Form 10-Q

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

Form 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2016

Commission File Number 1-7850

SOUTHWEST GAS CORPORATION

(Exact name of registrant as specified in its charter)

 

California   88-0085720
(State or other jurisdiction of   (I.R.S. Employer
incorporation or organization)   Identification No.)
5241 Spring Mountain Road  
Post Office Box 98510  
Las Vegas, Nevada   89193-8510
(Address of principal executive offices)   (Zip Code)

Registrant’s telephone number, including area code: (702) 876-7237

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  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

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

 

Large accelerated filer   x    Accelerated filer   ¨
Non-accelerated filer   ¨    Smaller reporting company     ¨

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.

Common Stock, $1 Par Value, 47,482,068 shares as of October 28, 2016.

 

 

 


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

PART I - FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

SOUTHWEST GAS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Thousands of dollars, except par value)

(Unaudited)

 

     SEPTEMBER 30,     DECEMBER 31,  
     2016     2015  
ASSETS     

Utility plant:

    

Gas plant

   $ 6,118,900      $ 5,854,917   

Less: accumulated depreciation

     (2,158,099     (2,084,007

Acquisition adjustments, net

     234        370   

Construction work in progress

     105,847        119,805   
  

 

 

   

 

 

 

Net utility plant

     4,066,882        3,891,085   
  

 

 

   

 

 

 

Other property and investments

     348,565        313,531   
  

 

 

   

 

 

 

Current assets:

    

Cash and cash equivalents

     85,154        35,997   

Accounts receivable, net of allowances

     286,696        314,512   

Accrued utility revenue

     33,000        74,700   

Income taxes receivable, net

     38,369        34,175   

Deferred purchased gas costs

     —          3,591   

Prepaids and other current assets

     101,081        95,199   
  

 

 

   

 

 

 

Total current assets

     544,300        558,174   
  

 

 

   

 

 

 

Noncurrent assets:

    

Goodwill

     142,439        126,145   

Deferred income taxes

     783        428   

Deferred charges and other assets

     429,827        469,322   
  

 

 

   

 

 

 

Total noncurrent assets

     573,049        595,895   
  

 

 

   

 

 

 

Total assets

   $ 5,532,796      $ 5,358,685   
  

 

 

   

 

 

 
CAPITALIZATION AND LIABILITIES     

Capitalization:

    

Common stock, $1 par (authorized - 60,000,000 shares; issued and outstanding - 47,482,068 and 47,377,575 shares)

   $ 49,112      $ 49,007   

Additional paid-in capital

     901,966        896,448   

Accumulated other comprehensive income (loss), net

     (46,300     (50,268

Retained earnings

     720,401        699,221   
  

 

 

   

 

 

 

Total Southwest Gas Corporation equity

     1,625,179        1,594,408   

Noncontrolling interest

     (2,263     (2,083
  

 

 

   

 

 

 

Total equity

     1,622,916        1,592,325   

Redeemable noncontrolling interest

     17,379        16,108   

Long-term debt, less current maturities

     1,592,946        1,551,204   
  

 

 

   

 

 

 

Total capitalization

     3,233,241        3,159,637   
  

 

 

   

 

 

 

Current liabilities:

    

Current maturities of long-term debt

     49,480        19,475   

Short-term debt

     —          18,000   

Accounts payable

     138,810        164,857   

Customer deposits

     72,039        72,631   

Income taxes payable

     219        940   

Accrued general taxes

     46,323        47,337   

Accrued interest

     20,152        16,173   

Deferred purchased gas costs

     123,399        45,601   

Other current liabilities

     162,622        150,031   
  

 

 

   

 

 

 

Total current liabilities

     613,044        535,045   
  

 

 

   

 

 

 

Deferred income taxes and other credits:

    

Deferred income taxes and investment tax credits

     814,978        769,445   

Accumulated removal costs

     305,000        303,000   

Other deferred credits and other long-term liabilities

     566,533        591,558   
  

 

 

   

 

 

 

Total deferred income taxes and other credits

     1,686,511        1,664,003   
  

 

 

   

 

 

 

Total capitalization and liabilities

   $ 5,532,796      $ 5,358,685   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these statements.

 

2


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

SOUTHWEST GAS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share amounts)

(Unaudited)

 

    THREE MONTHS ENDED     NINE MONTHS ENDED     TWELVE MONTHS ENDED  
    SEPTEMBER 30,     SEPTEMBER 30,     SEPTEMBER 30,  
    2016     2015     2016     2015     2016     2015  

Operating revenues:

           

Gas operating revenues

  $ 200,179      $ 219,420      $ 980,927      $ 1,059,178      $ 1,376,388      $ 1,457,266   

Construction revenues

    339,790        285,976        838,038        719,042        1,127,982        948,637   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating revenues

    539,969        505,396        1,818,965        1,778,220        2,504,370        2,405,903   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

           

Net cost of gas sold

    39,056        64,268        324,072        427,045        460,836        570,052   

Operations and maintenance

    102,438        100,102        301,979        294,956        400,222        385,271   

Depreciation and amortization

    69,845        66,476        217,764        200,898        286,977        266,811   

Taxes other than income taxes

    12,480        11,652        39,480        37,063        51,810        50,059   

Construction expenses

    300,611        246,755        757,919        647,512        1,009,188        850,591   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

    524,430        489,253        1,641,214        1,607,474        2,209,033        2,122,784   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

    15,539        16,143        177,751        170,746        295,337        283,119   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income and (expenses):

           

Net interest deductions

    (18,158     (18,401     (54,100     (54,095     (71,884     (73,919

Other income (deductions)

    2,565        (3,660     6,756        (1,226     10,861        966   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income and (expenses)

    (15,593     (22,061     (47,344     (55,321     (61,023     (72,953
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) before income taxes

    (54     (5,918     130,407        115,425        234,314        210,166   

Income tax expense (benefit)

    (2,961     (1,708     43,046        42,693        80,255        78,537   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss)

    2,907        (4,210     87,361        72,732        154,059        131,629   

Net income attributable to noncontrolling interests

    435        524        500        534        1,079        685   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income (loss) attributable to Southwest Gas Corporation

  $ 2,472      $ (4,734   $ 86,861      $ 72,198      $ 152,980      $ 130,944   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic earnings (loss) per share

  $ 0.05      $ (0.10   $ 1.83      $ 1.54      $ 3.22      $ 2.80   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings (loss) per share

  $ 0.05      $ (0.10   $ 1.82      $ 1.53      $ 3.20      $ 2.77   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Dividends declared per share

  $ 0.450      $ 0.405      $ 1.350      $ 1.215      $ 1.755      $ 1.580   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Average number of common shares outstanding

    47,481        47,102        47,464        46,863        47,442        46,777   

Average shares outstanding (assuming dilution)

    47,830        —          47,802        47,261        47,787        47,194   

The accompanying notes are an integral part of these statements.

 

3


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

SOUTHWEST GAS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Thousands of dollars)

(Unaudited)

 

    THREE MONTHS ENDED     NINE MONTHS ENDED     TWELVE MONTHS ENDED  
    SEPTEMBER 30,     SEPTEMBER 30,     SEPTEMBER 30,  
    2016     2015     2016     2015     2016     2015  

Net income

  $ 2,907      $ (4,210   $ 87,361      $ 72,732      $ 154,059      $ 131,629   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income (loss), net of tax

           

Defined benefit pension plans:

           

Net actuarial gain (loss)

    —          —          —          —          (18,922     (107,661

Amortization of prior service cost

    207        207        621        621        828        676   

Amortization of net actuarial loss

    4,196        5,329        12,586        15,987        17,915        19,654   

Prior service cost

    —          —          —          —          —          (4,130

Regulatory adjustment

    (3,796     (4,828     (11,388     (14,484     (404     82,137   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net defined benefit pension plans

    607        708        1,819        2,124        (583     (9,324
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Forward-starting interest rate swaps:

           

Amounts reclassified into net income

    518        519        1,556        1,556        2,073        2,074   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net forward-starting interest rate swaps

    518        519        1,556        1,556        2,073        2,074   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Foreign currency translation adjustments

    (238     (510     614        (1,573     233        (2,232
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income (loss), net of tax

    887        717        3,989        2,107        1,723        (9,482
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income (loss)

    3,794        (3,493     91,350        74,839        155,782        122,147   

Comprehensive income (loss) attributable to noncontrolling interests

    427        504        521        479        1,089        608   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income (loss) attributable to Southwest Gas Corporation

  $ 3,367      $ (3,997   $ 90,829      $ 74,360      $ 154,693      $ 121,539   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these statements.

 

4


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

SOUTHWEST GAS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Thousands of dollars)

(Unaudited)

 

     NINE MONTHS ENDED     TWELVE MONTHS ENDED  
     SEPTEMBER 30     SEPTEMBER 30  
     2016     2015     2016     2015  

CASH FLOW FROM OPERATING ACTIVITIES:

        

Net income

   $ 87,361      $ 72,732      $ 154,059      $ 131,629   

Adjustments to reconcile net income to net cash provided by operating activities:

        

Depreciation and amortization

     217,764        200,898        286,977        266,811   

Deferred income taxes

     43,702        5,961        86,526        32,580   

Changes in current assets and liabilities:

        

Accounts receivable, net of allowances

     28,531        6,570        (17,889     (31,792

Accrued utility revenue

     41,700        41,700        (800     (200

Deferred purchased gas costs

     81,389        131,495        79,460        122,257   

Accounts payable

     (24,942     (38,878     10,445        5,137   

Accrued taxes

     (7,055     (4,427     (11,033     (1,131

Other current assets and liabilities

     9,903        8,333        19,870        (11,938

Gains on sale

     (4,117     (3,019     (4,200     (3,529

Changes in undistributed stock compensation

     4,347        2,119        5,142        5,480   

AFUDC

     (1,893     (2,011     (2,890     (2,435

Changes in other assets and deferred charges

     3,926        (14,423     4,183        (18,735

Changes in other liabilities and deferred credits

     (4,813     5,348        702        2,783   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net cash provided by operating activities

     475,803        412,398        610,552        496,917   
  

 

 

   

 

 

   

 

 

   

 

 

 

CASH FLOW FROM INVESTING ACTIVITIES:

        

Construction expenditures and property additions

     (404,388     (336,569     (555,819     (440,191

Acquisition of businesses, net of cash acquired

     (17,000     (9,261     (17,000     (199,758

Restricted cash

     —          785        —          2,018   

Changes in customer advances

     5,445        14,300        9,445        21,539   

Miscellaneous inflows

     7,965        11,593        4,726        13,424   

Miscellaneous outflows

     —          —          —          (1,400
  

 

 

   

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (407,978     (319,152     (558,648     (604,368
  

 

 

   

 

 

   

 

 

   

 

 

 

CASH FLOW FROM FINANCING ACTIVITIES:

        

Issuance of common stock, net

     530        35,419        507        35,405   

Dividends paid

     (61,950     (55,060     (81,138     (72,040

Centuri distribution to redeemable noncontrolling interest

     (99     —          (198     —     

Issuance of long-term debt, net

     408,946        123,816        420,946        355,325   

Retirement of long-term debt

     (196,351     (143,325     (240,999     (260,952

Change in credit facility and commercial paper

     (150,000     (53,000     (97,000     47,000   

Change in short-term debt

     (18,000     (5,000     —          —     

Principal payments on capital lease obligations

     (1,125     (1,096     (1,449     (1,530

Other

     (605     (504     (60     (1,002
  

 

 

   

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     (18,654     (98,750     609        102,206   
  

 

 

   

 

 

   

 

 

   

 

 

 

Effects of currency translation on cash and cash equivalents

     (14     (1,103     (318     (961
  

 

 

   

 

 

   

 

 

   

 

 

 

Change in cash and cash equivalents

     49,157        (6,607     52,195        (6,206

Cash and cash equivalents at beginning of period

     35,997        39,566        32,959        39,165   
  

 

 

   

 

 

   

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 85,154      $ 32,959      $ 85,154      $ 32,959   
  

 

 

   

 

 

   

 

 

   

 

 

 

Supplemental information:

        

Interest paid, net of amounts capitalized

   $ 47,134      $ 45,312      $ 68,445      $ 68,169   

Income taxes paid

     6,530        39,856        9,899        49,280   

The accompanying notes are an integral part of these statements.

