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Essential Utilities, Inc. - Quarter Report: 2019 June (Form 10-Q)

wtr-20190630x10q

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON DC 20549

FORM 10-Q

(Mark One) 

S QUARTERLY REPORT PURSUANT TO SECTION 13 or 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934. 

For the quarterly period ended June 30, 2019 

£ 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 1-6659 

AQUA AMERICA, INC. 

(Exact name of registrant as specified in its charter) 

Pennsylvania

23-1702594

(State or other jurisdiction of

(I.R.S. Employer

incorporation or organization)

Identification No.)

 

762 W. Lancaster Avenue, Bryn Mawr, Pennsylvania

19010 -3489

(Address of principal executive offices)

(Zip Code)

 

(610) 527-8000

(Registrant’s telephone number, including area code)

(Former Name, former address and former fiscal year, if changed since last report.)

Indicate by check mark whether the 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 the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes S  No £

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes S  No £

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12(b)-2 of the Exchange Act.:  

Large Accelerated Filer S

Accelerated Filer £

Non-Accelerated Filer £

Smaller Reporting Company £

Emerging Growth Company £

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. £

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes £  No S

Securities registered pursuant to Section 12(b) of the Act:

Title of each class

Trading Symbol(s)

Name of each exchange on which registered

Common stock, $0.50 par value

WTR

New York Stock Exchange

6.00% Tangible Equity Units

WTRU

New York Stock Exchange

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of July 24, 2019: 215,776,908


Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES

TABLE OF CONTENTS

Page

Part I – Financial Information

Item 1. Financial Statements:

Consolidated Balance Sheets (unaudited) – June 30, 2019 and December 31, 2018

2

Consolidated Statements of Operations and Comprehensive Income (unaudited) –
Three Months Ended June 30, 2019 and 2018

3

Consolidated Statements of Operations and Comprehensive Income (unaudited) –
Six Months Ended June 30, 2019 and 2018

4

Consolidated Statements of Capitalization (unaudited) –
June 30, 2019 and December 31, 2018

5

Consolidated Statements of Equity (unaudited) –
Six Months Ended June 30, 2019

6

Consolidated Statements of Equity (unaudited) –
Six Months Ended June 30, 2018

7

Consolidated Statements of Cash Flow (unaudited) –
Six Months Ended June 30, 2019 and 2018

8

Notes to Consolidated Financial Statements (unaudited)

9

Item 2. Management’s Discussion and Analysis of Financial
Condition and Results of Operations

34

Item 3. Quantitative and Qualitative Disclosures About Market Risk

43

Item 4. Controls and Procedures

43

 

Part II – Other Information

 

Item 1. Legal Proceedings

43

Item 1A. Risk Factors

44

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

47

Item 6. Exhibits

48

Signatures

51

1


Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED BALANCE SHEETS 

(In thousands of dollars, except per share amounts) 

(UNAUDITED)

June 30,

December 31,

Assets

2019

2018

Property, plant and equipment, at cost

$

7,881,313

$

7,648,469

Less: accumulated depreciation

1,766,465

1,718,143

Net property, plant and equipment

6,114,848

5,930,326

Current assets:

Cash and cash equivalents

1,974,076

3,627

Accounts receivable and unbilled revenues, net

110,741

101,225

Inventory, materials and supplies

16,294

15,844

Prepayments and other current assets

15,251

23,337

Assets held for sale

1,558

3,139

Total current assets

2,117,920

147,172

Regulatory assets

832,799

788,076

Deferred charges and other assets, net

41,449

39,237

Investment in joint venture

7,448

6,959

Goodwill

52,722

52,726

Operating lease right-of-use assets

13,164

-

Total assets

$

9,180,350

$

6,964,496

Liabilities and Equity

Stockholders' equity:

Common stock at $0.50 par value, authorized 300,000,000 shares, issued 218,887,834 and 181,151,827 as of June 30, 2019 and December 31, 2018

$

109,444

$

90,576

Capital in excess of par value

2,633,271

820,378

Retained earnings

1,159,753

1,174,245

Treasury stock, at cost, 3,112,376 and 3,060,206 shares as of June 30, 2019 and December 31, 2018

(77,694)

(75,835)

Total stockholders' equity

3,824,774

2,009,364

Long-term debt, excluding current portion

2,779,074

2,419,115

Less: debt issuance costs

29,870

20,651

Long-term debt, excluding current portion, net of debt issuance costs

2,749,204

2,398,464

Commitments and contingencies (See Note 15)

 

 

Current liabilities:

Current portion of long-term debt

221,393

144,545

Loans payable

6,076

15,449

Accounts payable

57,463

77,331

Book overdraft

22,294

8,950

Accrued interest

30,755

23,300

Accrued taxes

17,962

22,234

Interest rate swap agreements

-

59,779

Other accrued liabilities

43,006

47,389

Total current liabilities

398,949

398,977

Deferred credits and other liabilities:

Deferred income taxes and investment tax credits

876,332

845,403

Customers' advances for construction

102,801

93,343

Regulatory liabilities

525,864

531,027

Operating lease liabilities

11,913

-

Other

97,365

97,182

Total deferred credits and other liabilities

1,614,275

1,566,955

Contributions in aid of construction

593,148

590,736

Total liabilities and equity

$

9,180,350

$

6,964,496

See notes to consolidated financial statements beginning on page 9 of this report.

 

2


Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

(In thousands, except per share amounts)

(UNAUDITED)

Three Months Ended

June 30,

2019

2018

Operating revenues

$

218,892

$

211,860

Operating expenses:

Operations and maintenance

86,445

73,515

Depreciation

39,550

36,613

Amortization

(2,920)

149

Taxes other than income taxes

14,868

14,829

Total operating expenses

137,943

125,106

Operating income

80,949

86,754

Other expense (income):

Interest expense, net

23,309

23,723

Allowance for funds used during construction

(3,611)

(2,577)

Change in fair value of interest rate swap agreements

(11,040)

-

Loss on debt extinguishment

18,935

-

Gain on sale of other assets

(48)

(141)

Equity earnings in joint venture

(1,240)

(911)

Other

1,912

437

Income before income taxes

52,732

66,223

Provision for income tax benefit

(2,171)

(367)

Net income

$

54,903

$

66,590

Comprehensive income

$

54,903

$

66,590

Net income per common share:

Basic

$

0.25

$

0.37

Diluted

$

0.25

$

0.37

Average common shares outstanding during the period:

Basic

219,055

177,901

Diluted

219,790

178,273

See notes to consolidated financial statements beginning on page 9 of this report.

 


3


Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

(In thousands, except per share amounts)

(UNAUDITED)

Six Months Ended

June 30,

2019

2018

Operating revenues

$

420,024

$

406,207

Operating expenses:

Operations and maintenance

165,759

147,461

Depreciation

78,624

72,580

Amortization

(2,584)

279

Taxes other than income taxes

29,837

29,796

Total operating expenses

271,636

250,116

Operating income

148,388

156,091

Other expense (income):

Interest expense, net

51,159

47,194

Allowance for funds used during construction

(7,667)

(5,444)

Change in fair value of interest rate swap agreements

23,742

-

Loss on debt extinguishment

18,935

-

Gain on sale of other assets

(268)

(337)

Equity earnings in joint venture

(1,783)

(1,293)

Other

2,784

1,040

Income before income taxes

61,486

114,931

Provision for income tax benefit

(10,341)

(2,498)

Net income

$

71,827

$

117,429

Comprehensive income

$

71,827

$

117,429

Net income per common share:

Basic

$

0.36

$

0.66

Diluted

$

0.36

$

0.66

Average common shares outstanding during the period:

Basic

198,747

177,852

Diluted

199,303

178,299

See notes to consolidated financial statements beginning on page 9 of this report.

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Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF CAPITALIZATION 

(In thousands of dollars, except per share amounts) 

(UNAUDITED)

  

June 30,

December 31,

2019

2018

Stockholders' equity:

Common stock, $0.50 par value

$

109,444

$

90,576

Capital in excess of par value

2,633,271

820,378

Retained earnings

1,159,753

1,174,245

Treasury stock, at cost

(77,694)

(75,835)

Total stockholders' equity

3,824,774

2,009,364

Long-term debt of subsidiaries (substantially collateralized by utility plant):

Interest Rate Range

Maturity Date Range

0.00% to 0.99%

2023 to 2033

3,413

3,732

1.00% to 1.99%

2020 to 2035

11,624

11,588

2.00% to 2.99%

2024 to 2033

16,587

17,488

3.00% to 3.99%

2019 to 2056

496,319

497,426

4.00% to 4.99%

2020 to 2059

955,566

831,066

5.00% to 5.99%

2019 to 2043

134,478

154,788

6.00% to 6.99%

2026 to 2036

31,000

31,000

7.00% to 7.99%

2022 to 2027

31,163

31,564

8.00% to 8.99%

2021 to 2025

5,309

5,581

9.00% to 9.99%

2020 to 2026

20,000

20,000

1,705,459

1,604,233

Notes payable to bank under revolving credit agreement, variable rate, due 2023

-

370,000

Unsecured notes payable:

Bank notes at 2.48% and 3.50% due 2019 and 2020

100,000

100,000

Amortizing notes at 3.00% due 2022

119,081

-

Notes ranging from 3.01% to 3.59% due 2027 through 2041

525,000

245,000

Notes at 4.28%, due 2049

500,000

112,000

Notes ranging from 5.64% to 5.95%, due 2020 through 2034

50,927

132,427

3,000,467

2,563,660

Current portion of long-term debt

221,393

144,545

Long-term debt, excluding current portion

2,779,074

2,419,115

Less: debt issuance costs

29,870

20,651

Long-term debt, excluding current portion, net of debt issuance costs

2,749,204

2,398,464

Total capitalization

$

6,573,978

$

4,407,828

See notes to consolidated financial statements beginning on page 9 of this report.

 

 

5


Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF EQUITY 

(In thousands of dollars)

(UNAUDITED)

 

Capital in

Common

Excess of

Retained

Treasury

Stock

Par Value

Earnings

Stock

Total

Balance at December 31, 2018

$

90,576 

$

820,378 

$

1,174,245 

$

(75,835)

$

2,009,364 

Net income

-

-

16,924 

-

16,924 

Dividends declared ($0.2190 per share)

-

-

(39,014)

-

(39,014)

Issuance of common stock under dividend reinvestment plan (117,845 shares)

59 

3,976 

-

-

4,035 

Repurchase of stock (52,124 shares)

-

-

-

(1,857)

(1,857)

Equity compensation plan (134,257 shares)

67 

(67)

-

-

-

Exercise of stock options (77,479 shares)

39 

1,136 

-

-

1,175 

Stock-based compensation

-

1,929 

42 

-

1,971 

Other

-

(13)

-

-

(13)

Balance at March 31, 2019

90,741 

827,339 

1,152,197 

(77,692)

1,992,585 

Net income

-

-

54,903 

-

54,903 

Dividends declared ($0.2190 per share)

-

-

(47,249)

-

(47,249)

Stock issued to finance pending acquisition (37,370,017 shares)

18,685 

1,245,440 

-

-

1,264,125 

Proceeds from stock purchase contract issued under tangible equity units

-

557,837 

-

-

557,837 

Issuance of common stock under dividend reinvestment plan (10,162 shares)

5 

380 

-

-

385 

Repurchase of stock (46 shares)

-

-

-

(2)

(2)

Equity compensation plan (5,099 shares)

3 

(3)

-

-

-

Exercise of stock options (21,148 shares)

10 

361 

-

-

371 

Stock-based compensation

-

2,129 

(98)

-

2,031 

Other

-

(212)

-

-

(212)

Balance at June 30, 2019

$

109,444 

$

2,633,271 

$

1,159,753 

$

(77,694)

$

3,824,774 

See notes to consolidated financial statements beginning on page 9 of this report.


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Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF EQUITY 

(In thousands of dollars)

(UNAUDITED)

Accumulated

Capital in

Other

Common

Excess of

Retained

Treasury

Comprehensive

Stock

Par Value

Earnings

Stock

Income

Total

Balance at December 31, 2017

$

90,350 

$

807,135 

$

1,132,556 

$

(73,280)

$

860 

$

1,957,621 

Net income

-

-

50,839 

-

-

50,839 

Dividends declared ($0.2047 per share)

-

-

(36,386)

-

-

(36,386)

Issuance of common stock under dividend reinvestment plan (11,252 shares)

6 

355 

-

-

-

361 

Repurchase of stock (71,940 shares)

-

-

-

(2,491)

-

(2,491)

Equity compensation plan (181,670 shares)

91 

(91)

-

-

-

-

Exercise of stock options (62,688 shares)

31 

979 

-

-

-

1,010 

Stock-based compensation

-

1,443 

(41)

-

-

1,402 

Cumulative effect of change in accounting principle - financial instruments

-

-

860 

-

(860)

-

Other

-

(197)

-

-

-

(197)

Balance at March 31, 2018

90,478 

809,624 

1,147,828 

(75,771)

-

1,972,159 

Net income

-

-

66,590 

-

-

66,590 

Dividends declared ($0.2047 per share)

-

-

(36,416)

-

-

(36,416)

Issuance of common stock under dividend reinvestment plan (10,918 shares)

5 

354 

-

-

-

359 

Equity compensation plan (3,969 shares)

2 

(2)

-

-

-

-

Exercise of stock options (411 shares)

1 

8 

-

-

-

9 

Stock-based compensation

-

1,985 

(128)

-

-

1,857 

Other

-

(206)

-

-

-

(206)

Balance at June 30, 2018

$

90,486 

$

811,763 

$

1,177,874 

$

(75,771)

$

-

$

2,004,352 

See notes to consolidated financial statements beginning on page 9 of this report.

