 12/31/2014 | CHANGE | CHANGE | |||||||||||
Water Services | $ | 30,302 | $ | 30,410 | $ | (108 | ) | -0.4 | % | |||||
Electric Services | 2,170 | 1,596 | 574 | 36.0 | % | |||||||||
Contracted Services | 6,069 | 7,038 | (969 | ) | -13.8 | % | ||||||||
AWR (parent) | (810 | ) | (996 | ) | 186 | -18.7 | % | |||||||
Total income tax expense | $ | 37,731 | $ | 38,048 | $ | (317 | ) | -0.8 | % | |||||
Consolidated income tax expense for the year ended December 31, 2015 decreased by $317,000 due primarily to a decrease in pretax income. AWR's consolidated effective income tax rate ("ETR") was 38.4% for the years ended December 31, 2015 and 2014. The ETR for GSWC was 40.6% for 2015 as compared to 40.1% for 2014 due primarily to differences between book and taxable income that are treated as flow-through adjustments in accordance with regulatory requirements, and permanent differences such as deductions related to production activities. The increase in ETR for GSWC was partially offset by a lower ETR at the contracted services segment due mostly to lower state taxes, which vary among the jurisdictions in which it operates.
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Consolidated Results of Operations — Years Ended December 31, 2014 and 2013 (dollar amounts in thousands, except per share amounts):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2014 | 12/31/2013 | CHANGE | CHANGE | |||||||||||
OPERATING REVENUES | ||||||||||||||
Water | $ | 326,672 | $ | 320,131 | $ | 6,541 | 2.0 | % | ||||||
Electric | 34,387 | 38,409 | (4,022 | ) | -10.5 | % | ||||||||
Contracted services | 104,732 | 113,537 | (8,805 | ) | -7.8 | % | ||||||||
Total operating revenues | 465,791 | 472,077 | (6,286 | ) | -1.3 | % | ||||||||
OPERATING EXPENSES | ||||||||||||||
Water purchased | 57,790 | 58,930 | (1,140 | ) | -1.9 | % | ||||||||
Power purchased for pumping | 10,700 | 9,518 | 1,182 | 12.4 | % | |||||||||
Groundwater production assessment | 16,450 | 15,541 | 909 | 5.8 | % | |||||||||
Power purchased for resale | 9,649 | 13,392 | (3,743 | ) | -27.9 | % | ||||||||
Supply cost balancing accounts | 6,346 | 214 | 6,132 | * | ||||||||||
Other operation | 28,288 | 27,767 | 521 | 1.9 | % | |||||||||
Administrative and general | 78,268 | 77,289 | 979 | 1.3 | % | |||||||||
Depreciation and amortization | 41,073 | 40,090 | 983 | 2.5 | % | |||||||||
Maintenance | 16,092 | 17,772 | (1,680 | ) | -9.5 | % | ||||||||
Property and other taxes | 16,722 | 15,865 | 857 | 5.4 | % | |||||||||
ASUS construction | 65,368 | 76,627 | (11,259 | ) | -14.7 | % | ||||||||
Total operating expenses | 346,746 | 353,005 | (6,259 | ) | -1.8 | % | ||||||||
OPERATING INCOME | 119,045 | 119,072 | (27 | ) | — | % | ||||||||
OTHER INCOME AND EXPENSES | ||||||||||||||
Interest expense | (21,617 | ) | (22,415 | ) | 798 | -3.6 | % | |||||||
Interest income | 927 | 707 | 220 | 31.1 | % | |||||||||
Other, net | 751 | 1,105 | (354 | ) | -32.0 | % | ||||||||
(19,939 | ) | (20,603 | ) | 664 | -3.2 | % | ||||||||
INCOME FROM OPERATIONS BEFORE INCOME TAX EXPENSE | 99,106 | 98,469 | 637 | 0.6 | % | |||||||||
Income tax expense | 38,048 | 35,783 | 2,265 | 6.3 | % | |||||||||
INCOME FROM OPERATIONS | $ | 61,058 | $ | 62,686 | $ | (1,628 | ) | -2.6 | % | |||||
Basic earnings per Common Share | $ | 1.57 | $ | 1.61 | $ | (0.04 | ) | -2.5 | % | |||||
Diluted earnings per Common Share | $ | 1.57 | $ | 1.61 | $ | (0.04 | ) | -2.5 | % | |||||
* Not meaningful
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The table below sets forth diluted earnings per share by business segment for AWR’s operations:
Diluted Earnings per Share | |||||||||||
Year Ended | |||||||||||
12/31/2014 | 12/31/2013 | CHANGE | |||||||||
Water | $ | 1.16 | $ | 1.19 | $ | (0.03 | ) | ||||
Electric | 0.07 | 0.06 | 0.01 | ||||||||
Contracted services | 0.31 | 0.30 | 0.01 | ||||||||
AWR (parent) | 0.03 | 0.06 | (0.03 | ) | |||||||
Totals from operations, as reported | $ | 1.57 | $ | 1.61 | $ | (0.04 | ) | ||||
For the year ended December 31, 2014, fully diluted earnings per share for the water segment decreased by $0.03 per share to $1.16 per share, as compared to $1.19 per share for 2013. In May 2013, the CPUC issued a final decision on GSWC's water general rate case which approved, among other things, recovery of $3.1 million of previously incurred costs. The approval of these items increased earnings for the year ended December 31, 2013 by $0.05 per share, with no similar increase in 2014. Excluding this $0.05 per share impact, diluted earnings from the water segment increased by $0.02 per share for the year ended December 31, 2014 as compared to the same period in 2013. Impacting the comparability of the two periods were the following items:
• | An increase in the water gross margin of $0.05 per share, primarily resulting from second-year rate increases and additional revenues approved by the CPUC for advice letter capital projects. There was also a decrease of approximately $580,000 in revenues with a corresponding decrease in operating expenses representing lower surcharges billed to customers to recover previously incurred costs. These surcharges had no impact on net earnings. |
• | Excluding supply costs, the one-time recovery of previously incurred costs and the impact of the surcharges discussed above, there was an increase in operating expenses of approximately $2.1 million, or $0.03 per share, due primarily to increases in outside service costs, depreciation expense and property taxes. These increases were partially offset by lower planned maintenance. |
• | A decrease in interest expense and other non-operating expenses (net of interest income), increasing earnings by $0.01 per share due primarily to the refinance of certain long-term notes with notes at a lower interest rate as well as other debt maturing during the fourth quarter of 2013 and 2014. |
• | An increase in the effective income tax rate for the water segment during the year ended December 31, 2014 as compared to 2013, which decreased earnings by approximately $0.01 per share. The change in the tax rate is primarily due to changes between book and taxable income from items that are treated as flow-through adjustments in accordance with regulatory requirements as well as changes in permanent items. |
For the year ended December 31, 2014, diluted earnings from the electric segment increased by $0.01 per share as compared to 2013 due primarily to an overall decrease in operating expenses and a lower electric effective income tax rate. The decrease in expenses in 2014 was partially offset by the recovery of legal and outside services costs in connection with the CPUC's renewables portfolio standard approved by the CPUC in May 2013. As a result, in the second quarter of 2013, GSWC recorded an $834,000 reduction in legal and outside services costs, increasing earnings by $0.01 per share. There was no similar reduction in 2014. The final decision on BVES's general rate case approved by the CPUC in November 2014 did not have a significant impact on BVES's earnings for 2014.
For the year ended December 31, 2014, diluted earnings from contracted services were $0.31 per share, compared to $0.30 per share for the same period in 2013. Impacting the comparability of the two periods were the following items:
• | An increase in management fees as a result of successful resolutions of various price redeterminations received during the third quarter of 2014, increasing earnings by $0.05 per share for 2014. Included in this increase were retroactive amounts totaling $1.7 million, or $0.03 per share, related to prior years. |
• | An increase of $0.02 per share due to the recording of additional revenues during the close-out of a large pipe replacement construction project at Fort Bragg. ONUS began work on this large project in 2010, which was completed and closed-out during the fourth quarter of 2014. |
• | An overall decrease in construction activity reducing earnings by $0.03 per share due to significant work on several projects being substantially completed during 2013, with less work performed during 2014. |
• | A decrease of $0.03 per share as compared to 2013 as a result of cumulative tax deductions taken in 2013 related to certain construction activities for years 2013 and prior. There was no similar cumulative amount deducted for 2014. |
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Diluted earnings from AWR (parent) decreased $0.03 per share as compared to the same period in 2013 due primarily to a cumulative tax benefit recorded during the third quarter of 2013 for deductions related to an employee benefit program, with no similar cumulative benefit recorded in 2014.
The following discussion and analysis for the years ended December 31, 2014 and 2013 provides information on AWR’s consolidated operations and assets and, where necessary, includes specific references to AWR’s individual segments and/or other subsidiaries: GSWC and ASUS and its subsidiaries.