 

5


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Note 1 – Nature of Operations and Basis of Presentation

Nature of Operations. Southwest Gas Corporation and its subsidiaries (the “Company”) consist of two segments: natural gas operations (“Southwest” or the “natural gas operations” segment) and construction services. Southwest is engaged in the business of purchasing, distributing, and transporting natural gas for customers in portions of Arizona, Nevada, and California. Public utility rates, practices, facilities, and service territories of Southwest are subject to regulatory oversight. The timing and amount of rate relief can materially impact results of operations. Natural gas purchases and the timing of related recoveries can materially impact liquidity. Results for the natural gas operations segment are higher during winter periods due to the seasonality incorporated in its regulatory rate structures. Centuri Construction Group, Inc. (“Centuri” or the “construction services” segment), a 96.6% owned subsidiary, is a full-service underground piping contractor that primarily provides utility companies with trenching and installation, replacement, and maintenance services for energy distribution systems, and industrial construction solutions. Centuri operations are generally conducted under the business names of NPL Construction Co. (“NPL”), NPL Canada Ltd. (“NPL Canada”, formerly Link-Line Contractors Ltd.), W.S. Nicholls Construction, Inc. and related companies (“W.S. Nicholls”), and Brigadier Pipelines Inc. (“Brigadier”). In May 2016, Centuri completed the acquisition of two privately held, affiliated construction businesses by means of asset purchase: Enterprise Trenchless Technologies, Inc. and ETTI Holdings (collectively, “ETTI”). See Acquisition of Construction Services Businesses below for more information. Typically, Centuri revenues are lowest during the first quarter of the year due to unfavorable winter weather conditions. Operating revenues typically improve as more favorable weather conditions occur during the summer and fall months.

Basis of Presentation. The condensed consolidated financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with United States generally accepted accounting principles (“U.S. GAAP”) have been condensed or omitted pursuant to such rules and regulations. The preparation of the condensed consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. In the opinion of management, all adjustments, consisting of normal recurring items and estimates necessary for a fair presentation of results for the interim periods, have been made. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and the notes thereto included in the 2015 Annual Report to Shareholders, which is incorporated by reference into the 2015 Form 10-K.

During the third quarter of 2016, Centuri evaluated the estimated useful lives of its depreciable assets, and in so doing determined that certain equipment lives should be extended. This change in estimate reduced current-quarter depreciation by approximately $2 million.

Prepaids and other current assets. Prepaids and other current assets includes gas pipe materials and operating supplies of $30 million at September 30, 2016 and $24 million at December 31, 2015 (carried at weighted average cost), and also includes natural gas stored underground and liquefied natural gas, in addition to prepaid assets.

Cash and Cash Equivalents. For purposes of reporting consolidated cash flows, cash and cash equivalents include cash on hand and financial instruments with a purchase-date maturity of three months or less. In general, cash and cash equivalents fall within Level 1 (quoted prices for identical financial instruments) of the three-level fair value hierarchy that ranks the inputs, used to measure fair value, by their reliability. However, cash and cash equivalents at September 30, 2016 and December 31, 2015 also include money market fund investments totaling approximately $68.3 million and $250,000, respectively, which fall within Level 2 (significant other observable inputs) of the fair value hierarchy, due to the asset valuation methods used by money market funds.

Significant non-cash investing and financing activities for the natural gas operations segment included the following: Upon contract expiration, customer advances of approximately $3.6 million and $2.8 million, during the first nine months of 2016 and 2015, respectively, were applied as contributions toward utility construction activity and represent non-cash investing activity.

 

6


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Goodwill. Goodwill is assessed as of October each year for impairment, or otherwise, if circumstances indicate impairment to the carrying value of goodwill may have occurred. No such circumstances indicating impairment were deemed to have occurred in the first nine months of 2016. The business acquisition of ETTI was deemed an asset purchase for tax purposes. As a result, approximately $11 million in goodwill associated with ETTI is expected to be tax deductible.

 

(In thousands of dollars)    Natural Gas
Operations
     Construction
Services
     Consolidated  

December 31, 2015

   $ 10,095       $ 116,050       $ 126,145   

Additional goodwill from ETTI acquisition

     —           10,726         10,726   

Foreign currency translation adjustment

     —           5,568         5,568   
  

 

 

    

 

 

    

 

 

 

September 30, 2016

   $ 10,095       $ 132,344       $ 142,439   
  

 

 

    

 

 

    

 

 

 

Acquisition of Construction Services Businesses. In May 2016, Centuri completed the acquisition of ETTI, which is based in Lisbon Falls, Maine, and has a primary focus on underground utility installation using horizontal directional drilling technology. The acquisition of ETTI will provide complementary operational support to Brigadier and expand operations into Maine. Neither the acquisition itself nor the impacts to assets and operations are material to the construction services segment or the Company.

Assets acquired in the transaction were recorded at their acquisition date fair values. The final purchase accounting has not yet been completed. Further refinement could occur; however, no material changes are expected. The preliminary estimated fair values of assets acquired as of May 6, 2016, the acquisition date, are as follows (in millions of dollars):

 

     Acquisition
Date
 

Property, plant and equipment

   $ 4.3   

Intangible assets

     2.9   

Goodwill

     10.7   
  

 

 

 

Total assets acquired

   $ 17.9   
  

 

 

 

The purchase price consisted of $17 million in cash on the acquisition date with the remaining amount being deferred over four years.

Intercompany Transactions. Centuri recognizes revenues generated from contracts with Southwest (see Note 3 - Segment Information below). Centuri’s accounts receivable for these services are presented in the table below (thousands of dollars):

 

     September 30, 2016      December 31, 2015  

Centuri accounts receivable for services provided to Southwest

   $ 12,402       $ 10,006   
  

 

 

    

 

 

 

The accounts receivable balance, revenues, and associated profits are included in the condensed consolidated financial statements of the Company and were not eliminated during consolidation in accordance with accounting treatment for rate-regulated entities.

 

7


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Other Property and Investments. Other property and investments includes (thousands of dollars):

 

     September 30, 2016      December 31, 2015  

Centuri property and equipment

   $ 460,165       $ 423,369   

Centuri accumulated provision for depreciation and amortization

     (228,230      (221,028

Net cash surrender value of COLI policies

     104,940         99,276   

Other property

     11,690         11,914   
  

 

 

    

 

 

 

Total

   $ 348,565       $ 313,531   
  

 

 

    

 

 

 

Other Income (Deductions). The following table provides the composition of significant items included in Other income (deductions) in the condensed consolidated statements of income (thousands of dollars):

 

     Three Months Ended     Nine Months Ended     Twelve Months Ended  
     September 30     September 30     September 30  
     2016     2015     2016     2015     2016     2015  

Change in COLI policies

   $ 2,300      $ (3,900   $ 5,400      $ (2,600   $ 7,500      $ (200

Interest income

     522        624        1,280        1,375        2,078        2,096   

Equity AFUDC

     611        878        1,893        2,011        2,890        2,435   

Foreign transaction gain (loss)

     (3     (302     (22     (874     28        (1,052

Miscellaneous income and (expense)

     (865     (960     (1,795     (1,138     (1,635     (2,313
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (deductions)

   $ 2,565      $ (3,660   $ 6,756      $ (1,226   $ 10,861      $ 966   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Included in the table above is the change in cash surrender values of company-owned life insurance (“COLI”) policies (including net death benefits recognized). These life insurance policies on members of management and other key employees are used by Southwest to indemnify itself against the loss of talent, expertise, and knowledge, as well as to provide indirect funding for certain nonqualified benefit plans. Current tax regulations provide for tax-free treatment of life insurance (death benefit) proceeds. Therefore, changes in the cash surrender values of COLI policies, as they progress towards the ultimate death benefits, are also recorded without tax consequences.

Income taxes. The Company claimed a federal income tax credit, which resulted in a recognized benefit of approximately $1.6 million during the third quarter of 2016.

Recently Issued Accounting Standards Updates. In May 2014, the Financial Accounting Standards Board (“FASB”) issued the update “Revenue from Contracts with Customers (Topic 606).” The update replaces much of the current guidance regarding revenue recognition including most industry-specific guidance. In accordance with the update, an entity will be required to identify the contract with the customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the entity satisfies a performance obligation. In addition to the new revenue recognition requirements, entities will be required to disclose sufficient information to enable users of financial statements to understand the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. Entities may choose between two retrospective transition methods when applying the update. In July 2015, the FASB approved a one-year deferral of the effective date (annual periods beginning after December 15, 2017) and permitted entities to adopt one year earlier (i.e., the original effective date) if they choose. In March, April, and May of 2016, the FASB issued the updates “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net)”, “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing”, and “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients”. The amendments in the first two updates, respectively, provide guidance when another party, along with the entity, is involved in providing a good or service to a customer, and provide clarification with regard to identifying performance obligations and of the licensing implementation guidance in Topic 606. The third update includes narrow-scope improvements to the guidance on collectability, noncash consideration, and completed contracts at transition. In addition, a practical expedient is provided for contract modifications at transition and an accounting policy election related to the presentation of sales taxes and other similar taxes collected from customers. The combined amendments do not change the core principle of the guidance in Topic 606. The Company plans to adopt all of these updates at the required adoption date, which is for interim and annual reporting periods commencing January 1, 2018. The Company is evaluating what impact these updates might have on its consolidated financial statements and disclosures.

 

8


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

In August 2014, the FASB issued the update “Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern,” which requires management to assess a company’s ability to continue as a going concern and to provide related footnote disclosures in certain circumstances. Under the update, disclosures are required when conditions give rise to substantial doubt about a company’s ability to continue as a going concern within one year from the financial statement issuance date. The update is effective for the annual period ending after December 15, 2016, and all annual and interim periods thereafter. This update and changes thereto are not expected to have a material impact on the Company’s disclosures.

In January 2016, the FASB issued the update “Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities” in order to improve the recognition and measurement of financial instruments. The update makes targeted improvements to existing U.S. GAAP by: 1) requiring equity investments to be measured at fair value with changes in fair value recognized in net income; 2) requiring the use of the exit price notion when measuring the fair value of financial instruments for disclosure purposes; 3) requiring separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or the accompanying notes to the financial statements; 4) eliminating the requirement to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet; and 5) requiring a reporting entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in instrument-specific credit risk when the organization has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. The update is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. All entities can early adopt the provision to record fair value changes for financial liabilities under the fair value option resulting from instrument-specific credit risk in other comprehensive income. The Company is evaluating what impact, if any, this update might have on its consolidated financial statements and disclosures.