  

 

7


Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

CONSOLIDATED STATEMENTS OF CASH FLOW 

(In thousands of dollars) 

(UNAUDITED)

Six Months Ended

June 30,

2019

2018

Cash flows from operating activities:

Net income

$

71,827 

$

117,429 

Adjustments to reconcile net income to net cash flows from operating activities:

Depreciation and amortization

76,040 

72,859 

Deferred income taxes

(11,884)

(4,602)

Provision for doubtful accounts

2,127 

2,213 

Stock-based compensation

4,058 

3,432 

Gain on sale of other assets

(268)

(337)

Gain on sale of utility system

(403)

-

Loss on interest rate swap agreements

23,742

-

Loss on debt extinguishment

18,935 

-

Settlement of interest rate swap agreements

(83,520)

-

Net change in receivables, inventory and prepayments

(5,672)

(11,110)

Net change in payables, accrued interest, accrued taxes and other accrued liabilities

(658)

(6,165)

Pension and other postretirement benefits contributions

(6,595)

(8,692)

Other

(186)

4,658 

Net cash flows from operating activities

87,543

169,685 

Cash flows from investing activities:

Property, plant and equipment additions, including the debt component of allowance for funds used during construction of $2,117 and $1,613

(269,171)

(216,614)

Acquisitions of utility systems, net

(519)

(190)

Net proceeds from the sale of other assets

2,182 

398 

Other

983 

(152)

Net cash flows used in investing activities

(266,525)

(216,558)

Cash flows from financing activities:

Customers' advances and contributions in aid of construction

5,914 

4,068 

Repayments of customers' advances

(1,488)

(1,818)

Net repayments of short-term debt

(9,373)

(3,650)

Proceeds from long-term debt

1,136,000 

218,037 

Repayments of long-term debt

(825,642)

(41,001)

Extinguishment of long-term debt

(25,237)

-

Change in cash overdraft position

13,343

(6,062)

Issuance of common stock under dividend reinvestment plan

4,420 

720 

Proceeds from stock issued to finance pending acquisition

1,264,125

-

Proceeds from tangible equity unit issuance

674,170

-

Proceeds from exercised stock options

1,546 

1,019 

Repurchase of common stock

(1,859)

(2,491)

Dividends paid on common stock

(86,263)

(72,802)

Other

(225)

(403)

Net cash flows from financing activities

2,149,431

95,617 

Net change in cash and cash equivalents

1,970,449

48,744 

Cash and cash equivalents at beginning of period

3,627 

4,204 

Cash and cash equivalents at end of period

$

1,974,076

$

52,948 

Non-cash investing activities:

Property, plant and equipment additions purchased at the period end, but not yet paid for

$

44,809

$

26,010

Non-cash customer advances and contributions in aid of construction

21,527

10,468

See notes to consolidated financial statements beginning on page 9 of this report.

 

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Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 1Basis of Presentation 

The accompanying consolidated balance sheets and statements of capitalization of Aqua America, Inc. and subsidiaries (the “Company”, “we”, “us” or “our”) at June 30, 2019, the consolidated statements of operations and comprehensive income for the three and six months ended June 30, 2019 and 2018 the consolidated statements of cash flow for the six months ended June 30, 2019 and 2018, and the consolidated statements of equity for the six months ended June 30, 2019 and 2018 are unaudited, but reflect all adjustments, consisting of only normal recurring accruals, which are, in the opinion of management, necessary to present a fair statement of its consolidated financial position, consolidated changes in equity, consolidated results of operations, and consolidated cash flow for the periods presented. Because they cover interim periods, the statements and related notes to the financial statements do not include all disclosures and notes normally provided in annual financial statements and, therefore, should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2018. The results of operations for interim periods may not be indicative of the results that may be expected for the entire year. The December 31, 2018 consolidated balance sheet data presented herein was derived from the Company’s December 31, 2018 audited consolidated financial statements but does not include all disclosures and notes normally provided in annual financial statements.

The preparation of financial statements often requires the selection of specific accounting methods and policies. Further, significant estimates and judgments may be required in selecting and applying those methods and policies in the recognition of the assets and liabilities in its consolidated balance sheets, the revenues and expenses in its consolidated statements of operations, and the information that is contained in its summary of significant accounting policies and notes to consolidated financial statements. Making these estimates and judgments requires the analysis of information concerning events that may not yet be complete and of facts and circumstances that may change over time. Accordingly, actual amounts or future results can differ materially from those estimates that the Company includes currently in its consolidated financial statements, summary of significant accounting policies, and notes.

There have been no changes to the summary of significant accounting policies, other than as described in Note 17 – Leases as a result of the adoption of a new accounting pronouncement adopted on January 1, 2019, previously identified in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018.

 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 2 – Revenue Recognition

The following table presents our revenues disaggregated by major source and customer class:

Three Months Ended

Three Months Ended

June 30, 2019

June 30, 2018

Water Revenues

Wastewater Revenues

Other Revenues

Water Revenues

Wastewater Revenues

Other Revenues

Revenues from contracts with customers:

Residential

$

126,550 

$

20,263 

$

-

$

122,530 

$

17,583 

$

-

Commercial

35,155 

3,797 

-

33,456 

2,975 

-

Fire protection

8,260 

-

-

7,970 

-

-

Industrial

7,456 

487 

-

7,309 

498 

-

Other water

11,038 

-

-

14,220 

-

-

Other wastewater

-

1,423 

-

-

1,920 

-

Other utility

-

-

3,362 

-

-

2,319 

Revenues from contracts with customers

188,459 

25,970 

3,362 

185,485 

22,976 

2,319 

Alternative revenue program

317 

(102)

-

(120)

164 

-

Other and eliminations

-

-

886 

-

-

1,036 

Consolidated

$

188,776 

$

25,868 

$

4,248 

$

185,365 

$

23,140 

$

3,355 

Six Months Ended

Six Months Ended

June 30, 2019

June 30, 2018

Water Revenues

Wastewater Revenues

Other Revenues

Water Revenues

Wastewater Revenues

Other Revenues

Revenues from contracts with customers:

Residential

$

240,597 

$

40,210 

$

-

$

236,367 

$

35,115 

$

-

Commercial

65,446 

7,364 

-

63,798 

5,863 

-

Fire protection

16,338 

-

-

15,908 

-

-

Industrial

14,321 

968 

-

13,669 

961 

-

Other water

23,845 

-

-

25,241 

-

-

Other wastewater

-

2,819 

-

-

2,711 

-

Other utility

-

-

6,252 

-

-

4,654 

Revenues from contracts with customers

360,547 

51,361 

6,252 

354,983 

44,650 

4,654 

Alternative revenue program

281 

(215)

-

(120)

164 

-

Other and eliminations

-

-

1,798 

-

-

1,876 

Consolidated

$

360,828 

$

51,146 

$

8,050 

$

354,863 

$

44,814 

$

6,530 

Revenues from Contracts with Customers – These revenues are composed of three main categories: water, wastewater, and other. Water revenues represent revenues earned for supplying customers with water service. Wastewater revenues represent revenues earned for treating wastewater and releasing it into the water supply. Other revenues are associated fees that relate to the regulated business but are not water and wastewater revenues. See description below for a discussion on the performance obligation for each of these revenue streams.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Tariff Revenues – These revenues are categorized by customer class: residential, commercial, fire protection, industrial, and other water and other wastewater. The rates that generate these revenues are approved by the respective state utility commission, and revenues are billed cyclically and accrued for when unbilled. Other water and other wastewater revenues consist primarily of fines, penalties, surcharges, and availability lot fees. Our performance obligation for tariff revenues is to provide potable water or wastewater treatment service to customers. This performance obligation is satisfied over time as the services are rendered. The amounts that the Company has a right to invoice for tariff revenues reflect the right to consideration from the customers in an amount that corresponds directly with the value transferred to the customer for the performance completed to date.

Other Utility Revenues – Other utility revenues represent revenues earned primarily from: antenna revenues, which represent fees received from telecommunication operators that have put cellular antennas on our water towers; operation and maintenance and billing contracts, which represent fees earned from municipalities for our operation of their water or wastewater treatment services or performing billing services; and fees earned from developers for accessing our water mains. The performance obligations vary for these revenues, but all are primarily recognized over time as the service is delivered.

Alternative Revenue Program – These revenues represent the difference between the actual billed utility water and wastewater revenues for Aqua Illinois and the revenues set in the last Aqua Illinois rate case. We recognize revenues based on the target amount established in the last rate case, and then record either a regulatory asset or liability based on the cumulative annual difference between the target and actual, which results in either a refund due to customers or a payment from customers. The cumulative annual difference is either refunded to customers or collected from customers over a nine-month period. This revenue program represents a contract between the utility and its regulators, not customers, and therefore is not within the scope of the Financial Accounting Standards Board’s (“FASB”) accounting guidance for recognizing revenue from contracts with customers.

Other and Eliminations – Other and eliminations consist of our market-based revenues, which comprises: Aqua Infrastructure and Aqua Resources (described below), and intercompany eliminations for revenue billed between our subsidiaries.

Aqua Infrastructure is the holding company for our 49% investment in a joint venture that operates a private pipeline system to supply raw water to natural gas well drilling operations in the Marcellus Shale of north central Pennsylvania. The joint venture earns revenues through providing non-utility raw water supply services to natural gas drilling companies which enter into water supply contracts. The performance obligation is to deliver non-potable water to the joint venture’s customers. Aqua Infrastructure’s share of the revenues recognized by the joint venture is reflected, net, in equity earnings in joint venture on our consolidated statements of operations.

Aqua Resources earns revenues by providing non-regulated water and wastewater services through operating and maintenance contracts, and third-party water and sewer service line repair. The performance obligations are performing agreed upon services in the contract, most commonly operation of third-party water or wastewater treatment services, or billing services, or allowing the use of our logo to a third-party water and sewer service line repair. Revenues are primarily recognized over time as service is delivered.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 3 – Goodwill 

The following table summarizes the changes in the Company’s goodwill, by business segment:

 

Regulated

Segment

Other

Consolidated

Balance at December 31, 2018

$

47,885

$

4,841

$

52,726

Reclassification to utility plant acquisition adjustment

(4)

-

(4)

Balance at June 30, 2019

$

47,881

$

4,841

$

52,722

The reclassification of goodwill to utility plant acquisition adjustment results from a mechanism approved by the applicable utility commission. The mechanism provides for the transfer over time, and the recovery through customer rates, of goodwill associated with some acquisition upon achieving specific objectives.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 4 – Acquisitions

Peoples Gas Acquisition

Pursuant to the Company’s growth strategy, on October 22, 2018, the Company entered into a purchase agreement (the “Acquisition Agreement”) with LDC Parent LLC (“Seller”), to acquire its interests in LDC Funding LLC (“LDC”). LDC is the parent of LDC Holdings LLC (“LDC Holdings”), and LDC Holdings is the parent of five natural gas utility companies, which includes Peoples Natural Gas Company, Peoples Gas Company, and Delta Natural Gas Company as well as other operating subsidiaries. This acquisition is referred to as the “Peoples Gas Acquisition” and collectively, these businesses are referred to as “Peoples.” Peoples is headquartered in Pittsburgh, Pennsylvania and serves approximately 740,000 gas utility customers in western Pennsylvania, West Virginia, and Kentucky. At the closing of the Peoples Gas Acquisition, the Company will pay $4,275,000 in cash subject to adjustments for working capital, certain capital expenditures, transaction expenses and closing indebtedness as set forth in the Acquisition Agreement. The Company expects to assume approximately $1,370,000 of Peoples’ indebtedness upon the closing of the Peoples Gas Acquisition, which would reduce the cash purchase price by approximately $1,370,000.

On October 22, 2018, the Company obtained a commitment (the “Bridge Commitment”) from certain banks to provide senior unsecured bridge loans in an aggregate amount of up to $5,100,000 to, among other things, backstop the Peoples Gas Acquisition purchase price and refinancing of certain debt of the Company and Peoples. On March 29, 2019, the Company entered into a Stock Purchase Agreement to issue shares of common stock in a private placement to fund a portion of the Peoples Gas Acquisition. The gross proceeds of the Stock Purchase Agreement are expected to amount to approximately $750,000. Further, on April 18, 2019, the Company issued $1,293,750 of its common stock and $690,000 of its tangible equity units, with a stated amount of $50 per unit, and on April 26, 2019, the Company issued $900,000 of senior notes. As of June 30, 2019, the Company has terminated $4,350,000 of commitments under the Bridge Commitment. The remaining balance available under the Bridge Commitment is $750,000. Refer to Note 6 – Capitalization for further information on these financings.