Operating Revenues
Water
For the year ended December 31, 2014, revenues from water operations increased by $6.5 million to $326.7 million, compared to $320.1 million for the year ended December 31, 2013. During 2014, the CPUC approved an increase in rates to specifically cover increases in supply costs experienced in certain rate-making areas. This $3.5 million increase in revenues for the year ended December 31, 2014 is offset by a corresponding increase in supply cost, resulting in no impact to the water gross margin. There were also second-year rate increases approved by the CPUC effective January 1, 2014 for certain rate-making areas as well as increases related to advice letter filings. These increases were partially offset by a decrease of approximately $580,000 in surcharges during the year ended December 31, 2014 to recover previously incurred costs approved by the CPUC. The decrease in revenues from these surcharges is offset by a corresponding decrease in operating expenses (primarily administrative and general) resulting in no impact to pretax operating income.
Billed water consumption for the year ended December 31, 2014 decreased by approximately 2.8% as compared to the same period in 2013. Changes in consumption do not have a significant impact on revenues due to the CPUC-approved WRAM account in place in all three water regions. GSWC records the difference between what it bills its water customers and that which is authorized by the CPUC in the WRAM accounts as regulatory assets or liabilities.
Electric
For the year ended December 31, 2014, revenues from electric operations were $34.4 million compared to $38.4 million for 2013. In November 2014, the CPUC issued a final decision on BVES's general rate case which sets new rates for the years 2013—2016. The new rates were retroactive to January 1, 2013. Prior to the decision, electric revenues for 2013 and 2014 were recorded based on 2012 adopted levels. The new adopted revenues for years 2013 through 2016 are lower than revenues in the previous rate cycle resulting from a revised return on equity of 9.95%, as well as lower depreciation and certain other operating expenses. As a result of the decision, a $2.2 million cumulative reduction in revenues was recorded during the fourth quarter of 2014, along with a cumulative reduction in depreciation expense. The impact of the retroactive effect of the new rates to BVES's 2014 net earnings was not significant. There was also a $936,000 decrease in surcharges to recover previously incurred costs during 2014 as compared to 2013, with a corresponding $936,000 decrease in operating expenses resulting in no impact to pretax income. The remaining decrease in electric revenues was primarily due to lower electric usage, resulting in lower revenues and lower electric supply costs.
Billed electric usage for the year ended December 31, 2014 decreased 5.4% as compared to 2013. The winter experienced in the Big Bear area during the first quarter of 2014 was too warm for snowmaking, resulting in less electric usage than in the prior year. Due to the CPUC-approved base revenue requirement adjustment mechanism, which adjusts certain revenues to adopted levels authorized by the CPUC, this change in usage did not have a significant impact on earnings.
Contracted Services
Revenues from contracted services are composed of construction revenues and management fees for operating and maintaining the water and/or wastewater systems at military bases. For the year ended December 31, 2014, revenues from contracted services decreased to $104.7 million as compared to $113.5 million for 2013. The decrease was mainly due to lower construction activity at various military bases, including a reduction in initial capital upgrade work at Fort Bragg and the military bases in Virginia. In addition, ASUS subsidiaries completed or are nearing completion of significant work on major capital projects at Fort Bliss and Fort Bragg, resulting in less revenue during the year ended December 31, 2014 as compared to the same period in 2013. The decrease in construction activity was partially offset by the resolution of price redeterminations at Fort Bragg, Fort Jackson and Joint Base Andrews resulting in increased management fee revenues during the third quarter of 2014, including retroactive amounts related to prior years totaling $1.7 million. Additionally, ASUS recorded $1.6 million of additional revenues during the fourth quarter of 2014 in conjunction with the close-out of a large construction project at Fort Bragg. ONUS began work on this large project in 2010, which was completed and closed-out during the fourth quarter of 2014.
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Operating Expenses:
Supply Costs
Supply costs accounted for 29.1% and 27.6% of total operating expenses for the years ended December 31, 2014 and 2013, respectively.
The table below provides the amounts of increases (decreases), percent changes in supply costs, and gross margins during the years ended December 31, 2014 and 2013 (dollar amounts in thousands):
Year Ended | Year Ended | $ | % | |||||||||||
12/31/2014 | 12/31/2013 | CHANGE | CHANGE | |||||||||||
WATER OPERATING REVENUES (1) | $ | 326,672 | $ | 320,131 | $ | 6,541 | 2.0 | % | ||||||
WATER SUPPLY COSTS: | ||||||||||||||
Water purchased (1) | 57,790 | 58,930 | (1,140 | |||||||||||