In February 2016, the FASB issued the update “Leases (Topic 842)”. Under the update, lessees will be required to recognize the following for all leases (with the exception of short-term leases) at the commencement date:

 

   

A lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis; and

 

   

A right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term.

Under the new guidance, lessor accounting is largely unchanged. Certain targeted improvements were made to align, where necessary, lessor accounting with the lessee accounting model and Topic 606, Revenue from Contracts with Customers. Though companies have historically been required to make disclosures regarding leases and of contractual obligations, leases (with terms longer than a year) will no longer exist off-balance sheet. Lessees (for capital and operating leases) and lessors (for sales-type, direct financing, and operating leases) must apply a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. The modified retrospective approach would not require any transition accounting for leases that expired before the earliest comparative period presented. Lessees and lessors may not apply a full retrospective transition approach. Early application is permitted. The Company currently plans to adopt the update at the required adoption date, which is for interim and annual reporting periods commencing January 1, 2019. The Company is evaluating what impact this update might have on its consolidated financial statements and disclosures.

In March 2016, the FASB issued the update “Compensation—Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting”. The amendments are intended to improve the accounting for employee share-based payments and affect all organizations that issue share-based payment awards to their employees. The update requires the recording of all of the tax effects related to share-based payments at settlement (or expiration) through the income statement. Currently, tax benefits in excess of compensation cost (“windfalls”) are recorded in equity, and tax deficiencies (“shortfalls”) are recorded in equity to the extent of previous windfalls, and then recorded in the income statement. While the simplification will reduce some of the administrative complexities by eliminating the need to track a “windfall pool,” it will increase the volatility of income tax expense. The update also allows entities to withhold shares for the employee tax burden up to the employees’ maximum individual tax rate in the relevant jurisdiction without resulting in a liability classification of the award (currently such withholding is limited to the employer’s minimum statutory withholding). The update clarifies that all cash payments made to taxing authorities

 

9


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

on the employees’ behalf for withheld shares should be presented as financing activities on the statement of cash flows. Also, the update requires all tax-related cash flows resulting from share-based payments be reported as operating activities on the statement of cash flows, a change from the current requirement to present windfall tax benefits as an inflow from financing activities and an outflow from operating activities. The update is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early adoption is permitted. The Company issues share-based payment awards to its employees and is evaluating the impacts this update might have on its consolidated financial statements and disclosures.

In June 2016, the FASB issued the update “Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments”. The update amends guidance on reporting credit losses for financial assets held at amortized cost basis and available for sale debt securities. For assets held at amortized cost basis, the update eliminates the “probable” threshold for initial recognition of credit losses in current U.S. GAAP and, instead, requires an entity to reflect its current estimate of all expected credit losses. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial asset to present the net amount expected to be collected. For available for sale debt securities, credit losses should be measured in a manner similar to current U.S. GAAP, however the update will require that credit losses be presented as an allowance rather than as a write-down. This update affects entities holding financial assets and net investment in leases that are not accounted for at fair value through net income. The update affects loans, debt securities, trade receivables, net investments in leases, off-balance sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope that have the contractual right to receive cash. The update is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. All entities may adopt the amendments in this update earlier as of fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is evaluating what impact, if any, this update might have on its consolidated financial statements and disclosures.

In August 2016, the FASB issued the update “Classification of Certain Cash Receipts and Cash Payments”. This update addresses the following eight specific cash flow issues: debt prepayment or debt extinguishment costs; settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; contingent consideration payments made after a business combination; proceeds from the settlement of insurance claims; proceeds from the settlement of corporate-owned life insurance (“COLI”) policies; distributions received from equity method investees; beneficial interests in securitization transactions; and separately identifiable cash flows, including identification of the predominant nature in cases where cash receipts and payments have aspects of more than one class of cash flows. The update is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted. The Company is evaluating the impacts this update might have on its consolidated cash flow statements and disclosures.

In October 2016, the FASB issued the update “Accounting for Income Taxes: Intra-Entity Asset Transfers of Assets Other than Inventory.” This update eliminates the current U.S. GAAP exception for all intra-entity sales of assets other than inventory. As a result, a reporting entity would recognize the tax expense from the sale of the asset in the seller’s tax jurisdiction when the transfer occurs, even though the pre-tax effects of that transaction are eliminated in consolidation. Any deferred tax asset that arises in the buyer’s jurisdiction would also be recognized at the time of the transfer. The update is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted; however, the guidance can only be adopted in the first interim period of a fiscal year. The modified retrospective approach will be required for transition to the new guidance, with a cumulative-effect adjustment recorded in retained earnings as of the beginning of the period of adoption. The Company is evaluating the impacts this update might have on its consolidated financial statements.

In October 2016, the FASB issued the update “Consolidation (Topic 810): Interests Held through Related Parties That Are under Common Control.” The amendments affect reporting entities that are required to evaluate whether they should consolidate a variable interest entity in certain situations involving entities under common control. The update is effective for fiscal and interim periods beginning after December 15, 2016. Early adoption is permitted. The Company is evaluating what impacts, if any, this update might have on its consolidated financial statements.

 

10


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Note 2 – Components of Net Periodic Benefit Cost

Southwest has a noncontributory qualified retirement plan with defined benefits covering substantially all employees and a separate unfunded supplemental retirement plan (“SERP”), which is limited to officers. Southwest also provides postretirement benefits other than pensions (“PBOP”) to its qualified retirees for health care, dental, and life insurance.

During the third quarter of 2016, qualifying term-vested participants were offered a lump-sum present value payout of their pensions. The offer was primarily intended to reduce insurance and ongoing maintenance costs associated with qualifying participant balances. About one-half of the approximate 800 participants subject to the offer accepted the offer, resulting in an approximate $30 million payment from pension assets to be made in the fourth quarter of 2016. This lump sum payout will have no impact on net periodic benefit cost or pension funding requirements during 2016.

Net periodic benefit costs included in the table below are components of an overhead loading process associated with the cost of labor. The overhead process ultimately results in allocation of net periodic benefit costs to the same accounts to which productive labor is charged. As a result, net periodic benefit costs become components of various accounts, primarily operations and maintenance expense, net utility plant, and deferred charges and other assets.

 

     Qualified Retirement Plan  
     Period Ended September 30,  
     Three Months     Nine Months     Twelve Months  
     2016     2015     2016     2015     2016     2015  
(Thousands of dollars)                                     

Service cost

   $ 5,708      $ 6,281      $ 17,125      $ 18,842      $ 23,406      $ 24,182   

Interest cost

     11,507        11,057        34,520        33,172        45,577        44,031   

Expected return on plan assets

     (14,140     (14,452     (42,419     (43,356     (56,871     (56,691

Amortization of net actuarial loss

     6,317        8,186        18,950        24,557        27,136        30,276   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic benefit cost

   $ 9,392      $ 11,072      $ 28,176      $ 33,215      $ 39,248      $ 41,798   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
     SERP  
     Period Ended September 30,  
     Three Months     Nine Months     Twelve Months  
     2016     2015     2016     2015     2016     2015  
(Thousands of dollars)                                     

Service cost

   $ 83      $ 80      $ 248      $ 240      $ 328      $ 313   

Interest cost

     464        424        1,394        1,271        1,818        1,708   

Amortization of net actuarial loss

     346        323        1,038        970        1,361        1,165   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic benefit cost

   $ 893      $ 827      $ 2,680      $ 2,481      $ 3,507      $ 3,186   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
     PBOP  
     Period Ended September 30,  
     Three Months     Nine Months     Twelve Months  
     2016     2015     2016     2015     2016     2015  
(Thousands of dollars)                                     

Service cost

   $ 375      $ 410      $ 1,124      $ 1,231      $ 1,534      $ 1,506   

Interest cost

     795        750        2,386        2,249        3,136        2,956   

Expected return on plan assets

     (787     (866     (2,362     (2,598     (3,228     (3,414

Amortization of prior service costs

     333        334        1,001        1,001        1,335        1,090   

Amortization of net actuarial loss

     104        86        312        259        398        259   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic benefit cost

   $ 820      $ 714      $ 2,461      $ 2,142      $ 3,175      $ 2,397   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

11


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Note 3 – Segment Information

The following tables present revenues from external customers, intersegment revenues, and segment net income (thousands of dollars):

 

     Natural Gas      Construction         
     Operations      Services      Total  

Three months ended September 30, 2016

        

Revenues from external customers

   $ 200,179       $ 312,531       $ 512,710   

Intersegment revenues

     —           27,259         27,259   
  

 

 

    

 

 

    

 

 

 

Total

   $ 200,179       $ 339,790       $ 539,969   
  

 

 

    

 

 

    

 

 

 

Segment net income (loss)

   $ (12,405    $ 14,877       $ 2,472   
  

 

 

    

 

 

    

 

 

 

Three months ended September 30, 2015

        

Revenues from external customers

   $ 219,420       $ 255,088       $ 474,508   

Intersegment revenues

     —           30,888         30,888   
  

 

 

    

 

 

    

 

 

 

Total

   $ 219,420       $ 285,976       $ 505,396   
  

 

 

    

 

 

    

 

 

 

Segment net income (loss)

   $ (18,939    $ 14,205       $ (4,734
  

 

 

    

 

 

    

 

 

 
     Natural Gas      Construction         
     Operations      Services      Total  

Nine months ended September 30, 2016

        

Revenues from external customers

   $ 980,927       $ 762,835       $ 1,743,762   

Intersegment revenues

     —           75,203         75,203   
  

 

 

    

 

 

    

 

 

 

Total

   $ 980,927       $ 838,038       $ 1,818,965   
  

 

 

    

 

 

    

 

 

 

Segment net income

   $ 67,536       $ 19,325       $ 86,861   
  

 

 

    

 

 

    

 

 

 

Nine months ended September 30, 2015

        

Revenues from external customers

   $ 1,059,178       $ 645,289       $ 1,704,467   

Intersegment revenues

     —           73,753         73,753   
  

 

 

    

 

 

    

 

 

 

Total

   $ 1,059,178       $ 719,042       $ 1,778,220   
  

 

 

    

 

 

    

 

 

 

Segment net income

   $ 59,325       $ 12,873       $ 72,198   
  

 

 

    

 

 

    

 

 

 
     Natural Gas      Construction         
     Operations      Services      Total  

Twelve months ended September 30, 2016

        

Revenues from external customers

   $ 1,376,388       $ 1,022,416       $ 2,398,804   

Intersegment revenues

     —           105,566         105,566   
  

 

 

    

 

 

    

 

 

 

Total

   $ 1,376,388       $ 1,127,982       $ 2,504,370   
  

 

 

    

 

 

    

 

 

 

Segment net income

   $ 119,836       $ 33,144       $ 152,980   
  

 

 

    

 

 

    

 

 

 

Twelve months ended September 30, 2015

        

Revenues from external customers

   $ 1,457,266       $ 854,312       $ 2,311,578   

Intersegment revenues

     —           94,325         94,325   
  

 

 

    

 

 

    

 

 

 

Total

   $ 1,457,266       $ 948,637       $ 2,405,903   
  

 

 

    

 

 

    

 

 

 

Segment net income

   $ 113,252       $ 17,692       $ 130,944   
  

 

 

    

 

 

    

 

 

 

 

12


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Note 4 – Derivatives and Fair Value Measurements

Derivatives. In managing its natural gas supply portfolios, Southwest has historically entered into fixed- and variable-price contracts, which qualify as derivatives. Additionally, Southwest utilizes fixed-for-floating swap contracts (“Swaps”) to supplement its fixed-price contracts. The fixed-price contracts, firm commitments to purchase a fixed amount of gas in the future at a fixed price, qualify for the normal purchases and normal sales exception that is allowed for contracts that are probable of delivery in the normal course of business, and are exempt from fair value reporting. The variable-price contracts have no significant market value. The Swaps are recorded at fair value.