On October 23, 2018, the Company entered into interest rate swap agreements to mitigate interest rate risk associated with an anticipated $850,000 of future debt issuances to fund a portion of the Peoples Gas Acquisition. The interest rate swaps were settled on April 24, 2019 in conjunction with the issuance of long-term debt to be used to finance a portion of the purchase price of this acquisition, which resulted in a payment by the Company of $83,520. Refer to Note 7 – Interest Rate Swap Agreements for further information. The interest rate swaps did not qualify for hedge accounting and any changes in the fair value of the swaps was included in our earnings.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

The Peoples Gas Acquisition is subject to regulatory approval by the Pennsylvania Public Utility Commission, and other customary closing conditions set forth in the Acquisition Agreement. Approval from the United States Federal Trade Commission was obtained in December 2018, and approvals from the public utility commissions of Kentucky and West Virginia were obtained in March 2019 and April 2019, respectively. On June 11, 2019, we filed a settlement agreement with the Pennsylvania Public Utility Commission, and all but two of the intervenors to the case have entered into or chosen not to oppose the settlement agreement. The Peoples Gas Acquisition is expected to close in the fall of 2019, once all regulatory approvals are obtained, and closing conditions are met, and it is anticipated that this acquisition will result in the recording of goodwill. In the event that the Acquisition Agreement is terminated due to certain breaches by the Company, a fee of $120,000 would be payable to the Seller as a reverse termination fee.

Water and Wastewater Utility Acquisitions

In July 2018, the Company acquired the wastewater utility systems assets of Limerick Township, Pennsylvania, which serves 5,497 customers. The total cash purchase price for the utility system was $74,836. The purchase price allocation for this acquisition consisted primarily of acquired property, plant and equipment of $64,759, and goodwill of $10,790. Additionally, during 2018, the Company completed seven acquisitions of water and wastewater utility systems in three states adding 8,661 customers. The total purchase price of these utility systems consisted of $42,519 in cash. The purchase price allocation for these acquisitions consisted primarily of acquired property, plant and equipment. Further, in December 2018, the Company acquired the Valley Creek Trunk Sewer System, serving area municipalities in Pennsylvania, from the Tredyffrin Township Municipal Authority for $28,300. The system receives untreated wastewater from area municipalities, which is conveyed to the Valley Forge Treatment Plant. The system consists of 49,000 linear feet of gravity sewers, pump stations, and force mains

In November 2018, the Company entered into a purchase agreement to acquire the wastewater utility system assets of East Norriton Township, Pennsylvania, which serves approximately 4,950 customers for $21,000. The purchase price for this pending acquisition is subject to certain adjustments at closing, and is subject to regulatory approval, including the final determination of the fair value of the rate base acquired.

In July 2018, the Company entered into a purchase agreement to acquire the wastewater utility system assets of Cheltenham Township, Pennsylvania, which serves approximately 10,500 customers for $50,250. The purchase price for this pending acquisition is subject to certain adjustments at closing, and is subject to regulatory approval, including the final determination of the fair value of the rate base acquired.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

In addition to the Company’s pending acquisitions in East Norriton and Cheltenham Townships, as part of the Company’s growth-through-acquisition strategy, the Company entered into purchase agreements to acquire the water or wastewater utility system assets of five municipalities for a total combined purchase price in cash of $46,450 which we plan to finance by the issuance of debt. The purchase prices for these acquisitions are subject to certain adjustments at closing, and the acquisitions are subject to regulatory approvals, including the final determination of the fair value of the rate base acquired. Closings for our remaining acquisitions (other than the Peoples Gas Acquisition), with the exception of East Norriton Township, are expected to occur by the end of 2019, subject to the timing of the individual regulatory approval processes. In total, these acquisitions (other than the Peoples Gas Acquisition) will add approximately 7,200 customers in three of the states in which the Company operates.

Note 5 Assets Held for Sale

In the fourth quarter of 2018, the Company decided to market for sale a water system in Virginia that serves approximately 500 customers. This water system was reported as assets held for sale in the Company’s consolidated balance sheet, and in April 2019, the Company completed the sale for proceeds of $1,882 and recognized a gain on sale of $403.

In the first quarter of 2017, the Company decided to market for sale a water system in Texas that serves approximately 265 customers. This water system is reported as assets held for sale in the Company’s consolidated balance sheet, and the sale is expected to close in the fourth quarter of 2019.

 

Note 6 – Capitalization

Private Placement

On March 29, 2019, the Company entered into a Stock Purchase Agreement (the “Stock Purchase Agreement”) with Canada Pension Plan Investment Board (the “Investor”), pursuant to which the Company has agreed to issue and sell to the Investor in a private placement (the “Private Placement”) 21,661,095 newly issued shares of common stock, par value $0.50 per share (the “Common Stock”). The gross proceeds of the Private Placement are expected to amount to approximately $750,000, less estimated expenses of $21,560.

The shares issued and sold to the Investor pursuant to the Private Placement were to be priced at the lower of (1) $34.62, which represents a 4.5% discount to the trailing 20 consecutive trading day volume weighted average price of the Common Stock ending on, and including, March 28, 2019, and (2) the volume weighted average price per share in the Company’s subsequent public offering of Common Stock to fund a portion of the Peoples Gas Acquisition. Based on the common stock offering noted below, the Private Placement was priced at $34.62 per share.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

The closing of the Private Placement is expected to occur concurrently with the closing of the Peoples Gas Acquisition, subject to certain closing conditions, including the closing of the Peoples Gas Acquisition, and the execution and delivery of a shareholder agreement between the Investor and the Company. The Investor has agreed to certain transfer restrictions for a period of 15 months from the closing date of the Peoples Gas Acquisition.

The Stock Purchase Agreement contains customary representations, warranties and covenants of the Company and the Investor, and the parties have agreed to indemnify each other for losses related to breaches of their respective representations and warranties. Upon closing of the Private Placement, the Company has agreed to reimburse the Investor for reasonable out-of-pocket diligence expenses of up to $4,000, subject to certain exceptions.

Common Stock / Tangible Equity Unit Issuances

On April 23, 2019, the Company issued $1,293,750, less expenses of $29,625, of its common stock and $690,000, less expenses of $15,830, of its tangible equity units (the “Units”), with a stated amount of $50 per unit. These issuances were part of the permanent financing to close the planned Peoples Gas Acquisition. The common stock was issued at $34.62 per share and thus the Private Placement noted above was priced at $34.62 per share.

Each Unit consists of a prepaid stock purchase contract and an amortizing note due April 30, 2022, each issued by the Company. Unless earlier settled or redeemed, each stock purchase contract will automatically settle on April 30, 2022 (subject to postponement in limited circumstances) for between 1.1790 and 1.4442 shares of the Company’s common stock, subject to adjustment, based upon the applicable market value of the common stock, as described in the final prospectus supplement relating to the Units. The amortizing notes have an initial principal amount of $8.62909, or $119,081 in aggregate, and bear interest at a rate of 3.00% per year, and pay equal quarterly cash installments of $0.75000 per amortizing note (except for the July 30, 2019 installment payment, which was $0.80833 per amortizing note), that will constitute a payment of interest and a partial repayment of principal, and which cash payment in the aggregate will be equivalent to 6.00% per year with respect to each $50 stated amount of the Units. The amortizing notes represent unsecured senior obligations of the Company.

The issuance of the common stock and the Units (including the component stock purchase contracts and amortizing notes) were separate public issuances made by means of separate prospectus supplements pursuant to the Company’s universal “pay as you go” shelf registration statement, filed with the SEC in February 2018, which allows for the potential future offer and sale by us, from time to time, in one or more public offerings, of an indeterminate amount of the Company’s common stock, preferred stock, debt securities, and other securities specified therein at indeterminate prices.

The Company recorded the issuance of the purchase contract portion of the Units as additional paid-in-capital of $570,919, less allocable issuance costs of $13,082, in our financial statements. The Company recorded the amortizing notes portion of the Units of $119,081 as long-term debt and recorded allocable issuance costs of $2,748 as debt issuance costs.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Long-term Debt

On April 26, 2019, the Company issued $900,000 of long-term debt (the “Senior Notes”), less expenses of $7,324, of which $400,000 is due in 2029, and $500,000 is due in 2049 with interest rates of 3.566% and 4.276%, respectively.

The issuance of the Senior Notes was not conditioned upon the consummation of the Peoples Gas Acquisition; however, if (1) the Peoples Gas Acquisition has not been consummated on or prior to April 22, 2020, (2) on or prior to the April 22, 2020 and prior to the consummation of the Peoples Gas Acquisition, the Acquisition Agreement is terminated or (3) prior to the consummation of the Peoples Gas Acquisition, the Company otherwise publicly announces that the acquisition will not be consummated, then the Company will be required to redeem all outstanding Senior Notes on a special mandatory redemption date at a special mandatory redemption price equal to 101% of the aggregate principal amount of the notes, plus accrued and unpaid interest thereon, if any, to, but excluding, the special mandatory redemption date.

The Company used the net proceeds from the issuance of Senior Notes, together with the net proceeds from the common stock offering and tangible equity unit offering noted above, as well as the proceeds from the Private Placement of common stock noted above, to (1) secure funding for the planned Peoples Gas Acquisition, (2) complete the redemption of $313,500 aggregate principal amount of certain of the Company’s outstanding notes noted below, (3) pay related costs and expenses, and (4) for general corporate purposes. Upon consummation of the Private Placement, the permanent financing for the Peoples Gas Acquisition will be complete.

On May 18, 2019, the Company redeemed $313,500 of the Company’s outstanding notes (the “Company Debt Refinancing”) that had maturities ranging from 2019-2037 and interest rates ranging from 3.57-5.83%. Additionally, the Company Debt Refinancing was subject to a make whole payment of $25,237. During the second quarter of 2019, $18,935 of this payment was expensed and is presented in the consolidated statements of operations on the line item “loss on debt extinguishment.”  The balance of the payment, or $6,302, was deferred as it represents an amount by which the Company expects to receive prospective rate recovery.

If for any reason the Peoples Gas Acquisition is not consummated, the Company intends to use the net proceeds from these financings, after the special mandatory redemption noted above, for general corporate purposes, which may include the redemption of certain of the Company’s outstanding notes, repurchases of the Company’s common stock, debt repayment, capital expenditures, and investments.

In May 2019, Aqua Pennsylvania issued $125,000 of first mortgage bonds, of which $75,000 is due in 2049, $25,000 is due in 2054, and $25,000 is due in 2059 with interest rates of 4.02%, 4.07%, and 4.12%, respectively. The proceeds from these bonds were used to repay existing indebtedness and for general corporate purposes. Additionally, Aqua Pennsylvania committed to the issuance of $175,000 of first mortgage bonds, contingent upon receiving approval from the Pennsylvania Public Utility Commission, of which $50,000 is due in 2054, $75,000 is due in 2058, and $50,000 is due in 2059 with interest rates of 4.09%, 4.13%, and 4.14%, respectively, that will be issued in September 2019.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 7 – Interest Rate Swap Agreements

In October 2018, the Company entered into interest rate swap agreements to mitigate interest rate risk associated with an anticipated $850,000 of future debt issuances to fund a portion of the Peoples Gas Acquisition and refinance a portion of the Company’s borrowings. On April 24, 2019, the Company settled the interest rate swap agreements upon issuance of $900,000 of long-term debt to be used to finance a portion of the purchase price of the Peoples Gas Acquisition and redeem $313,500 of the Company’s existing debt. The settlement resulted in a payment by the Company of $83,520.

The interest rate swaps did not qualify for hedge accounting and any changes in the fair value of the swaps was included in our earnings. The interest rate swaps were classified as financial derivatives used for non-trading activities. Other than the interest rate swaps, the Company had no other derivative instruments. The Company recorded the fair value of the interest rate swaps by discounting the future net cash flows associated with the debt issuance and recognized either an asset or liability at the balance sheet date.

The following table provides a summary of the amounts recognized in earnings for our interest rate swap agreements:

Amount of Gain (Loss) Recognized in Income on Derivatives

Amount of Gain (Loss) Recognized in Income on Derivatives

Three Months Ended June 30,

Six Months Ended June 30,

Location of Gain (Loss) Recognized

2019

2019

Derivatives not designated as hedging instrument:

Interest rate swaps

Other income (expense)

$

11,040 

$

(23,742)

Note 8 – Financial Instruments 

 

The Company follows the FASB’s accounting guidance for fair value measurements and disclosures, which defines fair value and establishes a framework for using fair value to measure assets and liabilities. That framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are as follows:

Level 1: unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access; 

Level 2: inputs other than Level 1 that are observable, either directly or indirectly, such as quoted market prices in active markets for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in non-active markets, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; or 

Level 3: inputs that are unobservable and significant to the fair value measurement. 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

The asset’s or liability’s fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Valuation techniques used need to maximize the use of observable inputs and minimize the use of unobservable inputs. There have been no changes in the valuation techniques used to measure fair value, or asset or liability transfers between the levels of the fair value hierarchy for the quarter ended June 30, 2019. 