The fixed-price contracts and Swaps are utilized by Southwest under its volatility mitigation programs to effectively fix the price on a portion (up to 25% in the Arizona and California jurisdictions) of its natural gas supply portfolios. The maturities of the Swaps highly correlate to forecasted purchases of natural gas, during time frames ranging from October 2016 through March 2018. Under such contracts, Southwest pays the counterparty a fixed rate and receives from the counterparty a floating rate per MMBtu (“dekatherm”) of natural gas. Only the net differential is actually paid or received. The differential is calculated based on the notional amounts under the contracts, which are detailed in the table below (thousands of dekatherms):

 

     September 30, 2016      December 31, 2015  

Contract notional amounts

     11,985         7,407   
  

 

 

    

 

 

 

Southwest does not utilize derivative financial instruments for speculative purposes, nor does it have trading operations.

The following table sets forth the gains and (losses) recognized on the Company’s Swaps (derivatives) for the three-, nine-, and twelve-month periods ended September 30, 2016 and 2015 and their location in the Condensed Consolidated Statements of Income:

Gains (losses) recognized in income for derivatives not designated as hedging instruments:

(Thousands of dollars)

 

          Three Months Ended     Nine Months Ended     Twelve Months Ended  
     Location of Gain or (Loss)    September 30     September 30     September 30  

Instrument

  

Recognized in Income on Derivative

   2016     2015     2016     2015     2016     2015  

Swaps

   Net cost of gas sold    $ (2,072   $ (3,282   $ 2,253      $ (4,689   $ (656   $ (10,682

Swaps

   Net cost of gas sold      2,072     3,282     (2,253 )*      4,689     656     10,682
     

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total

      $ —        $ —        $ —        $ —        $ —        $ —     
     

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

*

Represents the impact of regulatory deferral accounting treatment under U.S. GAAP for rate-regulated entities.

No gains (losses) were recognized in net income or other comprehensive income during the periods presented for derivatives designated as cash flow hedging instruments. Previously, Southwest entered into two forward-starting interest rate swaps (“FSIRS”), both of which were designated cash flow hedges, to partially hedge the risk of interest rate variability during the period leading up to the planned issuance of debt. The first FSIRS terminated in December 2010, and the second, in March 2012. Losses on both FSIRS are being amortized over ten-year periods from Accumulated other comprehensive income (loss) into interest expense.

 

13


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

The following table sets forth, the fair values of the Company’s Swaps and their location in the Condensed Consolidated Balance Sheets (thousands of dollars):

Fair values of derivatives not designated as hedging instruments:

 

September 30, 2016
Instrument

  

Balance Sheet Location

   Asset
Derivatives
     Liability
Derivatives
     Net Total  

Swaps

   Deferred charges and other assets    $ 226       $ (33    $ 193   

Swaps

   Prepaids and other current assets      1,852         (182      1,670   

Swaps

   Other current liabilities      16         (982      (966
     

 

 

    

 

 

    

 

 

 

Total

      $ 2,094       $ (1,197    $ 897   
     

 

 

    

 

 

    

 

 

 

December 31, 2015
Instrument

  

Balance Sheet Location

   Asset
Derivatives
     Liability
Derivatives
     Net Total  

Swaps

   Other current liabilities    $ —         $ (4,267    $ (4,267

Swaps

   Other deferred credits      4         (1,223      (1,219
     

 

 

    

 

 

    

 

 

 

Total

      $ 4       $ (5,490    $ (5,486
     

 

 

    

 

 

    

 

 

 

The estimated fair values of the natural gas derivatives were determined using future natural gas index prices (as more fully described below). The Company has master netting arrangements with each counterparty that provide for the net settlement (in the settlement month) of all contracts through a single payment. As applicable, the Company has elected to reflect the net amounts in its balance sheets. The Company had no outstanding collateral associated with the Swaps during any period presented in the above table.

Pursuant to regulatory deferral accounting treatment for rate-regulated entities, Southwest records the unrealized gains and losses in fair value of the Swaps as a regulatory asset and/or liability. When the Swaps mature, Southwest reverses any prior positions held and records the settled position as an increase or decrease of purchased gas under the related purchased gas adjustment (“PGA”) mechanism in determining its deferred PGA balances. Neither changes in fair value, nor settled amounts, of Swaps have a direct effect on earnings or other comprehensive income.

The following table shows the amounts Southwest paid to counterparties for settlements of matured Swaps.

 

     Three Months Ended      Nine Months Ended      Twelve Months Ended  
(Thousands of dollars)    September 30, 2016      September 30, 2016      September 30, 2016  

Paid to counterparties

   $ —         $ 4,483       $ 6,792   
  

 

 

    

 

 

    

 

 

 

Received from counterparties

   $ 351       $ 351       $ 351   
  

 

 

    

 

 

    

 

 

 

The following table details the regulatory assets/(liabilities) offsetting the derivatives at fair value in the Condensed Consolidated Balance Sheets (thousands of dollars).

 

September 30, 2016
Instrument

  

Balance Sheet Location

   Net Total  

Swaps

   Other deferred credits    $ (193

Swaps

   Other current liabilities      (1,670

Swaps

   Prepaids and other current assets      966   

December 31, 2015
Instrument

  

Balance Sheet Location

   Net Total  

Swaps

   Prepaids and other current assets    $ 4,267   

Swaps

   Deferred charges and other assets      1,219   

 

14


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Fair Value Measurements. The estimated fair values of Southwest’s Swaps were determined at September 30, 2016 and December 31, 2015 using New York Mercantile Exchange (“NYMEX”) futures settlement prices for delivery of natural gas at Henry Hub adjusted by the price of NYMEX ClearPort basis Swaps, which reflect the difference between the price of natural gas at a given delivery basin and the Henry Hub pricing points. These Level 2 inputs (inputs, other than quoted prices, for similar assets or liabilities) are observable in the marketplace throughout the full term of the Swaps, but have been credit-risk adjusted with no significant impact to the overall fair value measurement.

The following table sets forth, by level within the three-level fair value hierarchy that ranks the inputs used to measure fair value by their reliability, the Company’s financial assets and liabilities that were accounted for at fair value:

Level 2 - Significant other observable inputs

 

(Thousands of dollars)    September 30, 2016      December 31, 2015  

Assets at fair value:

     

Prepaids and other current assets - Swaps

   $ 1,670       $ —     

Deferred charges and other assets - Swaps

     193         —     

Liabilities at fair value:

     

Other current liabilities - Swaps

     (966      (4,267

Other deferred credits - Swaps

     —           (1,219
  

 

 

    

 

 

 

Net Assets (Liabilities)

   $ 897       $ (5,486
  

 

 

    

 

 

 

No financial assets or liabilities associated with the Swaps, which were accounted for at fair value, fell within Level 1 (quoted prices in active markets for identical financial assets) or Level 3 (significant unobservable inputs) of the fair value hierarchy.

With regard to the fair values of assets associated with the Company’s pension and postretirement benefit plans, asset values were last updated as required as of December 2015. Refer to Note 10 – Pension and Other Post Retirement Benefits in the 2015 Annual Report to Shareholders on Form 10-K.

Note 5 – Common Stock

On March 10, 2015, the Company filed with the Securities Exchange Commission (“SEC”) an automatic shelf registration statement on Form S-3 (File No. 333-202633), which became effective upon filing, for the offer and sale of up to $100,000,000 of the Company’s common stock from time to time in at-the-market offerings under the prospectus included therein and in accordance with the Sales Agency Agreement, dated March 10, 2015, between the Company and BNY Mellon Capital Markets, LLC (the “Equity Shelf Program”). During the twelve months ended September 30, 2016, the Company sold no shares through the continuous equity offering program. Since the start of the program in March 2015, the Company has sold an aggregate of 645,225 shares of common stock under this program resulting in proceeds to the Company of $35,167,584, net of $355,228 in agent commissions. As of September 30, 2016, the Company had up to $64,477,188 of common stock available for sale under the program. Net proceeds from the sale of shares of common stock under the Equity Shelf Program are intended for general corporate purposes, including the acquisition of property for the construction, completion, extension or improvement of pipeline systems and facilities located in and around the communities Southwest serves.

In addition, during the nine months ended September 30, 2016, the Company issued approximately 105,000 shares of common stock through the Stock Incentive Plan, Restricted Stock/Unit Plan, and Management Incentive Plan. No further issuances of the Company’s common stock will occur under the Stock Incentive Plan due to the expiration of the Stock Incentive Plan and all remaining options outstanding and granted thereunder.

 

15


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Note 6 – Long-Term Debt

Carrying amounts of the Company’s long-term debt and their related estimated fair values as of September 30, 2016 and December 31, 2015 are disclosed in the following table. The fair values of the revolving credit facility (including commercial paper) and the variable-rate Industrial Development Revenue Bonds (“IDRBs”) approximate their carrying values, as they are repaid quickly (in the case of credit facility borrowings) and have interest rates that reset frequently. They are categorized as Level 1 (quoted prices for identical financial instruments) within the three-level fair value hierarchy that ranks the inputs used to measure fair value by their reliability, due to the Company’s ability to access similar debt arrangements at measurement dates with comparable terms, including variable rates. The fair values of debentures, senior notes, and fixed-rate IDRBs were determined utilizing a market-based valuation approach, where fair market values are determined based on evaluated pricing data, such as broker quotes and yields for similar securities adjusted for observable differences. Significant inputs used in the valuation generally include benchmark yield curves, credit ratings and issuer spreads. The external credit rating, coupon rate, and maturity of each security are considered in the valuation, as applicable. The market values of debentures and fixed-rate IDRBs are categorized as Level 2 (observable market inputs based on market prices of similar securities). The Centuri secured revolving credit and term loan facility and Centuri other debt obligations (not actively traded) are categorized as Level 3, based on significant unobservable inputs to their fair values. Since Centuri’s debt is not publicly traded, fair values for the secured revolving credit and term loan facility and other debt obligations were based on a conventional discounted cash flow methodology and utilized current market pricing yield curves, across Centuri’s debt maturity spectrum, of other industrial bonds with an assumed credit rating comparable to the Company’s.