Financial instruments are recorded at carrying value in the financial statements and approximate fair value as of the dates presented.  The fair value of these instruments is disclosed below in accordance with current accounting guidance related to financial instruments. 

The fair value of loans payable is determined based on its carrying amount and utilizing Level 1 methods and assumptions. As of June 30, 2019 and December 31, 2018, the carrying amount of the Company’s loans payable was $6,076 and $15,449, respectively, which equates to their estimated fair value. The fair value of the interest rate swap agreements was determined by discounting the future net cash flows utilizing level 2 methods and assumptions. As of December 31, 2018, the fair value of the Company’s interest rate swap agreements, which were settled in April 2019, represented a liability of $59,779. The fair value of cash and cash equivalents, which is comprised of uninvested cash and the proceeds from the April 2019 issuances of common stock, tangible equity units, and long-term debt for the planned Peoples Gas Acquisition, which are held in an interest- bearing account, is determined based on Level 1 methods and assumptions. As of June 30, 2019, and December 31, 2018, the carrying amounts of the Company's cash and cash equivalents was $1,974,076 and $3,627, respectively, which equates to their fair value. The Company’s assets underlying the deferred compensation and non-qualified pension plans are determined by the fair value of mutual funds, which are based on quoted market prices from active markets utilizing Level 1 methods and assumptions. As of June 30, 2019, and December 31, 2018, the carrying amount of these securities was $22,671 and $20,388, respectively, which equates to their fair value, and is reported in the consolidated balance sheet in deferred charges and other assets.

Unrealized gain and losses on equity securities held in conjunction with our non-qualified pension plan is as follows:

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Net gain (loss) recognized during the period on equity securities

$

60 

$

19 

$

193 

$

(2)

Less: net gain / loss recognized during the period on equity securities sold during the period

-

-

-

-

Unrealized gain (loss) recognized during the reporting period on equity securities still held at the reporting date

$

60 

$

19 

$

193 

$

(2)

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

The net gain recognized on equity securities is presented on the consolidated statements of operations on the line item “Other.”

The carrying amounts and estimated fair values of the Company’s long-term debt is as follows:

June 30,

December 31,

2019

2018

Carrying amount

$

3,000,467

$

2,563,660

Estimated fair value

3,234,787

2,588,086

 

The fair value of long-term debt has been determined by discounting the future cash flows using current market interest rates for similar financial instruments of the same duration utilizing Level 2 methods and assumptions.

The Company’s customers’ advances for construction have a carrying value of $102,801 as of June 30, 2019, and $93,343 as of December 31, 2018. Their relative fair values cannot be accurately estimated because future refund payments depend on several variables, including new customer connections, customer consumption levels, and future rates. Portions of these non-interest-bearing instruments are payable annually through 2029 and amounts not paid by the respective contract expiration dates become non-refundable. The fair value of these amounts would, however, be less than their carrying value due to the non-interest-bearing feature.

Note 9 – Net Income per Common Share

Basic net income per common share is based on the weighted average number of common shares outstanding and the minimum number of shares to be issued upon settlement of the stock purchase contracts issued under the tangible equity units. Diluted net income per common share is based on the weighted average number of common shares outstanding, potentially dilutive shares, and the expected number of shares to be issued upon settlement of the stock purchase contracts issued under the tangible equity units. The dilutive effect of employee stock-based compensation is included in the computation of diluted net income per common share. The dilutive effect of stock-based compensation is calculated using the treasury stock method and expected proceeds upon exercise or issuance of the stock-based compensation. The treasury stock method assumes that the proceeds from stock-based compensation are used to purchase the Company’s common stock at the average market price during the period. The following table summarizes the shares, in thousands, used in computing basic and diluted net income per common share: 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Average common shares outstanding during the period for basic computation

219,055

177,901

198,747

177,852

Dilutive effect of tangible equity units

423

-

212

-

Dilutive effect of employee stock-based compensation

312

372

344

447

Average common shares outstanding during the period for diluted computation

219,790

178,273

199,303

178,299

For the three months ended June 30, 2019 and the six months ended June 30, 2019 and 2018, all of the Company’s employee stock options were included in the calculations of diluted net income per share as the calculated cost to exercise the stock options was less than the average market price of the Company’s common stock during these periods. For the three months ended June 30, 2018, employee stock options to purchase 159,244 shares of common stock were excluded from the calculation of diluted net income per share as the calculated cost to exercise the stock options was greater than the average market price of the Company’s common stock during this period.

For the three and six months ended June 30, 2019, the average common shares outstanding during the period for basic computation includes the impact of 12,336,745 and 6,202,452 shares, respectively, based on the minimum number of shares to be issued in April 2022 upon settlement of the stock purchase contracts issued in April 2019 under the tangible equity units.

Note 10 – Stock-based Compensation 

 

Under the Company’s 2009 Omnibus Equity Compensation Plan, as amended as of February 27, 2014 (the “2009 Plan”), as approved by the Company’s shareholders to replace the 2004 Equity Compensation Plan (the “2004 Plan”), stock options, stock units, stock awards, stock appreciation rights, dividend equivalents, and other stock-based awards may be granted to employees, non-employee directors, and consultants and advisors. No further grants may be made under the 2004 Plan. The 2009 Plan authorizes 6,250,000 shares for issuance under the plan. A maximum of 3,125,000 shares under the 2009 Plan may be issued pursuant to stock awards, stock units and other stock-based awards, subject to adjustment as provided in the 2009 Plan. During any calendar year, no individual may be granted (i) stock options and stock appreciation rights under the 2009 Plan for more than 500,000 shares of Company stock in the aggregate or (ii) stock awards, stock units or other stock-based awards under the 2009 Plan for more than 500,000 shares of Company stock in the aggregate, subject to adjustment as provided in the 2009 Plan. Awards to employees and consultants under the 2009 Plan are made by a committee of the Board of Directors of the Company, except that with respect to awards to the Chief Executive Officer, the committee recommends those awards for approval by the non-employee directors of the Board of Directors. In the case of awards to non-employee directors, the Board of Directors makes such awards. At June 30, 2019, 2,628,625 shares were still available for issuance under the 2009 Plan.  

 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Performance Share Units – A performance share unit (“PSU”) represents the right to receive a share of the Company’s common stock if specified performance goals are met over the three-year performance period specified in the grant, subject to exceptions through the respective vesting period, which is generally three years. Each grantee is granted a target award of PSUs, and may earn between 0% and 200% of the target amount depending on the Company’s performance against the performance goals. The following table provides compensation costs for stock-based compensation related to PSUs:

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Stock-based compensation within operations and maintenance expenses

$

853

$

1,339

$

1,850

$

2,198

Income tax benefit

239

373

516

614

 

The following table summarizes the PSU transactions for the six months ended June 30, 2019:  

Number

Weighted

of

Average

Share Units

Fair Value

Nonvested share units at beginning of period

443,410

$

27.20

Granted

-

-

Performance criteria adjustment

(64,259)

33.42

Forfeited

(3,964)

33.62

Share units issued

(89,324)

52.39

Nonvested share units at end of period

285,863

17.84

 

 

 

A portion of the fair value of PSUs was estimated at the grant date based on the probability of satisfying the market-based conditions using the Monte Carlo valuation method, which assesses probabilities of various outcomes of market conditions. The other portion of the fair value of the PSUs is based on the fair market value of the Company’s stock at the grant date, regardless of whether the market-based condition is satisfied. The per unit weighted-average fair value at the date of grant for PSUs granted during the six months ended June 30, 2018 was $37.65. The Company did not grant PSUs for the six months ended June 30, 2019. The fair value of each PSU grant is amortized monthly into compensation expense on a straight-line basis over their respective vesting periods, generally 36 months. The accrual of compensation costs is based on the Company’s estimate of the final expected value of the award, and is adjusted as required for the portion based on the performance-based condition. The Company assumes that forfeitures will be minimal, and recognizes forfeitures as they occur, which results in a reduction in compensation expense. As the payout of the PSUs includes dividend equivalents, no separate dividend yield assumption is required in calculating the fair value of the PSUs. The recording of compensation expense for PSUs has no impact on net cash flows.  

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Restricted Stock UnitsA restricted stock unit (“RSU”) represents the right to receive a share of the Company’s common stock. RSUs are eligible to be earned at the end of a specified restricted period, which is generally three years, beginning on the date of grant. The Company assumes that forfeitures will be minimal, and recognizes forfeitures as they occur, which results in a reduction in compensation expense. As the payout of the RSUs includes dividend equivalents, no separate dividend yield assumption is required in calculating the fair value of the RSUs. The following table provides the compensation cost and income tax benefit for stock-based compensation related to RSUs:

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Stock-based compensation within operations and maintenance expenses

$

412

$

355

$

837

$

706

Income tax benefit

116

100

236

201

 

The following table summarizes the RSU transactions for the six months ended June 30, 2019: 

Number

Weighted

of

Average

Stock Units

Fair Value

Nonvested stock units at beginning of period

130,085

$

33.13

Granted

55,686

36.01

Stock units vested and issued

(40,178)

32.88

Forfeited

(2,327)

35.17

Nonvested stock units at end of period

143,266

34.29

 

The per unit weighted-average fair value at the date of grant for RSUs granted during the six months ended June 30, 2019 and 2018 was $36.01 and $34.91, respectively.  

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Stock Options – A stock option represents the option to purchase a number of shares of common stock of the Company as specified in the stock option grant agreement at the exercise price per share as determined by the closing market price of our common stock on the grant date. Stock options are exercisable in installments of 33% annually, starting one year from the grant date and expire 10 years from the grant date, subject to satisfaction of designated performance goals. The fair value of each stock option is amortized into compensation expense using the graded-vesting method, which results in the recognition of compensation costs over the requisite service period for each separately vesting tranche of the stock options as though the stock options were, in substance, multiple stock option grants. The following table provides the compensation cost and income tax benefit for stock-based compensation related to stock options:

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Stock-based compensation within operations and maintenance expenses

$

661

$

154

$

988

$

248

Income tax benefit

186

42

278

101

The fair value of options was estimated at the grant date using the Black-Scholes option-pricing model. The following assumptions were used in the application of this valuation model:

2019

2018

Expected term (years)

5.47

5.46

Risk-free interest rate

2.53%

2.72%

Expected volatility

17.7%

17.2%

Dividend yield

2.44%

2.37%

Grant date fair value per option

$

5.25

$

5.10

Historical information was the principal basis for the selection of the expected term and dividend yield. The expected volatility is based on a weighted-average combination of historical and implied volatilities over a time period that approximates the expected term of the option. The risk-free interest rate was selected based upon the U.S. Treasury yield curve in effect at the time of grant for the expected term of the option.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

The following table summarizes stock option transactions for the six months ended June 30, 2019:

Weighted

Weighted

Average

Average

Aggregate

Exercise

Remaining

Intrinsic

Shares

Price

Life (years)

Value

Outstanding at beginning of period

422,972

$

25.97

Granted

769,115

35.94

Forfeited

(18,120)

35.45

Expired / Cancelled

(397)

32.05

Exercised

(98,627)

15.68

Outstanding at end of period

1,074,943

$

33.89

8.8

$

8,044

Exercisable at end of period

186,931

$

25.83

5.5

$

2,904

 

Stock Awards – Stock awards represent the issuance of the Company’s common stock, without restriction. The issuance of stock awards results in compensation expense which is equal to the fair market value of the stock on the grant date, and is expensed immediately upon grant. The following table provides the compensation cost and income tax benefit for stock-based compensation related to stock awards:

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Stock-based compensation within operations and maintenance expenses

$

202

$

140

$

382

$

280

Income tax benefit

58

41

110

81

The following table summarizes stock award transactions for the six months ended June 30, 2019:

Number

Weighted

of

Average

Stock Awards

Fair Value

Nonvested stock awards at beginning of period

-

$

-

Granted

9,854

38.82

Vested

(9,854)

38.82

Nonvested stock awards at end of period

-

-

The per unit weighted-average fair value at the date of grant for stock awards granted during the six months ended June 30, 2019 and 2018 was $38.82 and $34.58, respectively.

 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 11 – Pension Plans and Other Postretirement Benefits  

 

The Company maintains a qualified defined benefit pension plan (the “Pension Plan”), a nonqualified pension plan, and other postretirement benefit plans for certain of its employees. The net periodic benefit cost is based on estimated values and an extensive use of assumptions about the discount rate, expected return on plan assets, the rate of future compensation increases received by the Company’s employees, mortality, turnover, and medical costs. The following tables provide the components of net periodic benefit cost:

Pension Benefits

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Service cost

$

680

$

812

$

1,360

$

1,625

Interest cost

2,954

2,874

5,908

5,748

Expected return on plan assets

(3,818)

(4,553)

(7,636)

(9,106)

Amortization of prior service cost

155

132

310

264

Amortization of actuarial loss

1,982

1,823

3,964

3,646

Net periodic benefit cost

$

1,953

$

1,088

$

3,906

$

2,177

Other

Postretirement Benefits

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Service cost

$

205

$

262

$

410

$

525

Interest cost

750

708

1,500

1,416

Expected return on plan assets

(621)

(677)

(1,242)

(1,353)

Amortization of prior service cost

(116)

(127)

(232)

(255)

Amortization of actuarial loss

166

296

332

591

Net periodic benefit cost

$

384

$

462

$

768

$

924

The components of net periodic benefit cost other than service cost are presented on the consolidated statements of operations on the line item “Other.”