 

16


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

     September 30, 2016      December 31, 2015  
     Carrying      Market      Carrying      Market  
     Amount      Value      Amount      Value  
(Thousands of dollars)                            

Debentures:

           

Notes, 4.45%, due 2020

   $ 125,000       $ 133,819       $ 125,000       $ 130,273   

Notes, 6.1%, due 2041

     125,000         162,340         125,000         141,581   

Notes, 3.875%, due 2022

     250,000         260,813         250,000         253,600   

Notes, 4.875%, due 2043

     250,000         295,000         250,000         251,483   

Notes, 3.8%, due 2046

     300,000         303,789         —           —     

8% Series, due 2026

     75,000         101,275         75,000         97,035   

Medium-term notes, 7.59% series, due 2017

     25,000         25,350         25,000         26,253   

Medium-term notes, 7.78% series, due 2022

     25,000         30,610         25,000         29,855   

Medium-term notes, 7.92% series, due 2027

     25,000         34,190         25,000         31,890   

Medium-term notes, 6.76% series, due 2027

     7,500         9,404         7,500         8,684   

Unamortized discount and debt issuance costs

     (9,901         (6,137   
  

 

 

       

 

 

    
     1,197,599            901,363      
  

 

 

       

 

 

    

Revolving credit facility and commercial paper

     —           —           150,000         150,000   
  

 

 

       

 

 

    

Industrial development revenue bonds:

           

Variable-rate bonds:

           

Tax-exempt Series A, due 2028

     50,000         50,000         50,000         50,000   

2003 Series A, due 2038

     50,000         50,000         50,000         50,000   

2008 Series A, due 2038

     50,000         50,000         50,000         50,000   

2009 Series A, due 2039

     50,000         50,000         50,000         50,000   

Fixed-rate bonds:

           

4.85% 2005 Series A, due 2035

     —           —           100,000         100,452   

4.75% 2006 Series A, due 2036

     —           —           24,855         25,130   

Unamortized discount and debt issuance costs

     (2,591         (3,946   
  

 

 

       

 

 

    
     197,409            320,909      
  

 

 

       

 

 

    

Centuri term loan facility

     111,612         111,767         112,571         112,665   

Unamortized debt issuance costs

     (560         (692   
  

 

 

       

 

 

    
     111,052            111,879      
  

 

 

       

 

 

    

Centuri secured revolving credit facility

     79,932         80,479         60,627         60,724   

Centuri other debt obligations

     56,434         58,553         25,901         26,059   
  

 

 

       

 

 

    
     1,642,426            1,570,679      

Less: current maturities

     (49,480         (19,475   
  

 

 

       

 

 

    

Long-term debt, less current maturities

   $ 1,592,946          $ 1,551,204      
  

 

 

       

 

 

    

In March 2016, the Company amended its $300 million credit facility. The facility was previously scheduled to expire in March 2020 and was extended to March 2021. The Company uses $150 million of the facility as long-term debt and the remaining $150 million for working capital purposes. Interest rates for the credit facility are calculated at either the London Interbank Offered Rate (“LIBOR”) or an “alternate base rate,” plus in each case an applicable margin that is determined based on the Company’s senior unsecured debt rating. At September 30, 2016, the applicable margin is 1% for loans bearing interest with reference to LIBOR and 0% for loans bearing interest with reference to the alternative base rate. At September 30, 2016, no borrowings were outstanding on the long-term or short-term portions of the credit facility.

The $100 million 2005 4.85% Series A fixed-rate IDRBs (originally due in 2035) were redeemed at par with accrued interest in July 2016. In September 2016, the $24.9 million 2006 Series A 4.75% fixed-rate IDRBs (originally due in 2036) were redeemed at par with accrued interest.

In September 2016, the Company issued $300 million in 3.8% Senior Notes at a discount of 0.302%. The notes will mature in September 2046. A portion of the net proceeds were used to temporarily pay down amounts outstanding under the credit facility. The remaining net proceeds are intended to be used for general corporate purposes.

 

17


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Centuri has a $300 million secured revolving credit and term loan facility that is scheduled to expire in October 2019. At September 30, 2016, $192 million in borrowings were outstanding on the Centuri facility. Centuri assets securing the facility at September 30, 2016 totaled $510 million.

In 2016, Centuri entered into equipment loans totaling $45 million due in 2021 under an existing master loan and security agreement.

Note 7 – Equity, Other Comprehensive Income, and Accumulated Other Comprehensive Income

The table below provides details of activity in equity and the redeemable noncontrolling interest during the nine months ended September 30, 2016.

 

    Southwest Gas Corporation Equity                    
                      Accumulated                       Redeemable  
                Additional     Other           Non-           Noncontrolling  
    Common Stock     Paid-in     Comprehensive     Retained     controlling           Interest  

(In thousands, except per share amounts)

  Shares     Amount     Capital     Income (Loss)     Earnings     Interest     Total     (Temporary Equity)  

DECEMBER 31, 2015

    47,377      $ 49,007      $ 896,448      $ (50,268   $ 699,221      $ (2,083   $ 1,592,325      $ 16,108   

Common stock issuances

    105        105        5,518              5,623     

Net income (loss)

            86,861        (180     86,681        680   

Redemption value adjustments

            (1,009       (1,009     1,009   

Foreign currency exchange translation adj.

          593            593        21   

Other comprehensive income (loss):

               

Net actuarial gain (loss) arising during period, less amortization of unamortized benefit plan cost, net of tax

          1,819            1,819     

Amounts reclassified to net income, net of tax (FSIRS)

          1,556            1,556     

Centuri dividend to redeemable noncontrolling interest

                  (439

Dividends declared

               

Common: $1.35 per share

            (64,672       (64,672  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

SEPTEMBER 30, 2016

    47,482      $ 49,112      $ 901,966      $ (46,300   $ 720,401      $ (2,263   $ 1,622,916      $ 17,379   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

The following information provides insight into amounts impacting Other Comprehensive Income (Loss), on both before- and after-tax bases, within the Condensed Consolidated Statements of Comprehensive Income, which also impact Accumulated Other Comprehensive Income in the Company’s Condensed Consolidated Balance Sheets and the associated column in the equity table above, as well as the Redeemable Noncontrolling Interest. See Note 4 – Derivatives and Fair Value Measurements for additional information on the FSIRS.

 

18


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Related Tax Effects Allocated to Each Component of Other Comprehensive Income (Loss)

(Thousands of dollars)

 

     Three Months Ended     Three Months Ended  
     September 30, 2016     September 30, 2015  
     Before-     Tax     Net-of-     Before-     Tax     Net-of-  
     Tax     (Expense)     Tax     Tax     (Expense)     Tax  
     Amount     or Benefit (1)     Amount     Amount     or Benefit (1)     Amount  

Defined benefit pension plans:

            

Amortization of prior service cost

   $ 333      $ (126   $ 207      $ 334      $ (127   $ 207   

Amortization of net actuarial (gain)/loss

     6,767        (2,571     4,196        8,595        (3,266     5,329   

Regulatory adjustment

     (6,122     2,326        (3,796     (7,787     2,959        (4,828
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Pension plans other comprehensive income (loss)

     978        (371     607        1,142        (434     708   

FSIRS (designated hedging activities):

            

Amounts reclassifed into net income

     835        (317     518        836        (317     519   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

FSIRS other comprehensive income

     835        (317     518        836        (317     519   

Foreign currency translation adjustments:

            

Translation adjustments

     (238     —          (238     (510     —          (510
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Foreign currency other comprehensive income (loss)

     (238     —          (238     (510     —          (510
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income (loss)

   $ 1,575      $ (688   $ 887      $ 1,468      $ (751   $ 717   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
     Nine Months Ended     Nine Months Ended  
     September 30, 2016     September 30, 2015  
     Before-     Tax     Net-of-     Before-     Tax     Net-of-  
     Tax     (Expense)     Tax     Tax     (Expense)     Tax  
     Amount     or Benefit (1)     Amount     Amount     or Benefit (1)     Amount  

Defined benefit pension plans:

            

Amortization of prior service cost

   $ 1,001      $ (380   $ 621      $ 1,001      $ (380   $ 621   

Amortization of net actuarial (gain)/loss

     20,300        (7,714     12,586        25,786        (9,799     15,987   

Regulatory adjustment

     (18,368     6,980        (11,388     (23,361     8,877        (14,484
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Pension plans other comprehensive income (loss)

     2,933        (1,114     1,819        3,426        (1,302     2,124   

FSIRS (designated hedging activities):

            

Amounts reclassifed into net income

     2,508        (952     1,556        2,508        (952     1,556   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

FSIRS other comprehensive income

     2,508        (952     1,556        2,508        (952     1,556   

Foreign currency translation adjustments:

            

Translation adjustments

     614        —          614        (1,573     —          (1,573
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Foreign currency other comprehensive income (loss)

     614        —          614        (1,573     —          (1,573
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income (loss)

   $ 6,055      $ (2,066   $ 3,989      $ 4,361      $ (2,254   $ 2,107   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

19


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

     Twelve Months Ended     Twelve Months Ended  
     September 30, 2016     September 30, 2015  
     Before-     Tax     Net-of-     Before-     Tax     Net-of-  
     Tax     (Expense)     Tax     Tax     (Expense)     Tax  
     Amount     or Benefit (1)     Amount     Amount     or Benefit (1)     Amount  

Defined benefit pension plans:

            

Net actuarial gain/(loss)

   $ (30,519   $ 11,597      $ (18,922   $ (173,646   $ 65,985      $ (107,661

Amortization of prior service cost

     1,335        (507     828        1,090        (414     676   

Amortization of net actuarial (gain)/loss

     28,895        (10,980     17,915        31,700        (12,046     19,654   

Prior service cost

     —          —          —          (6,661     2,531        (4,130

Regulatory adjustment

     (653     249        (404     132,480        (50,343     82,137   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Pension plans other comprehensive income (loss)

     (942     359        (583     (15,037     5,713        (9,324

FSIRS (designated hedging activities):

            

Amounts reclassifed into net income

     3,344        (1,271     2,073        3,344        (1,270     2,074   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

FSIRS other comprehensive income (loss)

     3,344        (1,271     2,073        3,344        (1,270     2,074   

Foreign currency translation adjustments:

            

Translation adjustments

     233        —          233        (2,232     —          (2,232
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Foreign currency other comprehensive income (loss)

     233        —          233        (2,232     —          (2,232
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive income (loss)

   $ 2,635      $ (912   $ 1,723      $ (13,925   $ 4,443      $ (9,482
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1)

Tax amounts are calculated using a 38% rate. The Company has elected to indefinitely reinvest the earnings of Centuri’s Canadian subsidiaries in Canada, thus preventing deferred taxes on such earnings. As a result of this assertion, the Company is not recognizing any tax effect or presenting a tax expense or benefit for the currency translation adjustment amount reported in Other Comprehensive Income, as repatriation of earnings is not anticipated.

Approximately $2.1 million of realized losses (net of tax) related to the FSIRS, reported in Accumulated other comprehensive income (“AOCI”) at September 30, 2016, will be reclassified into interest expense within the next 12 months as the related interest payments on long-term debt occur.

The following table represents a rollforward of AOCI, presented on the Company’s Condensed Consolidated Balance Sheets:

AOCI - Rollforward

(Thousands of dollars)

 

    Defined Benefit Plans     FSIRS     Foreign Currency Items        
    Before-
Tax
    Tax
(Expense)
Benefit (4)
    After-
Tax
    Before-
Tax
    Tax
(Expense)
Benefit (4)
    After-
Tax
    Before-
Tax
    Tax
(Expense)
Benefit
    After-
Tax
    AOCI  

Beginning Balance AOCI December 31, 2015

  $ (57,660   $ 21,911      $ (35,749   $ (19,344   $ 7,350      $ (11,994   $ (2,525   $ —        $ (2,525   $ (50,268
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Translation adjustments

    —          —          —          —          —          —          614        —          614        614   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income before reclassifications

    —          —          —          —          —          —          614        —          614        614   

FSIRS amounts reclassified from AOCI (1)

    —          —          —          2,508        (952     1,556        —          —          —          1,556   

Amortization of prior service cost (2)

    1,001        (380     621        —          —          —          —          —          —          621   

Amortization of net actuarial loss (2)

    20,300        (7,714     12,586        —          —          —          —          —          —          12,586   

Regulatory adjustment (3)

    (18,368     6,980        (11,388     —          —          —          —          —          —          (11,388
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net current period other comprehensive income (loss)

    2,933        (1,114     1,819        2,508        (952     1,556        614        —          614        3,989   

Less: Translation adjustment attributable to redeemable noncontrolling interest

    —          —          —          —          —          —          21        —          21        21   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net current period other comprehensive income (loss) attributable to Southwest Gas Corporation

    2,933        (1,114     1,819        2,508        (952     1,556        593        —          593        3,968   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Ending Balance AOCI September 30, 2016

  $ (54,727   $ 20,797      $ (33,930   $ (16,836   $ 6,398      $ (10,438   $ (1,932   $ —        $ (1,932   $ (46,300
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1)

The FSIRS reclassification amounts are included in the Net interest deductions line item on the Condensed Consolidated Statements of Income.

(2)

These AOCI components are included in the computation of net periodic benefit cost (see Note 2 – Components of Net Periodic Benefit Cost for additional details).

(3)

The regulatory adjustment represents the portion of the activity above that is expected to be recovered through rates in the future (the related regulatory asset is included in the Deferred charges and other assets line item on the Condensed Consolidated Balance Sheets).

(4)

Tax amounts are calculated using a 38% rate.

 

20


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

The following table represents amounts (before income tax impacts) included in AOCI (in the table above), that have not yet been recognized in net periodic benefit cost:

Amounts Recognized in AOCI (Before Tax)

(Thousands of dollars)

 

     September 30, 2016      December 31, 2015  

Net actuarial (loss) gain

   $ (414,969    $ (435,269

Prior service cost

     (6,037      (7,038

Less: amount recognized in regulatory assets

     366,279         384,647   
  

 

 

    

 

 

 

Recognized in AOCI

   $ (54,727    $ (57,660
  

 

 

    

 

 

 

Note 8 – Construction Services Redeemable Noncontrolling Interest

In conjunction with the acquisition of the Canadian construction businesses in October 2014, the previous owners of the acquired companies currently hold a 3.4% equity interest (a noncontrolling interest) in Centuri. The noncontrolling parties are able to exit their investment retained by requiring the purchase of a portion of their interest commencing July 2017 and in incremental amounts each anniversary date thereafter. The shares subject to the election cumulate (if earlier elections are not made) such that 100% of their interest retained is subject to the election beginning in July 2022. Due to the ability of the noncontrolling parties to redeem their interest for cash, their interest is presented on the Company’s Condensed Consolidated Balance Sheet at September 30, 2016 as a Redeemable noncontrolling interest, a category of mezzanine equity (temporary equity). The following depicts changes to the balance of the redeemable noncontrolling interest between the indicated periods.

 

     Redeemable
Noncontrolling
Interest
 
(Thousands of dollars):       

Balance, December 31, 2015

   $ 16,108   

Net income (loss) attributable to redeemable noncontrolling interest

     680   

Foreign currency exchange translation adjustment

     21   

Centuri dividend to redeemable noncontrolling interest

     (439

Adjustment to redemption value

     1,009   
  

 

 

 

Balance, September 30, 2016

   $ 17,379   
  

 

 

 

 

21


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Southwest Gas Corporation and its subsidiaries (the “Company”) consist of two business segments: natural gas operations (“Southwest” or the “natural gas operations” segment) and construction services.

Southwest is engaged in the business of purchasing, distributing, and transporting natural gas for customers in portions of Arizona, Nevada, and California. Southwest is the largest distributor of natural gas in Arizona, selling and transporting natural gas in most of central and southern Arizona, including the Phoenix and Tucson metropolitan areas. Southwest is also the largest distributor of natural gas in Nevada, serving the Las Vegas metropolitan area and northern Nevada. In addition, Southwest distributes and transports natural gas for customers in portions of California, including the Lake Tahoe area and the high desert and mountain areas in San Bernardino County.

As of September 30, 2016, Southwest had 1,967,000 residential, commercial, industrial, and other natural gas customers, of which 1,049,000 customers were located in Arizona, 726,000 in Nevada, and 192,000 in California. Residential and commercial customers represented over 99% of the total customer base. During the twelve months ended September 30, 2016, 54% of operating margin was earned in Arizona, 35% in Nevada, and 11% in California. During this same period, Southwest earned 85% of its operating margin from residential and small commercial customers, 3% from other sales customers, and 12% from transportation customers. These general composition patterns are expected to remain materially consistent for the foreseeable future.

Southwest recognizes operating revenues from the distribution and transportation of natural gas (and related services) to customers. Operating margin is the measure of gas operating revenues less the net cost of gas sold. Management uses operating margin as a main benchmark in comparing operating results from period to period. The principal factors affecting changes in operating margin are general rate relief (including impacts of infrastructure trackers) and customer growth. The demand for natural gas is seasonal, with greater demand in the colder winter months and decreased demand in the warmer summer months. All of Southwest’s service territories have decoupled rate structures (alternative revenue programs), which are designed to eliminate the direct link between volumetric sales and revenue, thereby mitigating the impacts of unusual weather variability and conservation on margin, allowing the Company to aggressively pursue energy efficiency initiatives.

Centuri Construction Group, Inc. (“Centuri” or the “construction services” segment) is a full-service underground piping contractor that primarily provides utility companies with trenching and installation, replacement, and maintenance services for energy distribution systems, and develops industrial construction solutions. Centuri operates in 20 major markets in the United States (primarily as NPL) and in 2 major markets in Canada (as NPL Canada, formerly Link-Line Contractors Ltd., and W.S. Nicholls). Construction activity is cyclical and can be significantly impacted by changes in weather, general and local economic conditions (including the housing market), interest rates, employment levels, job growth, the equipment resale market, pipe replacement programs of utilities, and local and federal regulation (including tax rates and incentives). During the past few years, utilities have implemented or modified pipeline integrity management programs to enhance safety pursuant to federal and state mandates. These programs, coupled with recent bonus depreciation tax deduction incentives, have resulted in a significant increase in multi-year pipeline replacement projects throughout the U.S.

This Management’s Discussion and Analysis (“MD&A”) of Financial Condition and Results of Operations should be read in conjunction with the consolidated financial statements and the notes thereto, as well as MD&A included in the 2015 Annual Report to Shareholders, which is incorporated by reference into the 2015 Form 10-K.

 

22


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Executive Summary

The items discussed in this Executive Summary are intended to provide an overview of the results of the Company’s operations. As needed, certain items are covered in greater detail in later sections of management’s discussion and analysis. As reflected in the table below, the natural gas operations segment accounted for an average of 82% of twelve-month-to-date consolidated net income over the past two years. As such, management’s discussion and analysis is primarily focused on that segment. Natural gas sales are seasonal, peaking during the winter months; therefore, results of operations for interim periods are not necessarily indicative of results for a full year.

Summary Operating Results

 

     Period Ended September 30,  
     Three Months     Nine Months      Twelve Months  
     2016     2015     2016      2015      2016      2015  
     (In thousands, except per share amounts)  

Contribution to net income (loss)

               

Natural gas operations

   $ (12,405   $ (18,939   $ 67,536       $ 59,325       $ 119,836       $ 113,252   

Construction services

     14,877        14,205        19,325         12,873         33,144         17,692   
  

 

 

   

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Net income (loss)

   $ 2,472      $ (4,734   $ 86,861       $ 72,198       $ 152,980       $ 130,944   
  

 

 

   

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Average number of common shares outstanding

     47,481        47,102        47,464         46,863         47,442         46,777   
  

 

 

   

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Basic earnings (loss) per share

               

Consolidated

   $ 0.05      $ (0.10   $ 1.83       $ 1.54       $ 3.22       $ 2.80   
  

 

 

   

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

Natural Gas Operations

               

Operating margin

   $ 161,123      $ 155,152      $ 656,855       $ 632,133       $ 915,552       $ 887,214   
  

 

 

   

 

 

   

 

 

    

 

 

    

 

 

    

 

 

 

3rd Quarter 2016 Overview

Natural gas operations highlights include the following:

 

   

Operating margin increased $6 million compared to the prior-year quarter

 

   

Operations and maintenance expense increased $2.3 million compared to the prior-year quarter

 

   

Other income increased $6 million between quarters due to increased COLI-related income

Construction services highlights include the following:

 

   

Revenues increased $54 million compared to the prior-year quarter

 

   

Construction expenses increased $54 million compared to the prior-year quarter

 

23


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Results of Natural Gas Operations

Quarterly Analysis

 

     Three Months Ended  
     September 30,  
     2016      2015  
     (Thousands of dollars)  

Gas operating revenues

   $ 200,179       $ 219,420   

Net cost of gas sold

     39,056         64,268   
  

 

 

    

 

 

 

Operating margin

     161,123         155,152   

Operations and maintenance expense

     102,438         100,102   

Depreciation and amortization

     56,436         52,672   

Taxes other than income taxes

     12,480         11,652   
  

 

 

    

 

 

 

Operating income (loss)

     (10,231      (9,274

Other income (deductions)

     2,521         (3,525

Net interest deductions

     16,364         16,259   
  

 

 

    

 

 

 

Income (loss) before income taxes

     (24,074      (29,058

Income tax expense (benefit)

     (11,669      (10,119
  

 

 

    

 

 

 

Contribution to consolidated net income (loss)

   $ (12,405    $ (18,939
  

 

 

    

 

 

 

Operating margin increased approximately $6 million between quarters. Combined rate relief in the California jurisdiction and Paiute Pipeline Company (see Rates and Regulatory Proceedings) provided $2 million in operating margin. New customers contributed $1 million in operating margin during the third quarter of 2016, as approximately 29,000 net new customers were added during the last twelve months. Operating margin attributable to the Nevada conservation and energy efficiency (“CEE”) surcharge, which was implemented in January 2016, was $2 million. Amounts collected through the surcharge do not impact net income as they also result in an increase in associated amortization expense (discussed below and in Rates and Regulatory Proceedings). Operating margin associated with infrastructure replacement mechanisms and customers outside the decoupling mechanisms, as well as other miscellaneous revenues, collectively increased $1 million.

Operations and maintenance expense increased $2.3 million, or 2%, between quarters as general cost increases and higher expenses for pipeline integrity management and damage prevention programs offset lower pension costs.

Depreciation and amortization expense increased $3.8 million, or 7%, between quarters. Average gas plant in service for the current quarter increased $366 million, or 6%, compared to the corresponding quarter a year ago. This was attributable to pipeline capacity reinforcement work, franchise requirements, scheduled and accelerated pipe replacement activities, and new infrastructure, which collectively resulted in increased depreciation expense.

Taxes other than income taxes increased $828,000, or 7%, between quarters primarily due to higher property taxes associated with net plant additions.