The Company made cash contributions of $6,479 to its Pension Plan during the first six months of 2019 and intends to make additional cash contributions of $1,743 to the Pension Plan during the remainder of 2019.

 

Note 12 – Water and Wastewater Rates 

In August 2018, the Company’s operating subsidiary in Pennsylvania filed for a base rate increase in water and wastewater rates for its customers. In May 2019 the Company received an order from the Pennsylvania Public Utility Commission, resulting in an increase of $47,000 in annual revenue, and new rates went into effect on May 24, 2019. The rates in effect at the time of the filing also included $29,493

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

in Distribution System Improvement Charges (“DSIC”), which was 7.5% above prior base rates.  Consequently, the aggregate base rates increased by $76,493 since the last base rate increase and the DSIC was reset to zero.

In December 2018, the Company’s operating subsidiary in New Jersey filed for a base rate increase in water rates for its customers. In May 2019, the Company received an order from the New Jersey Board of Public Utilities, resulting in an increase of $5,000 in annual revenues, and new rates went into effect on June 1, 2019.

In addition to the Pennsylvania and New Jersey rate awards noted above, during the first six months of 2019, the Company’s operating divisions in Ohio were granted base rate increases designed to increase total operating revenues on an annual basis by $974. Further, during the first six months of 2019, the Company’s operating divisions in Illinois, Ohio, and Pennsylvania received approval to bill infrastructure rehabilitation surcharges designed to increase total operating revenues on an annual basis by $3,931.

 

Note 13 – Taxes Other than Income Taxes 

 

The following table provides the components of taxes other than income taxes:

Three Months Ended

Six Months Ended

June 30,

June 30,

2019

2018

2019

2018

Property

$

6,929

$

6,775

$

13,395

$

13,524

Gross receipts, excise and franchise

3,538

3,789

6,757

7,053

Payroll

2,291

2,180

5,772

5,455

Regulatory assessments

748

627

1,495

1,254

Pumping fees

1,272

1,424

2,241

2,415

Other

90

34

177

95

Total taxes other than income

$

14,868

$

14,829

$

29,837

$

29,796

 

Note 14 – Segment Information 

 

The Company has ten operating segments and one reportable segment. The Regulated segment, the Company’s single reportable segment, is comprised of eight operating segments representing its water and wastewater regulated utility companies which are organized by the states where the Company provides water and wastewater services. These operating segments are aggregated into one reportable segment because each of these operating segments has the following similarities: economic characteristics, nature of services, production processes, customers, water distribution or wastewater collection methods, and the nature of the regulatory environment.

Two operating segments are included within the Other category below. These segments are not quantitatively significant and are comprised of Aqua Infrastructure and Aqua Resources. Aqua Infrastructure provides non-utility raw water supply services for firms in the natural gas drilling industry. Aqua Resources provides water and wastewater service through operating and maintenance contracts with municipal authorities and other parties close to its utility companies’ service territories; and offers, through a third-party, water and sewer service line protection solutions and repair services to households.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

In addition to these segments, Other is comprised of other business activities not included in the reportable segment, including corporate costs that have not been allocated to the Regulated segment and intersegment eliminations. Corporate costs include general and administrative expenses, and interest expense.

The following table presents information about the Company’s reportable segment:

Three Months Ended

Three Months Ended

June 30, 2019

June 30, 2018

Regulated

Other

Consolidated

Regulated

Other

Consolidated

Operating revenues

$

218,006

$

886

$

218,892

$

210,824 

$

1,036 

$

211,860 

Operations and maintenance expense

74,082

12,363

86,445

73,047 

468 

73,515 

Depreciation

39,472

78

39,550

36,603 

10 

36,613 

Amortization

(3,060)

140

(2,920)

103 

46 

149 

Operating income (loss)

93,112

(12,163)

80,949

86,672 

82 

86,754 

Interest expense, net

24,067

(758)

23,309

21,756 

1,967 

23,723 

Allowance for funds used during construction

3,611

-

3,611

2,577 

-

2,577 

Equity earnings in joint venture

-

1,240

1,240

-

911 

911 

Provision for income taxes (benefit)

1,780

(3,951)

(2,171)

(147)

(220)

(367)

Net income (loss)

69,579

(14,676)

54,903

67,877 

(1,287)

66,590 

Six Months Ended

Six Months Ended

June 30, 2019

June 30, 2018

Regulated

Other

Consolidated

Regulated

Other

Consolidated

Operating revenues

$

418,226

$

1,798

$

420,024

$

404,331 

$

1,876 

$

406,207 

Operations and maintenance expense

148,420

17,339

165,759

144,350 

3,111 

147,461 

Depreciation

78,535

89

78,624

72,561 

19 

72,580 

Amortization

(2,864)

280

(2,584)

191 

88 

279 

Operating income (loss)

165,765

(17,377)

148,388

158,730 

(2,639)

156,091 

Interest expense, net

47,725

3,434

51,159

43,464 

3,730 

47,194 

Allowance for funds used during construction

7,667

-

7,667

5,444 

-

5,444 

Equity earnings in joint venture

-

1,783

1,783

-

1,293 

1,293 

Provision for income taxes (benefit)

2,731

(13,072)

(10,341)

(790)

(1,708)

(2,498)

Net income (loss)

121,520

(49,693)

71,827

121,904 

(4,475)

117,429 

Capital expenditures

269,171

-

269,171

216,614 

-

216,614 

June 30,

December 31,

2019

2018

Total assets:

Regulated

$

7,043,679

$

6,807,960

Other

2,136,671

156,536

Consolidated

$

9,180,350

$

6,964,496

 

 

Note 15 – Commitments and Contingencies 

 

The Company is routinely involved in various disputes, claims, lawsuits and other regulatory and legal matters, including both asserted and unasserted legal claims, in the ordinary course of business. The status of each such matter, referred to herein as a loss contingency, is reviewed and assessed in accordance with applicable accounting rules regarding the nature of the matter, the likelihood that a loss will be incurred, and the amounts involved. As of June 30, 2019, the aggregate amount of $17,929 is

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

accrued for loss contingencies and is reported in the Company’s consolidated balance sheet as other accrued liabilities and other liabilities. These accruals represent management’s best estimate of probable loss (as defined in the accounting guidance) for loss contingencies or the low end of a range of losses if no single probable loss can be estimated. For some loss contingencies, the Company is unable to estimate the amount of the probable loss or range of probable losses. While the final outcome of these loss contingencies cannot be predicted with certainty, and unfavorable outcomes could negatively impact the Company, at this time in the opinion of management, the final resolution of these matters are not expected to have a material adverse effect on the Company’s financial position, results of operations or cash flows. Further, the Company has insurance coverage for certain of these loss contingencies, and as of June 30, 2019, estimates that approximately $6,526 of the amount accrued for these matters are probable of recovery through insurance, which amount is also reported in the Company’s consolidated balance sheet as deferred charges and other assets, net.

Although the results of legal proceedings cannot be predicted with certainty, there are no pending legal proceedings to which the Company or any of its subsidiaries is a party or to which any of its properties is the subject that are material or are expected to have a material effect on the Company’s financial position, results of operations, or cash flows.

In addition to the aforementioned loss contingencies, the Company self-insures its employee medical benefit program, and maintains stop-loss coverage to limit the exposure arising from these claims. The Company’s reserve for these claims totaled $1,515 at June 30, 2019 and represents a reserve for unpaid claim costs, including an estimate for the cost of incurred but not reported claims.

 

Note 16 – Income Taxes 

 

During the six months ended June 30, 2019, the Company’s Federal net operating loss (“NOL”) carryforward increased by $33,928. In addition, during the six months ended June 30, 2019, the Company’s state NOL carryforward increased by $67,583. As of June 30, 2019, the balance of the Company’s Federal NOL was $44,763. The Company believes its Federal NOL carryforward is more likely than not to be recovered and requires no valuation allowance. As of June 30, 2019, the balance of the Company’s gross state NOL was $717,868, a portion of which is offset by a valuation allowance because the Company does not believe the state NOLs are more likely than not to be realized. The Company’s Federal and state NOL carryforwards begin to expire in 2032 and 2023, respectively. The Company’s Federal and state NOL carryforwards are reduced by an unrecognized tax position, on a gross basis, of $68,978 and $85,657, respectively. The amounts of the Company’s Federal and state NOL carryforwards prior to being reduced by the unrecognized tax positions were $113,741 and $803,525 respectively. The Company records its unrecognized tax benefit as a reduction to its deferred income tax liability.

As of June 30, 2019, the total gross unrecognized tax benefit was $17,562. As a result of the regulatory treatment afforded for qualifying infrastructure improvements in Pennsylvania, $28,058, if recognized, would affect the Company’s effective tax rate. At December 31, 2018, the Company had unrecognized tax benefits of $17,792.

Accounting rules for uncertain tax positions specify that tax positions for which the timing of resolution is uncertain should be classified as long-term liabilities. Judgment is required in evaluating the

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Company’s uncertain tax positions and determining the provision for income taxes. Management believes that an adequate provision has been made for any adjustments that may result from tax examinations. Although the timing of income tax audit resolutions and negotiations with taxing authorities is highly uncertain, the Company does not anticipate a significant change to the total amount of unrecognized income tax benefits within the next 12 months.

As of December 31, 2017, the Company had provisionally estimated that $175,108 of deferred income tax liabilities for our Pennsylvania subsidiary, Aqua Pennsylvania, will be a regulatory liability as a result of the accounting effect of the Tax Cuts and Jobs Acts (the “TCJA”). In May 2018, the Pennsylvania Public Utility Commission (“PA PUC”) issued an order that set forth the requirements for utilities to either immediately initiate the refund or otherwise address the impacts of the TCJA in the utilities’ next rate case. Aqua Pennsylvania was included in the rate filing group of utilities as the Company filed a base rate case in August 2018, during which it expected the PA PUC to address the effects of the TCJA within the base rate case filing. Additionally, the PA PUC ordered that all rates charged by utilities, including those billed by Aqua Pennsylvania since January 1, 2018, are temporary and subject to refund pending the outcome of its review of the effects of the TCJA within the next base rate case. In February 2019, Aqua Pennsylvania filed a settlement for this base rate case, and on March 11, 2019, the administrative law judges issued a recommended decision approving the settlement on March 11, 2019. In May 2019 a final order was issued from the PA PUC affirming the Company’s regulatory liability of $175,108 and authorizing the Company to implement an average rate assumption method to reduce the regulatory liability over the book lives beginning in June 2019 to reflect the fact that the benefit from the excess accumulated deferred taxes is now reflected in base rates.

The Company’s regulated operations accounting for income taxes are impacted by the FASB’s accounting guidance for regulated operations. Reductions in accumulated deferred income tax balances due to the reduction in the Federal corporate income tax rates to 21% under the provisions of the TCJA will result in amounts previously collected from utility customers for these deferred taxes to be refundable to such customers, generally through reductions in future rates. The TCJA includes provisions that stipulate how these excess deferred taxes related to certain accelerated tax depreciation deduction benefits are to be passed back to customers. Our state regulatory commissions have or are in the process of issuing procedural orders directing how the tax law changes are to be reflected in our utility customer rates.

 

Note 17 – Leases

The Company leases land, office facilities, office equipment, and vehicles for use in its operations, which are accounted for as operating leases. Leases with a remaining term of 12 months or less are not recorded on the balance sheet; rather, lease expense is recognized on a straight-line basis over the lease term. Our leases have remaining lives of 1 year to 76 years.

Some of the Company’s leases can be extended on a month-to-month basis, which allow us to terminate the lease at any given month without penalty while others include options to extend the leases for up to 50 years. The renewal of a month-to-month lease is at our sole discretion.

The Company accounts for lease and non-lease components of lease arrangements separately. For calculating lease liabilities, we may deem lease terms to include options to extend or terminate the lease

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

when it’s reasonably certain that we will exercise that option. The Company’s lease agreements do not contain significant residual value guarantees, restrictions or covenants.

Lease liabilities and corresponding right-of-use assets are recorded based on the present value of the lease payments over the expected lease term, including leases with variable payments that are based on a market rate or an index. All other variable payments are expensed as incurred. Since the Company’s lease agreements do not provide an implicit interest rate, we utilize our incremental borrowing rate to determine the discount rate used to present value the lease payments.

For the Company’s regulated utility operations, we utilize the FASB’s accounting guidance for leases for entities with regulated operations, which allows, for rate-making purposes, a lease to be accounted for as an operating lease even though the lease may be classified as a finance lease, since the amount of the lease payment is included in allowable costs as rental expense in the period it covers.