Other income, which principally includes returns on company-owned life insurance (“COLI”) policies and non-utility expenses, increased $6 million between quarters. The current quarter reflects $2.3 million of income associated with COLI policy cash surrender value increases and recognized net death benefits, while the prior-year quarter reflected a COLI-related loss of $3.9 million.

Net interest deductions increased $105,000 between quarters, primarily due to higher interest expense associated with PGA balances, substantially offset by reductions associated with the redemption of debt ($20 million 5.25% 2003 Series D IDRBs in September 2015, $100 million 4.85% 2005 Series A IDRBs in July 2016, and $24.9 million 4.75% 2006 Series A in September 2016).

The effective income tax rates in both quarters were impacted by COLI results, which are not subject to tax. Additionally, the Company claimed a federal income tax credit, which resulted in a recognized benefit of approximately $1.6 million during the third quarter of 2016.

 

24


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Nine-Month Analysis

 

     Nine Months Ended  
     September 30,  
     2016      2015  
     (Thousands of dollars)  

Gas operating revenues

   $ 980,927       $ 1,059,178   

Net cost of gas sold

     324,072         427,045   
  

 

 

    

 

 

 

Operating margin

     656,855         632,133   

Operations and maintenance expense

     301,979         294,956   

Depreciation and amortization

     174,413         159,259   

Taxes other than income taxes

     39,480         37,063   
  

 

 

    

 

 

 

Operating income

     140,983         140,855   

Other income (deductions)

     6,712         (611

Net interest deductions

     49,155         48,104   
  

 

 

    

 

 

 

Income before income taxes

     98,540         92,140   

Income tax expense

     31,004         32,815   
  

 

 

    

 

 

 

Contribution to consolidated net income

   $ 67,536       $ 59,325   
  

 

 

    

 

 

 

The contribution to consolidated net income from natural gas operations increased $8.2 million between the first nine months of 2016 and 2015. The improvement was primarily due to higher operating margin and other income, partially offset by an increase in operating expenses, notably depreciation and amortization.

Operating margin increased $25 million between the nine-month periods. Combined rate relief in the California jurisdiction and Paiute Pipeline Company provided $7 million in operating margin. New customers contributed $6 million in operating margin during the first nine months of 2016. Operating margin attributable to the Nevada CEE surcharge, which was implemented in January 2016, provided $8 million of the increase. Amounts collected through the surcharge do not impact net income as they also result in an increase in associated amortization expense. Operating margin associated with infrastructure replacement mechanisms and customers outside the decoupling mechanisms, as well as other miscellaneous revenues, collectively increased $4 million.

Operations and maintenance expense increased $7 million, or 2%, between periods primarily due to increased expenses for pipeline integrity management and damage prevention programs (collectively, $3 million) and general cost increases, partially offset by a decline in pension expense.

Depreciation and amortization expense increased $15.2 million, or 10%, between periods. Average gas plant in service for the current period increased $337 million, or 6%, compared to the corresponding period a year ago. This was attributable to pipeline capacity reinforcement work, franchise requirements, scheduled and accelerated pipe replacement activities, and new infrastructure, which collectively resulted in increased depreciation expense. In addition, approximately $5.8 million of the increase is attributable to amortization related to the recovery of regulatory assets, notably the amortization accompanying the recovery of Nevada CEE costs indicated above.

Taxes other than income taxes increased $2.4 million, or 7%, between periods primarily due to higher property taxes associated with net plant additions.

Other income increased $7.3 million between periods. The current period reflects $5.4 million of COLI-related income associated with cash surrender value increases and recognized net death benefits, while the prior-year period reflected a COLI-related loss of $2.6 million.

Net interest deductions increased $1.1 million between periods primarily due to higher interest expense associated with PGA balances, partially offset by reductions associated with various IDRB debt redemptions during the past year.

The effective income tax rates in both periods were impacted by COLI results, which are not subject to tax. Additionally, the Company claimed a federal income tax credit, which resulted in a recognized benefit of approximately $1.6 million during the third quarter of 2016.

 

25


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Twelve-Month Analysis

 

     Twelve Months Ended  
     September 30,  
     2016      2015  
     (Thousands of dollars)  

Gas operating revenues

   $ 1,376,388       $ 1,457,266   

Net cost of gas sold

     460,836         570,052   
  

 

 

    

 

 

 

Operating margin

     915,552         887,214   

Operations and maintenance expense

     400,222         385,271   

Depreciation and amortization

     228,609         210,863   

Taxes other than income taxes

     51,810         50,059   
  

 

 

    

 

 

 

Operating income

     234,911         241,021   

Other income (deductions)

     9,615         1,652   

Net interest deductions

     65,146         64,958   
  

 

 

    

 

 

 

Income before income taxes

     179,380         177,715   

Income tax expense

     59,544         64,463   
  

 

 

    

 

 

 

Contribution to consolidated net income

   $ 119,836       $ 113,252   
  

 

 

    

 

 

 

Contribution to consolidated net income from natural gas operations increased $6.6 million between the twelve-month periods of 2016 and 2015. The improvement was primarily due to higher operating margin and other income, partially offset by an increase in operating expenses.

Operating margin increased $28 million between periods including $8 million attributable to customer growth and a combined $8 million of rate relief in the California jurisdiction and Paiute Pipeline Company. Operating margin attributable to the Nevada CEE surcharge implemented in January 2016 was $8 million (a corresponding increase is reflected in amortization expense). Operating margin associated with infrastructure replacement mechanisms and customers outside the decoupling mechanisms, as well as other miscellaneous revenues, collectively improved $4 million.

Operations and maintenance expense increased $15 million, or 4%, between periods primarily due to general cost increases. In addition, expenses for pipeline integrity management and damage prevention programs collectively increased $4 million.

Depreciation and amortization expense increased $17.7 million, or 8%, between periods. Average gas plant in service for the current period increased $320 million, or 6%, as compared to the prior period. This was attributable to pipeline capacity reinforcement work, franchise requirements, scheduled and accelerated pipe replacement activities, and new infrastructure, which collectively resulted in increased depreciation expense. In addition, approximately $6.3 million of the increase is attributable to amortization related to the recovery of regulatory assets, notably, amortization accompanying the recovery of Nevada CEE costs indicated above.

Taxes other than income taxes increased $1.8 million between periods primarily due to higher property taxes associated with net plant additions.

Other income increased $8 million between the twelve-month periods of 2016 and 2015. The current period reflects $7.5 million in income associated with COLI policy cash surrender value increases and recognized net death benefits, while the prior-year period included a COLI-related loss of $200,000.

Net interest deductions increased $188,000 between periods primarily due to higher interest expense associated with PGA balances, which was substantially offset by reductions associated with various IDRB debt redemptions during the past year.

The effective income tax rates in both periods were impacted by COLI results, which are not subject to tax. Additionally, the Company claimed a federal income tax credit, which resulted in a recognized benefit of approximately $1.6 million during the third quarter of 2016.

 

26


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Results of Construction Services

Results of Construction Services

 

     Three Months Ended     Nine Months Ended     Twelve Months Ended  
     September 30,     September 30,     September 30,  
     2016      2015     2016      2015     2016      2015  
(Thousands of dollars)                                        

Construction revenues

   $ 339,790       $ 285,976      $ 838,038       $ 719,042      $ 1,127,982       $ 948,637   

Operating expenses:

               

Construction expenses

     300,611         246,755        757,919         647,512        1,009,188         850,591   

Depreciation and amortization

     13,409         13,804        43,351         41,639        58,368         55,948   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Operating income

     25,770         25,417        36,768         29,891        60,426         42,098   

Other income (deductions)

     44         (135     44         (615     1,246         (686

Net interest deductions

     1,794         2,142        4,945         5,991        6,738         8,961   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Income before income taxes

     24,020         23,140        31,867         23,285        54,934         32,451   

Income tax expense

     8,708         8,411        12,042         9,878        20,711         14,074   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Net income (loss)

     15,312         14,729        19,825         13,407        34,223         18,377   

Net income attributable to noncontrolling interests

     435         524        500         534        1,079         685   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Contribution to consolidated net income (loss) attributable to Centuri

   $ 14,877       $ 14,205      $ 19,325       $ 12,873      $ 33,144       $ 17,692   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

In May 2016, Centuri acquired ETTI. Line items in the tables above reflect the results of ETTI only since the acquisition date. ETTI provided $4.8 million in revenue during the quarter and $5.9 million year-to-date.

Quarterly Analysis. Net income contribution for the current quarter improved $672,000 compared to the third quarter of 2015. Additional pipe replacement work, a decline in depreciation and amortization, and lower interest expense positively impacted net income.

Revenues increased $53.8 million, or 19%, in the third quarter of 2016 when compared to the prior-year quarter, primarily due to additional pipe replacement work. The majority of the revenue increase was from the existing base of utility customers and their expanded pipe replacement programs.

Construction expenses increased $53.9 million, or 22%, between quarters, due to the additional pipe replacement work noted above and higher operating expenses to support increased growth in operations. In addition, increased labor costs were experienced due to a change in the mix of work with existing customers performed during the current quarter. Included within construction expenses were higher general and administrative costs to support the growth in operations and approximately $1 million of incremental costs due to organizational realignment activities initiated in response to the increasing size and complexity of Centuri’s business. Gains on sale of equipment (reflected as an offset to construction expenses) were approximately $1.4 million and $456,000 for the third quarters of 2016 and 2015, respectively. Depreciation and amortization expense decreased $395,000 between quarters primarily due to a $2 million reduction in depreciation associated with a change in the estimated useful lives of certain depreciable equipment, partially offset by an increase in depreciation on additional equipment purchased to support the growing volume of work being performed.

Net interest deductions decreased $348,000 between quarters. The decrease was primarily due to lower interest rates on outstanding borrowings during the current quarter.

Nine-Month Analysis. Net income contribution for the first nine months of 2016 improved $6.5 million compared to the same period of 2015. Additional pipe replacement work and lower interest expense positively impacted net income, partially offset by overall increases in depreciation and amortization. The prior-year period included a $7.7 million pretax loss reserve on an industrial project in Canada.

Revenues increased $119 million, or 17%, in the first nine months of 2016 when compared to the prior-year period, primarily due to additional pipe replacement work and incremental work that was able to be completed as a result of favorable weather conditions generally in the mid-western and north-eastern parts of the United States and Canada during the first half of 2016.

 

27


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Construction expenses increased $110.4 million, or 17%, between periods, due to the additional pipe replacement work and incremental work noted above. Gains on sale of equipment (reflected as an offset to construction expenses) were approximately $4.1 million and $3 million for the first nine months of 2016 and 2015, respectively. Depreciation and amortization expense increased $1.7 million between periods due to depreciation on additional equipment purchased to support the growing volume of work being performed, partially offset by a decline in amortization of certain finite-lived intangible assets recognized from the October 2014 acquisition ($1.1 million).

Net interest deductions decreased $1 million between periods. The decrease was primarily due to lower interest rates on outstanding borrowings during the current period.

Twelve-Month Analysis. Contribution to consolidated net income from construction services for the twelve-month period ended September 30, 2016 increased $15.5 million compared to the same period of 2015. The improvement includes increased pipe replacement work, partially offset by increases in depreciation and amortization. The prior-year period reflects the $7.7 million pretax loss reserve on an industrial project in Canada, while the current period includes an approximate $4 million pretax favorable settlement related to the project.