Three Months Ended

Six Months Ended

June 30, 2019

June 30, 2019

Components of lease expense were as follows:

Operating lease cost

$

530

$

1,105

Supplemental cash flow information related to leases was as follows:

Cash paid for amounts included in the measurement of lease liabilities:

Operating cash flows from operating leases

$

355

$

1,293

June 30,

2019

Supplemental balance sheet information related to leases was as follows:

Operating leases:

Operating lease right-of-use assets

$

13,164

Other accrued liabilities

$

1,251

Operating lease liabilities

11,913

Total operating lease liabilities

$

13,164

June 30,

2019

Weighted average remaining lease term:

Operating leases

27 years

Weighted average discount rate:

Operating leases

4.08%

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Maturities of operating lease liabilities and a reconciliation of the operating lease liabilities reported on our Consolidated Balance Sheets as of June 30, 2019 are as follows:

Operating Leases

2019

$

618

2020

1,597

2021

1,374

2022

1,145

2023

770

Thereafter

16,430

Total operating lease payments

$

21,934

Total operating lease payments

$

21,934

Less operating lease liabilities

13,164

Present value adjustment

$

8,770

The future annual minimum lease payments due for the Company’s leases as of December 31, 2018 were as follows:

2019

$

2,221

2020

1,682

2021

1,443

2022

1,221

2023

848

Thereafter

16,170

Total

$

23,585

Note 18 – Recent Accounting Pronouncements  

Pronouncements to be adopted upon the effective date:

In August 2018, the FASB issued updated accounting guidance on accounting for cloud computing arrangements. The updated guidance requires entities that are customers in cloud computing arrangements to defer implementation costs if they would be capitalized by the entity in software licensing arrangements under the internal-use software guidance. The guidance may be applied retrospectively or prospectively to implementation costs incurred after the date of adoption. The updated accounting guidance is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years. The Company is evaluating the requirements of the updated guidance to determine the impact of adoption.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

In August 2018, the FASB issued updated accounting guidance, which modifies the disclosures required for defined benefit pension and other postretirement benefit plans. The modifications in this update remove disclosures that are no longer considered cost beneficial, clarify the specific requirements of disclosures, and add disclosure requirements identified as relevant. The updated accounting guidance is effective for fiscal years ending after December 15, 2020, with early adoption available. The Company is evaluating the requirements of the updated guidance to determine the impact of adoption.

In August 2018, the FASB issued updated accounting guidance, which modifies the disclosure requirements on fair value measurements. The modifications in this update eliminates, amends, and adds disclosure requirements for fair value measurements, which is expected to reduce costs for preparers while providing more decision-useful information for financial statement users. The updated accounting guidance is effective for fiscal years ending after December 15, 2019, with early adoption available. The Company is evaluating the requirements of the updated guidance to determine the impact of adoption.

In June 2016, the FASB issued updated accounting guidance on accounting for impairments of financial instruments, including trade receivables, which requires companies to estimate expected credit losses on trade receivables over their contractual life. Historically, companies reserve for expected credit losses by applying historical loss percentages to respective aging categories. Under the updated accounting guidance, companies will use a forward-looking methodology that incorporates lifetime expected credit losses, which will result in an allowance for expected credit losses for receivables that are either current or not yet due, which historically have not been reserved for. The updated accounting guidance is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years, with early adoption available. The Company is evaluating the requirements of the updated guidance to determine the impact of adoption.

Pronouncements adopted during the year:

In February 2016, the FASB issued updated accounting guidance on accounting for leases, which requires lessees to establish a right-of-use asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. For income statement purposes, leases will be classified as either operating or finance. Operating leases will result in straight-line expense while finance leases will result in a front-loaded expense pattern. The updated accounting guidance is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, with early adoption available. On January 1, 2019, the Company adopted the updated guidance as required using the modified retrospective approach, which provides a method for recording existing leases at adoption and in comparative periods that approximates the results of a full retrospective approach. Further, we elected the package of practical expedients permitted under the transition guidance within the updated guidance, which among other things, allowed the Company to carry forward its historical lease classification. The Company also elected the practical expedient related to land easements, allowing the Company to carry forward its accounting treatment for land easements on existing agreements. Adoption of the new guidance resulted in the recording, on the Company’s consolidated balance sheet, of a right-of-use asset and lease liability of $14,028 as of January 1, 2019, and there was no cumulative impact adjustment to retained earnings for prior periods accounted for under the previous lease guidance.

 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

(In thousands of dollars, except per share amounts)

 

Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations 

Forward-looking Statements

This Management’s Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Quarterly Report contain, in addition to historical information, forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements address, among other things: the projected impact of various legal proceedings; the projected effects of recent accounting pronouncements; prospects, plans, objectives, expectations and beliefs of management, as well as information contained in this report where statements are preceded by, followed by or include the words “believes,” “expects,” “estimates,” “anticipates,” “plans,” “future,” “potential,” “probably,” “predictions,” “intends,” “will,” “continue,” “in the event” or the negative of such terms or similar expressions. Forward-looking statements are based on a number of assumptions concerning future events, and are subject to a number of risks, uncertainties and other factors, many of which are outside our control, which could cause actual results to differ materially from those expressed or implied by such statements. These risks and uncertainties include, among others: the effects of regulation, abnormal weather, changes in capital requirements and funding, our ability to close acquisitions, changes to the capital markets, and our ability to assimilate acquired operations, as well as those risks, uncertainties and other factors discussed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2018 under the captions “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in such report and those included under the captions “Risk Factors” in this Quarterly Report. As a result, readers are cautioned not to place undue reliance on any forward-looking statements. We undertake no obligation to update or revise forward-looking statements, whether as a result of new information, future events or otherwise.  

General Information

Aqua America, Inc. (“we”, “us”, “our” or the “Company”), a Pennsylvania corporation, is the holding company for regulated utilities providing water or wastewater services to what we estimate to be almost three million people in Pennsylvania, Ohio, Texas, Illinois, North Carolina, New Jersey, Indiana, and Virginia. Our largest operating subsidiary, Aqua Pennsylvania, provides water or wastewater services to approximately one-half of the total number of people we serve, who are located in the suburban areas in counties north and west of the City of Philadelphia and in 27 other counties in Pennsylvania. Our other regulated utility subsidiaries provide similar services in seven other states. In addition, the Company’s market-based activities are conducted through Aqua Infrastructure, LLC and Aqua Resources, Inc. Aqua Infrastructure provides non-utility raw water supply services for firms in the natural gas drilling industry. Aqua Resources provides water and wastewater service through operating and maintenance contracts with municipal authorities and other parties close to our utility companies’ service territories and offers, through a third-party, water and sewer service line protection solutions and repair services to households.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

Aqua America, Inc., which prior to its name change in 2004 was known as Philadelphia Suburban Corporation, was formed in 1968 as a holding company for its primary subsidiary, Aqua Pennsylvania, formerly known as Philadelphia Suburban Water Company. In the early 1990s, we embarked on a growth-through-acquisition strategy focused on water and wastewater operations. Our most significant transactions to date have been the merger with Consumers Water Company in 1999, the acquisition of the regulated water and wastewater operations of AquaSource, Inc. in 2003, the acquisition of Heater Utilities, Inc. in 2004, and the acquisition of American Water Works Company, Inc.’s regulated operations in Ohio in 2012. Since the early 1990s, our business strategy has been primarily directed toward the regulated water and wastewater utility industry, where we have more than quadrupled the number of regulated customers we serve, and has extended our regulated operations from southeastern Pennsylvania to include operations in seven other states.   The Company seeks to acquire businesses in the U.S. regulated sector, which includes water and wastewater utilities and other regulated utilities, and to opportunistically pursue growth ventures in select market-based activities, such as infrastructure opportunities that are supplementary and complementary to our regulated businesses. On October 22, 2018, the Company entered into an agreement to acquire from LDC Funding LLC, the parent company of PNG Companies, a natural gas distribution company consisting of Peoples Natural Gas Company LLC, Peoples Gas Company LLC, and Delta Natural Gas Company Inc. (“Peoples”), which upon closing, will expand the Company’s regulated utility business to include natural gas distribution.

The following discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and related notes.

Financial Condition

During the first six months of 2019, we incurred $269,171 of capital expenditures, expended $519 for the acquisition of water and wastewater utility systems, issued $1,268,545 of common stock, $674,170 of tangible equity units, $1,136,000 of long-term debt, and repaid debt and made sinking fund contributions and other loan repayments, including the extinguishment of long-term debt, of $850,879. The capital expenditures were related to new and replacement water mains, improvements to treatment plants, tanks, hydrants, and service lines, well and booster improvements, and other enhancements and improvements. The issuance of common stock, tangible equity units, and long-term debt was comprised principally of the permanent financing for our pending acquisition of Peoples and funds borrowed under our revolving credit facility.

Pursuant to the Company’s growth strategy, on October 22, 2018, the Company entered into a purchase agreement (the “Acquisition Agreement”) with LDC Parent LLC (“Seller”), to acquire its interests in LDC Funding LLC (“LDC”). LDC is the parent of LDC Holdings LLC (“LDC Holdings”), and LDC Holdings is the parent of five natural gas utility companies, which includes Peoples Natural Gas Company, Peoples Gas Company, and Delta Natural Gas Company as well as other operating subsidiaries. This acquisition is referred to as the “Peoples Gas Acquisition,” and collectively these businesses are referred to as “Peoples.” Peoples is headquartered in Pittsburgh, Pennsylvania, and serves approximately 740,000 gas utility customers in western Pennsylvania, West Virginia, and Kentucky. At the closing of the Peoples Gas Acquisition, the Company will pay $4,275,000 in cash subject to adjustments for working capital, certain capital expenditures, transaction expenses and closing

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

indebtedness as set forth in the Acquisition Agreement. The Company expects to assume approximately $1,370,000 of Peoples’ indebtedness upon closing of the Peoples Gas Acquisition, which would reduce the cash purchase price by approximately $1,370,000.

On October 22, 2018, the Company obtained a commitment (the “Bridge Commitment”) from certain banks to provide senior unsecured bridge loans in an aggregate amount of up to $5,100,000 to, among other things, backstop the Peoples Gas Acquisition purchase price and refinancing of certain debt of the Company and Peoples. On March 29, 2019, the Company entered into a Stock Purchase Agreement to issue shares of common stock in a private placement to fund a portion of the Peoples Gas Acquisition. We expect the private placement to close concurrently with the consummation of the Peoples Gas Acquisition. The gross proceeds of the Stock Purchase Agreement are expected to amount to approximately $750,000. Further, on April 18, 2019, the Company issued $1,293,750 of its common stock and $690,000 of its tangible equity units, with a stated amount of $50 per unit, and on April 26, 2019, the Company issued $900,000 of senior notes. As of June 30, 2019, the Company has terminated $4,350,000 of commitments under the Bridge Commitment. The remaining balance available under the Bridge Commitment is $750,000. Refer to Note 6 – Capitalization to the consolidated financial statements for further information on these financings.

On May 18, 2019, the Company redeemed $313,500 of the Company’s outstanding notes that had maturities ranging from 2019-2037 and interest rates ranging from 3.57-5.83%. Additionally, the redemption of senior unsecured notes was subject to a make whole payment of $25,237. During the second quarter of 2019, $18,935 of this payment was expensed and is presented in the consolidated statements of operations on the line item “loss on debt extinguishment.”  The balance of the payment, or $6,302, was deferred as it represents an amount by which the Company expects to receive prospective rate recovery.

On October 23, 2018, the Company entered into interest rate swap agreements to mitigate interest rate risk associated with an anticipated $850,000 of future debt issuances to fund a portion of the Peoples Gas Acquisition. The interest rate swaps were settled on April 24, 2019 in conjunction with the issuance of $900,000 of long-term debt to be used to finance a portion of the purchase price of this acquisition and redeem $313,500 of the Company’s existing debt. Refer to Note 7 – Interest Rate Swap Agreements to the consolidated financial statements in this report for further information. The interest rate swaps did not qualify for hedge accounting and any changes in the fair value of the swaps was included in our earnings.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

The Peoples Gas Acquisition is subject to certain other adjustments at closing and is subject to regulatory approval by the Pennsylvania Public Utility Commission, and other customary closing conditions set forth in the Acquisition Agreement. Approval from the United States Federal Trade Commission was obtained in December 2018, and approvals from the public utility commissions of Kentucky and West Virginia were obtained in March 2019 and April 2019, respectively. On June 11, 2019, we filed a settlement agreement with the Pennsylvania Public Utility Commission, and all but two of the intervenors to the case have entered into or chosen not to oppose the settlement agreement. The Peoples Gas Acquisition is expected to close in the fall of 2019, once all regulatory approvals are obtained and closing conditions are met, and it is anticipated that this acquisition will result in the recording of goodwill. In the event that the Acquisition Agreement is terminated due to certain breaches by the Company, a fee of $120,000 would be payable to the Seller as a reverse termination fee.

At June 30, 2019, we had $1,974,076 of cash and cash equivalents compared to $3,627 at December 31, 2018. The cash and cash equivalents balance at June 30, 2019 includes $1,968,123 of proceeds from the April 2019 financings that are being held in an interest-bearing account to fund the Peoples acquisition, which is expected to close in the fall of 2019. During the first six months of 2019, we used the proceeds from the issuance of common stock, tangible equity units, long-term debt, and internally generated funds to fund the cash requirements discussed above, deposit financing proceeds into an interest-bearing account, and to pay dividends.

At June 30, 2019, our $550,000 unsecured revolving credit facility, which expires in December 2023, had $531,302 available for borrowing. At June 30, 2019, we had short-term lines of credit of $135,500, of which $129,424 was available for borrowing. One of our short-term lines of credit is an Aqua Pennsylvania $100,000 364-day unsecured revolving credit facility with four banks, which is used to provide working capital, and as of June 30, 2019, $93,924 was available for borrowing.

Our short-term lines of credit of $135,500 are subject to renewal on an annual basis. Although we believe we will be able to renew these facilities, there is no assurance that they will be renewed, or what the terms of any such renewal will be.  

As a result of the proceeds raised from the April 2019 financings that are being held for funding the Peoples acquisition, which is expected to close in the fall of 2019, the Company has a positive working capital position as of June 30, 2019.  However, historically, the Company’s consolidated balance sheet has had a negative working capital position whereby our current liabilities routinely exceed our current assets. Management believes that internally generated funds along with existing credit facilities and the proceeds from the issuance of long-term debt, common equity, and tangible equity units will be adequate to provide sufficient working capital to maintain normal operations and to meet our financing requirements for at least the next twelve months. 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

Results of Operations

Analysis of Second Quarter of 2019 Compared to Second Quarter of 2018

Revenues increased by $7,032 or 3.3%, primarily due to:

an increase in water and wastewater rates and infrastructure rehabilitation surcharges of $4,731; and

additional water and wastewater revenues of $4,039 associated with a larger customer base due to organic growth and utility acquisitions, and other growth ventures;

offset by a decrease in water and wastewater revenues of $764 as a result of a do not consume advisory for some of our customers served by our Illinois subsidiary. We expect this decrease in revenues to continue into the third quarter of 2019.

Operations and maintenance expenses increased by $12,930 or 17.6%, primarily due to:

transaction expenses of $12,744 for our planned Peoples Gas Acquisition, primarily representing expenses associated with obtaining regulatory approvals, investment banking fees, including bridge financing, legal expenses, and integration planning;

additional operating costs associated with acquired utility systems of $1,131; and

expenses of $972 associated with remediating a do not consume advisory for some of our customers served by our Illinois subsidiary. We expect that the expenses associated with remediating the do not consumer advisory to continue in the third quarter of 2019;

offset by a decrease in insurance expenses of $728 due to lower claims.

Depreciation expense increased by $2,937 or 8.0%, primarily due to the utility plant placed in service since June 30, 2018. 

Amortization expense decreased by $3,069 primarily due to the favorable effects of a one-time adjustment recorded in the second quarter of 2019 resulting from a rate order received for our Pennsylvania subsidiary.

 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

Interest expense decreased by $414 or 1.7%, primarily due to the following items:

interest income of $7,408 earned on the proceeds from our April 2019 equity offerings; and

a decrease in our effective interest rate;

offset by an increase in average borrowings;

pre-acquisition interest expense, net of $1,318 from the issuance of $900,000 long-term debt and $119,081 of amortizing notes in April 2019 partially for the planned Peoples Gas Acquisition; and

overlapping interest expense of $452 incurred in the second quarter of 2019 associated with $313,500 of existing debt that was subsequently refinanced in May 2019 after receipt of the proceeds from the April 2019 issuance of $900,000 of long-term debt.

Allowance for funds used during construction (“AFUDC”) increased by $1,034, due to an increase in the average balance of utility plant construction work in progress, to which AFUDC is applied, and an increase in the AFUDC rate as a result of an increase in the amount of AFUDC related to equity.

The change in fair value of interest rate swap agreements of $11,040 represents income recognized on the mark-to-market adjustment of our interest rate swap agreements that were entered into on October 23, 2018 to mitigate interest rate risk associated with an anticipated $850,000 of future debt issuances to fund a portion of the Peoples Gas Acquisition. The interest rate swap agreements did not qualify for hedge accounting, and any changes in the fair value of the swaps were included in earnings. On April 24, 2019, the Company settled the interest rate swap agreements upon issuance of $900,000 of long-term debt to be used to finance a portion of the purchase price of the Peoples Gas Acquisition and redeem $313,500 of the Company’s existing debt.

The loss on debt extinguishment of $18,935 results from the extinguishment of $313,500 of existing debt that was refinanced in May 2019.

Equity earnings in joint venture increased by $329 due to an increase in the sale of raw water to firms in the natural gas drilling industry.

Other increased by $1,475 primarily due to an increase in the non-service cost components of our net benefit cost for pension benefits.

Our effective income tax rate was -4.1% in the second quarter of 2019 and -0.6% in the second quarter of 2018. The Company’s provision for income taxes represents an income tax benefit due to the effects of the loss on debt extinguishment noted above of $18,935, tax deductions recognized for certain qualifying infrastructure improvements for Aqua Pennsylvania, and the amortization of certain tax benefits associated with the Tax Cuts and Jobs Act. Our effective income tax rate decreased due to the decrease in our income before income taxes of $13,491, which results primarily from the loss on debt extinguishment discussed above.

Net income decreased by $11,687 or 17.6%, primarily as a result of the factors described above.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

Analysis of First Six Months of 2019 Compared to First Six Months of 2018

Revenues increased by $13,817 or 3.4%, primarily due to:

an increase in water and wastewater rates and infrastructure rehabilitation surcharges of $9,470; and

additional water and wastewater revenues of $8,063 associated with a larger customer base due to organic growth and utility acquisitions, and other growth ventures;

offset by a decrease in customer water consumption;

and a decrease in water and wastewater revenues of $764 as a result of a do not consume advisory for some of our customers served by our Illinois subsidiary. We expect this decrease in revenues to continue into the third quarter of 2019.

Operations and maintenance expenses increased by $18,298 or 12.4%, primarily due to:

transaction expenses of $19,390 for our planned Peoples Gas Acquisition, primarily representing expenses associated with obtaining regulatory approvals, investment banking fees, including bridge financing, legal expenses, and integration planning;

additional operating costs associated with acquired utility systems of $2,103; and

expenses of $972 associated with remediating a do not consume advisory for some of our customers served by our Illinois subsidiary. We expect that the expenses associated with remediating the do not consumer advisory to continue in the third quarter of 2019;

offset by a decrease in insurance expenses of $1,770 due to lower claims.

Depreciation expense increased by $6,044 or 8.3%, primarily due to the utility plant placed in service since June 30, 2018. 

Amortization expense decreased by $2,863 primarily due to the favorable effects of a one-time adjustment recorded in the second quarter of 2019 resulting from a rate order received for our Pennsylvania subsidiary.

 

Interest expense increased by $3,965 or 8.4%, primarily due to the following items:

an increase in average borrowings;

pre-acquisition interest expense, net of $1,318 from the issuance of $900,000 long-term debt and $119,081 of amortizing notes in April 2019 partially for the planned Peoples Gas Acquisition; and

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

overlapping interest expense incurred in the second quarter of 2019 of $452 associated with $313,500 of existing debt that was subsequently refinanced in May 2019 after receipt of the proceeds from the April 2019 issuance of $900,000 of long-term debt;

offset by interest income of $7,408 earned on the proceeds from our April 2019 equity offerings;

and a decrease in our effective interest rate.

Allowance for funds used during construction (“AFUDC”) increased by $2,223, due to an increase in the average balance of utility plant construction work in progress, to which AFUDC is applied, and an increase in the AFUDC rate as a result of an increase in the amount of AFUDC related to equity.

The change in fair value of interest rate swap agreements of $23,742 represents expense recognized on the mark-to-market adjustment of our interest rate swap agreements that were entered into on October 23, 2018 to mitigate interest rate risk associated with an anticipated $850,000 of future debt issuances to fund a portion of the Peoples Gas Acquisition. The interest rate swap agreements did not qualify for hedge accounting, and any changes in the fair value of the swaps were included in earnings. On April 24, 2019, the Company settled the interest rate swap agreements upon issuance of $900,000 of long-term debt to be used to finance a portion of the purchase price of the Peoples Gas Acquisition and redeem $313,500 of the Company’s existing debt.

The loss on debt extinguishment of $18,935 results from the extinguishment of $313,500 of existing debt that was refinanced in May 2019.

Equity earnings in joint venture increased by $490 due to an increase in the sale of raw water to firms in the natural gas drilling industry.

Other increased by $1,744 primarily due to an increase in the non-service cost components of our net benefit cost for pension benefits.

Our effective income tax rate was -16.8% during the first six months of 2019 and -2.2% during the first six months of 2018. The Company’s provision for income taxes represents an income tax benefit due to the effects of the change in the fair value of the interest rate swap agreement noted above of $23,742, the loss on debt extinguishment of $18,935 noted above, tax deductions recognized for certain qualifying infrastructure improvements for Aqua Pennsylvania, and the amortization of certain tax benefits associated with the Tax Cuts and Jobs Act. Our effective income tax rate decreased due to the decrease in our income before income taxes of $53,445, which results primarily from the change in fair value of interest rate swap agreements, transaction expenses for our planned acquisition of Peoples, and the loss on debt extinguishment discussed above.

Net income decreased by $45,602 or 38.8%, primarily as a result of the factors described above.

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

 MANAGEMENT’S DISCUSSION AND ANALYSIS OF 

FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued)

(In thousands of dollars, except per share amounts)

Impact of Recent Accounting Pronouncements 

We describe the impact of recent accounting pronouncements in Note 18, Recent Accounting Pronouncements, to the consolidated financial statements in this report.

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Item 3 – Quantitative and Qualitative Disclosures About Market Risk 

We are subject to market risks in the normal course of business, including changes in interest rates and equity prices. There have been no significant changes in our exposure to market risks since December 31, 2018. Refer to Item 7A of the Company’s Annual Report on Form 10-K for the year ended December 31, 2018, filed February 26, 2019, for additional information.

Item 4 – Controls and Procedures 

 

(a)Evaluation of Disclosure Controls and Procedures 

 

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this report are effective such that the information required to be disclosed by us in reports filed under the Securities Exchange Act of 1934 is (i) recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms and (ii) accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding disclosure.  

 

(b)Changes in Internal Control over Financial Reporting 

 

No change in our internal control over financial reporting occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

Part II. Other Information

 

Item 1 – Legal Proceedings 

 

We are party to various legal proceedings. Although the results of legal proceedings cannot be predicted with certainty, there are no pending legal proceedings to which we or any of our subsidiaries is a party or to which any of our properties is the subject that we believe are material or are expected to have a material adverse effect on our financial position, results of operations or cash flows.

 

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Item 1A – Risk Factors 

 

Please review the risks disclosed in our Annual Report on Form 10-K for the year ended December 31, 2018, filed with the SEC on February 26, 2019, under “Part 1, Item 1A – Risk Factors.” For a discussion of specific risks related to the business of the pending Peoples Gas Acquisition, please see “Risk Factors related to Peoples” in our Current Report on Form 8-K/A filed with the SEC on April 15, 2019. In addition, we provide the following risk factors:

Our water supply, including water provided to our customers, is subject to various contaminants which may result in disruption in our services, additional costs, fines, laws and/or regulations, and litigation which could harm our business, reputation, financial condition, and results of operations.

Our water supplies, including water provided to our customers, are subject to possible contaminants, including those from:

naturally occurring compounds or man-made substances;

chemicals and other hazardous materials;

lead and other materials;

pharmaceuticals and personal care products; and

possible deliberate or terrorist attacks.

Depending on the nature of the water contamination, we may have to interrupt the use of that water supply until we are able to substitute, where feasible, the flow of water from an uncontaminated water source, including if practicable, the purchase of water from other suppliers, or continue the water supply under restrictions on use for drinking or broader restrictions against all use except for basic sanitation and essential fire protection. We may incur significant costs, including, but not limited to, costs for water quality testing and monitoring, do not consume expenses and loss of revenue, treatment of the contaminated source through modification of our current treatment facilities or development of new treatment methods, or the purchase of alternative water supplies. In addition, the costs we could incur to decontaminate a water source or our water distribution system and dispose of waste could also be significant. The costs resulting from the contamination may not be recoverable in rates we charge our customer, or may not be recoverable in a timely manner. Further, we may incur a loss of revenue in the event we elect to waive customer’s water and wastewater charges. If we are unable to adequately treat the contaminated water supply or substitute a water supply from an uncontaminated water source in a timely or cost-effective manner, there may be an adverse effect on our business, financial condition, and results of operations. We could also be subject to:

claims for consequences arising out of human exposure to contamination and/or hazardous substances in our water supplies, including toxic torts;

claims for other environmental damage;

claims for customers’ business interruption as a result of an interruption in water service;

claims for breach of contract;

criminal enforcement actions;

regulatory fines; or

other claims.

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We incur substantial costs on an ongoing basis to comply with all laws and regulations. New or stricter laws and/or regulations could increase our costs. Although we may seek to recover these costs through customer rates, there is no guarantee that the various state regulators would approve the increase in costs.

We are devoting our attention to various emerging contaminants, including the Per- and Polyfluoroalkyl Substances (PFAS) family of chemicals and other chemicals and substances that do not have any regulatory standard in drinking water. We rely on governmental agencies to establish the standard of protection from these unregulated contaminants and we meet or exceed these standards, when established. There is no guarantee that the various state regulators would approve the costs associated with the treatment in our system of the emerging contaminants without the establishment of treatment standards by the appropriate governmental entities.

We may incur costs to defend our position and/or incur reputational damage even if we are not liable for consequences arising out of human exposure to contamination and/or hazardous substances in our water supplies or other environmental damage. Our insurance policies may not be sufficient to cover the costs of these claims, and losses incurred may make it difficult for us to secure insurance in the future at acceptable rates. Such claims or actions could harm our business, financial condition, and results of operations.

Changes in our earnings may differ from changes in our rate base.

Our business is capital intensive and requires significant capital investments for additions to or replacement of property, plant and equipment. These capital investments create assets that are used and useful in providing regulated utility service, and as a result, increase our rate base, on which we generate earnings through the regulatory process. Changes in our reported earnings, however, may differ from changes in our rate base in a given period due to several factors, including rate case timing and the terms of such rate cases; over-or under-earnings in a given period due to changes in operating costs; the effects of tax rates or tax treatment of capital investments, including the effect of repair tax; capital expenditures that are not eligible for a Distribution System Improvement Charge between rate cases; and acquisitions which have not yet been included in rate base. We anticipate that we may experience periods in which growth in earnings is less than growth in rate base; such differences may be significant and may persist over multiple reporting periods.

The Company has incurred significant additional indebtedness in connection with the pending Peoples Gas Acquisition. As a result, it may be more difficult for the Company to pay or refinance its debts or take other actions, and the Company may need to divert cash to fund debt service payments.

The Company has incurred significant additional indebtedness to finance the proposed Peoples Gas Acquisition and to fund the debt refinancing of the Company’s outstanding debt (the “Company Debt Refinancing”). Additionally, in connection with the proposed Peoples Gas Acquisition, the Company currently intends to assume approximately $1,370 million of Peoples’ indebtedness. The increase in the Company’s debt service obligations resulting from additional indebtedness could have a material adverse effect on the results of operations, financial condition and prospects of the combined company.

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The Company’s increased indebtedness could also:

make it more difficult and/or costly for the Company to pay or refinance its debts as they become due, particularly during adverse economic and industry conditions, because a decrease in revenues or increase in costs could cause cash flow from operations to be insufficient to make scheduled debt service payments;

limit the Company’s flexibility to pursue other strategic opportunities or react to changes in its business and the industry sectors in which it operates and, consequently, put the Company at a competitive disadvantage to its competitors that have less debt;

require a substantial portion of the Company’s available cash to be used for debt service payments, thereby reducing the availability of its cash to fund working capital, capital expenditures, development projects, acquisitions, dividend payments and other general corporate purposes, which could harm the Company’s prospects for growth;

result in a downgrade in the credit ratings on the Company’s indebtedness, which could limit the Company’s ability to borrow additional funds on favorable terms or at all (including in order to refinance the Bridge Commitment (if drawn) and/or its other debt), increase the interest rates under its credit facilities and under any new indebtedness it may incur;

make it more difficult for the Company to raise capital to fund working capital, make capital expenditures, pay dividends, pursue strategic initiatives or for other purposes;

result in higher interest expense, which could be further increased in the event of increases in interest rates on the Company’s current or future borrowings subject to variable rates of interest; and

require that additional materially adverse terms, conditions or covenants be placed on the Company under its debt instruments, which covenants might include, for example, limitations on additional borrowings and specific restrictions on uses of its assets, as well as prohibitions or limitations on its ability to create liens, pay dividends, receive distributions from its subsidiaries, redeem or repurchase its stock or make investments, any of which could hinder its access to capital markets and limit or delay its ability to carry out its capital expenditure program or otherwise limit its flexibility in the conduct of its business and make it more vulnerable to economic downturns and adverse competitive and industry conditions.

The increased indebtedness in connection with the proposed Peoples Gas Acquisition could cause us to place more reliance on cash flow from operations to pay principal and interest on debt and to satisfy our other obligations. Based on the current and expected results of operations and financial condition of the Company and the currently anticipated financing structure for the Peoples Gas Acquisition, the Company believes that its cash flow from operations, together with the proceeds from borrowings, issuances of equity and debt securities in the capital markets, and equity sales will generate sufficient cash on a consolidated basis to make all of the principal and interest payments when such payments are due under the Company’s and its current subsidiaries’ existing credit facilities, indentures and other instruments governing their outstanding indebtedness, under the indebtedness incurred to fund the Peoples Gas Acquisition and the Company Debt Refinancing and under the indebtedness of Peoples anticipated to be assumed as a result of the Peoples Gas Acquisition. However, the Company’s expectation is based upon numerous estimates and assumptions and is subject to numerous uncertainties. LDC and its subsidiaries will not guarantee any indebtedness of the Company or any of its other subsidiaries, nor will any of them have any obligation to provide funds (nor will we have any ability to require them to provide funds), whether in the form of dividends, loans or otherwise, to enable the Company to pay dividends on its common stock or to enable the Company and its other

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subsidiaries to make required debt service payments or meet its other cash needs. As a result, the Company may substantially increase its debt services obligations in anticipation of the Peoples Gas Acquisition without any assurance that the Company will receive any cash from LDC or any of its subsidiaries to assist the Company in servicing its indebtedness, paying dividends on its common stock or meetings its other cash needs.

The price of our common stock may be volatile. This volatility may affect the price at which you could sell our common stock, and the sale or resale of substantial amounts of our common stock could adversely affect the market price of our common stock.

The sale or issuance of substantial amounts of our common stock in the completed offerings, or the perception that additional sales or issuances could occur, could adversely affect the market price of our common stock. In addition, the availability for sale of substantial amounts of our common stock could adversely impact its market price. Shares of our common stock will be issuable upon settlement or redemption of the purchase contracts and the number of shares may be substantial. The settlement rates for the purchase contracts will be subject to certain anti-dilution adjustments that could increase, potentially significantly, the number of shares of our common stock issuable upon such settlement. The issuance or sale of shares, or the perception that such issuances or sales could occur, could adversely affect the market price of our common stock, even if our business is doing well. Any of the foregoing may also impair our ability to raise additional capital through the sale of our equity securities.

Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds

The following table summarizes the Company’s purchases of its common stock for the quarter ended June 30, 2019:

Issuer Purchases of Equity Securities

Total

Maximum

Number of

Number of

Shares

Shares

Purchased

that May

as Part of

Yet be

Total

Publicly

Purchased

Number

Average

Announced

Under the

of Shares

Price Paid

Plans or

Plan or

Period

Purchased (1)

per Share

Programs

Programs

April 1 - 30, 2019

1

$

37.25

-

-

May 1 -31, 2019

45

$

39.56

-

-

June 1 - 30, 2019

-

$

-

-

-

Total

46

$

39.51

-

-

(1) These amounts include 46 shares we acquired from employees associated with the withholding of shares to pay certain withholding taxes upon the vesting of stock-based compensation.


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Item 6 – Exhibits  

Exhibit No. 

 Description 

1.1

Common Stock Underwriting Agreement, dated April 17, 2019, among Aqua America, Inc. and Goldman Sachs & Co. LLC and RBC Capital Markets, LLC, as representatives of the several underwriters named in Schedule I thereto (incorporated by reference to Exhibit 1.1 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

1.2

Units Underwriting Agreement, dated April 17, 2019, among Aqua America, Inc. and RBC Capital Markets LLC and Goldman Sachs & Co. LLC, as representatives of the several underwriters named in Schedule I thereto (incorporated by reference to Exhibit 1.2 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

1.3

Underwriting Agreement, dated April 24, 2019, among Aqua America, Inc. and RBC Capital Markets, LLC and Goldman Sachs & Co. LLC, as representatives of the several underwriters named in Schedule I thereto (incorporated by reference to Exhibit 1.1 to the Company’ Current Report on Form 8-K, filed with the SEC on April 26, 2019)

4.1

Purchase Contract Agreement, dated April 23, 2019, between Aqua America, Inc. and U.S. Bank N.A, as purchase contract agent, as attorney-in-fact for the Holders from time to time as provided therein and as trustee under the indenture referred to therein (incorporated by reference to Exhibit 4.1 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

4.2

Form of Unit (included in Exhibit 4.1 above) (incorporated by reference to Exhibit 4.2 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

4.3

Form of Purchase Contract (included with Exhibit 4.1 above) (incorporated by reference to Exhibit 4.3 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

4.4

Indenture, dated as of April 23, 2019, between Aqua America, Inc. and U.S. Bank N.A., as trustee (incorporated by reference to Exhibit 4.4 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

4.5

First Supplemental Indenture, dated as of April 23, 2019, between Aqua America, Inc. and U.S. Bank N.A., as trustee (incorporated by reference to Exhibit 4.5 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

4.6

Second Supplemental Indenture, dated as of April 23, 2019, between Aqua America, Inc. and U.S. Bank N.A., as trustee (incorporated by reference to Exhibit 4.6 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

4.7

Form of Amortizing Note (included with Exhibit 4.6 above) (incorporated by reference to Exhibit 4.7 to the Company’s Current Report on Form 8-K, filed with the SEC on April 23, 2019)

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4.8

Third Supplemental Indenture, dated as of April 26, 2019, between Aqua America, Inc. and U.S. Bank N.A., as trustee (incorporated by reference to Exhibit 4.3 to the Company’s Current Report on Form 8-K, filed with the SEC on April 26, 2019)

4.9

Form of Global Note for the 2029 Notes (included in Exhibit 4.8 above) (incorporated by reference to Exhibit 4.4 to the Company’s Current Report on Form 8-K, filed with the SEC on April 26, 2019)

4.10

Form of Global Note for the 2049 Notes (included in Exhibit 4.8 above) (incorporated by reference to Exhibit 4.5 to the Company’s Current Report on Form 8-K, filed with the SEC on April 26, 2019)

4.11

Bond Purchase Agreement, dated May 31, 2019, by and among Aqua Pennsylvania, Inc., Athene Annuity and Life Company, Athene Annuity & Life Assurance Company, Genworth Life and Annuity Insurance Company, Genworth Life Insurance Company, John Hancock Life Insurance Company (U.S.A), John Hancock Life Insurance Company of New York, John Hancock Life & Health Insurance Company, Metropolitan Life Insurance Company, Metropolitan Tower Life Insurance Company, MetLife Insurance K.K., Brighthouse Life Insurance Company, United of Omaha Life Insurance Company, New York Life Insurance Company, New York Life Insurance and Annuity Corporation, New York Life Insurance and Annuity Corporation Institutionally Owned Life Insurance Separate Accounts (BOLI 30C, 30E, 3-2), The Northwestern Mutual Life Insurance Company, The Northwestern Mutual Life Insurance Company, and Life Insurance Company of the Southwest

10.1

Stock Purchase Agreement, dated as of March 29, 2019, by and between Aqua America, Inc. and Canada Pension Plan Investment Board (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed with the SEC on March 29, 2019)

10.2

Aqua America, Inc. Amended and Restated Omnibus Equity Compensation Plan (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K, filed with the SEC on May 3, 2019)

31.1 

Certification of Chief Executive Officer, pursuant to Rule 13a-14(a) under the Securities and Exchange Act of 1934

31.2 

Certification of Chief Financial Officer, pursuant to Rule 13a-14(a) under the Securities and Exchange Act of 1934

32.1 

Certification of Chief Executive Officer, pursuant to 18 U.S.C. Section 1350

32.2 

Certification of Chief Financial Officer, pursuant to 18 U.S.C. Section 1350

101.INS

Inline XBRL Instance Document – The instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.

101.SCH

Inline XBRL Taxonomy Extension Schema Document

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101.CAL

Inline XBRL Taxonomy Extension Calculation Linkbase Document

101.DEF

Inline XBRL Taxonomy Extension Definition Linkbase Document

101.LAB

Inline XBRL Taxonomy Extension Label Linkbase Document

101.PRES

Inline XBRL Taxonomy Extension Presentation Linkbase Document

104

The cover page from the Company’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2019, formatted in Inline XBRL (included in Exhibit 101)


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SIGNATURES 

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be executed on its behalf by the undersigned thereunto duly authorized. 

August 8, 2019

Aqua America, Inc.                  

Registrant

/s/ Christopher H. Franklin

Christopher H. Franklin

Chairman, President and

Chief Executive Officer

/s/ Daniel J. Schuller

Daniel J. Schuller

Executive Vice President and

Chief Financial Officer

 

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