Revenues increased $179.3 million, or 19%, in the current twelve-month period compared to the same period of 2015 primarily due to additional pipe replacement work in the current period. Favorable weather conditions generally in the mid-western and north-eastern parts of the United States and Canada during the first half of 2016 and the fourth quarter of 2015 provided an extended construction season for the current twelve-month period. During the past several years, the construction services segment has focused its efforts on obtaining pipe replacement work under both blanket contracts and incremental bid projects. For both the twelve months ended September 30, 2016 and 2015, revenues from replacement work provided over 60% of total revenues.

Net interest deductions decreased $2.2 million between periods. The decrease was primarily due to lower interest rates and lower average outstanding borrowings.

Construction expenses increased $158.6 million, or 19% between periods, due to additional pipe replacement work during the twelve months ended September 30, 2016. Gains on sale of equipment (reflected as an offset to construction expenses) were $4.2 million and $3.5 million for the twelve-month periods of 2016 and 2015, respectively. Depreciation and amortization expense increased $2.4 million between the current and prior-year periods primarily due to increased depreciation for additional equipment purchased to support growth in the volume of work being performed.

Rates and Regulatory Proceedings

Arizona Jurisdiction

Arizona General Rate Case. Southwest filed a general rate application with the Arizona Corporation Commission (“ACC”) in May 2016 requesting an increase in authorized annual operating revenues of approximately $32 million, or 4.2%, to reflect existing levels of expense and requested returns, in addition to reflecting capital investments made by Southwest since June 2010. The application requests an overall rate of return of 7.82% on an original cost rate base of $1.336 billion, a 10.25% return on common equity, and a capital structure utilizing 52% common equity. The filing includes a depreciation study that supports a proposal to reduce currently effective depreciation expense by approximately $42 million, which is considered in the overall requested amount. This expense reduction coupled with the requested revenue increase, results in a net annual operating income increase request of $74 million. The Company is also seeking to continue the current Customer-Owned Yard Line (“COYL”) program approved in its last general rate case and to expand this mechanism to include other non-revenue producing projects such as the replacement of vintage steel pipe, while utilizing the same cost recovery methodology. Southwest is also requesting a property tax tracker and to maintain the current decoupled rate design. A procedural order has been issued; with intervenors and ACC staff direct testimony beginning in late November 2016. Hearings, if necessary, are scheduled for February 2017. New rates are expected to be in place by May 2017.

COYL Program. The Company received approval, in connection with its previous Arizona general rate case, to implement a program to conduct leak surveys, and if leaks were present, to replace and relocate service lines and meters for approximately 100,000 Arizona customers whose meters were set off from the customer’s home, which is not a traditional configuration. Customers with this configuration were previously responsible for the cost of maintaining these lines and were subject to the immediate cessation of natural gas service if low-pressure leaks

 

28


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

occurred. Effective June 2013, the ACC authorized a surcharge to recover the costs of depreciation and pre-tax return on the costs incurred to replace and relocate service lines and meters. The surcharge is revised annually as the program progresses. In 2014, the Company received approval to add a “Phase II” component to the COYL program to include the replacement of non-leaking COYLs. In the most recent annual COYL filing made in February 2016, the Company requested to increase the annual surcharge revenue from $2.5 million to $3.7 million to reflect additional costs incurred for both Phase I and Phase II. This request was based on total capital expenditures of $23.1 million, $13.4 million of which was incurred during 2014 and 2015. In May 2016, the ACC issued a decision approving the surcharge application, effective in June 2016.

LNG (“Liquefied Natural Gas”) Facility. In January 2014, Southwest filed an application with the ACC seeking preapproval to construct, operate and maintain a 233,000 dekatherm LNG facility in southern Arizona and to recover the actual costs, including the establishment of a regulatory asset. This facility is intended to enhance service reliability and flexibility in natural gas deliveries in the southern Arizona area by providing a local storage option, to be operated by Southwest and connected directly to its distribution system. Southwest requested approval of the actual cost of the project (including those facilities necessary to connect the proposed storage tank to Southwest’s existing distribution system). In December 2014, Southwest received an order from the ACC granting pre-approval of Southwest’s application to construct the LNG facility and the deferral of costs, limited to $50 million. The initial cost estimate was made in 2013 prior to selecting the land and receipt of the detailed engineering design specifications. Following the December 2014 preapproval, the Company purchased the site for the facility and completed detailed engineering design specifications for the purpose of soliciting bids for the engineering, procurement and construction (“EPC”) of the facility. Southwest solicited requests for proposals for the EPC phase of the project, and in October 2016 made a filing with the ACC to modify the previously issued Order to update the pre-approved costs to reflect a not-to-exceed amount of $80 million, which is intended to update the pre-approval to reflect the current pricing information made available through the recently completed EPC phase. Construction is expected to take approximately two to three years to complete following a notice to proceed to the contractor. Through September 2016, Southwest has incurred approximately $4 million in capital expenditures toward the project (including land acquisition costs). The Company included a proposal for the ratemaking treatment of facility costs as part of its current Arizona rate case filing. Absent further consideration in the current general rate case, the authorization to defer costs expires November 1, 2017 (from which point, expenditures incurred would not otherwise be eligible for deferral) and also requires any unquantified cost savings to be deferred. Any gas costs incurred that are not related to the initial construction and placement of the facility are to be recovered through the PGA mechanism. The Company anticipates a decision on its filing to modify the approved amount to reflect the current market pricing before the end of the year.

California Jurisdiction

California Attrition Filing. In November 2015, Southwest made its annual post-test year (“PTY”) attrition filing with the California Public Utilities Commission (“CPUC”), requesting annual revenue increases of $1.8 million in southern California, $499,000 in northern California, and $249,000 for South Lake Tahoe. This filing was approved in December 2015 and rates were made effective in January 2016. The CPUC also approved an adjustment to recover costs associated with replacing 7.1 miles of transmission pipeline and installing a remote control shut-off valve. This adjustment is expected to result in an annualized margin increase of $1.7 million during 2016.

Nevada Jurisdiction

Infrastructure Replacement Mechanisms. In January 2014, the Public Utilities Commission of Nevada (“PUCN”) approved final rules for a mechanism to defer and recover certain costs associated with accelerated replacement of non-revenue producing infrastructure. This mechanism has been in place since that time. In October 2015, the PUCN approved a GIR Advance Application, granting Southwest the authority to replace $43.5 million of infrastructure under the GIR mechanism and management filed a separate rate application to reset the GIR surcharge, based upon project costs deferred through August 2015. In December 2015, the PUCN approved new rates, effective in January 2016, which are expected to result in approximately $4 million in annualized revenues. For 2016, the annualized revenue requirement associated with the accelerated pipe replacement approved in 2015, to be completed during 2016 is estimated at $4.6 million. In June 2016, Southwest filed a GIR Advance Application with the PUCN for projects expected to be completed during 2017. This filing proposed approximately $60 million of accelerated pipe replacement to include early vintage plastic, early vintage steel, and a COYL program. The COYL program, while not large in magnitude, represents the first of its kind in Nevada, modeled after the program in place in Southwest’s

 

29


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Arizona jurisdiction for several years. The PUCN issued an Order on the Advance Application in October 2016, approving approximately $57.3 million of replacement work with an annualized revenue requirement estimated at approximately $5.3 million. The proposed COYL program was approved for the northern Nevada rate jurisdiction, but consideration for the southern Nevada rate jurisdiction was deferred until 2020, at which time certain early vintage plastic pipe programs are expected to be completed. In September 2016, Southwest filed to adjust rates effective January 2017, to collect an additional $4.5 million in expected annual revenue for amounts previously deferred.

Conservation and Energy Efficiency. In June 2015, Southwest requested recovery of energy efficiency and conservation development and implementation costs, including promotions and incentives for various programs, as originally approved for deferral by the PUCN effective November 2009. While recovery of these costs was approved as part of the most recent general rate case made effective May 2012, amounts incurred subsequent to the effective date continued to be deferred. Approved rates became effective January 2016 and are currently expected to result in annualized margin increases of $2 million in northern Nevada and $8.7 million in southern Nevada, and also include amounts representing expected program expenditures for 2016. There is, however, no anticipated impact to net income overall from these recoveries as the amounts collected through customer rates are also reflected as higher amortization expense.

Federal Energy Regulatory Commission (“FERC”) Jurisdiction

General Rate Case. Paiute Pipeline Company (“Paiute”), a wholly owned subsidiary of Southwest, filed a general rate case with the FERC in February 2014. In September 2014, Paiute reached an agreement in principle with the FERC Staff and intervenors to settle the case. In February 2015, the FERC issued a letter order approving the settlement as filed. Tariff changes in compliance with the settlement were filed in March 2015. In addition to agreeing to rate design changes to encourage longer-term contracts with its shippers, the settlement resulted in an annual revenue increase of $2.4 million, plus a $1.3 million depreciation reduction. The settlement implies an 11.5% pre-tax rate of return. Also, as part of this agreement, Paiute agreed to file a rate case no earlier than May 2016 and no later than May 2019. No filing in advance of the date required is currently contemplated.

Elko County Expansion Project. Paiute previously requested to expand its existing transmission system to provide additional firm transportation-service capacity in the Elko County, Nevada area, in order to meet growing natural gas demands caused by increased residential and business load and the greater energy needs of mining operations in the area. In May 2015, the FERC issued an order authorizing a Certificate of Public Convenience and Necessity to Paiute to construct and operate the Elko County Expansion Project, and subsequently provided a formal Notice to Proceed. Construction began in the second quarter of 2015 and the project was placed in service in January 2016 as authorized by the FERC. Rates to begin recovering the cost of the project were implemented in January 2016 and are expected to result in $6 million in revenue annually. The total cost of this project was estimated at approximately $35 million. As of September 30, 2016, costs incurred were approximately $34 million and costs associated with remaining site restoration along the construction corridor are estimated at less than $1 million.

2018 Expansion. In response to growing demand in the Carson City and South Lake Tahoe areas of northern California and northern Nevada, Paiute evaluated shipper interest in acquiring additional transportation capacity and executed precedent agreements for incremental transportation capacity with Southwest during the third quarter of 2016. In October 2016, Paiute initiated a pre-filing review process with the FERC for an expansion project, anticipated to consist of 8.4 miles of additional transmission pipeline infrastructure at an approximate cost of $17 million. A formal certificate application is expected to be filed in mid-2017, at which time, an environmental assessment will also be facilitated. If the process progresses as planned, the additional facilities could be in place by the end of 2018.

PGA Filings

The rate schedules in all of Southwest’s service territories contain provisions that permit adjustments to rates as the cost of purchased gas changes. These deferred energy provisions and purchased gas adjustment clauses are collectively referred to as “PGA” clauses. Differences between gas costs recovered from customers and amounts paid for gas by Southwest result in over- or under-collections. At September 30, 2016, over-collections in all jurisdictions resulted in a liability of $123.4 million on the Company’s condensed consolidated balance sheet. Gas cost rates paid to suppliers have been lower than amounts recovered from customers during the first nine months of 2016, resulting in additional overrecoveries since December 31, 2015. Tariff rates have been adjusted in all jurisdictions during this period. Filings to change rates in accordance with PGA clauses are subject to audit by state regulatory commission staffs. PGA changes impact cash flows but have no direct impact on profit margin. However, gas cost deferrals and

 

30


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

recoveries can impact comparisons between periods of individual consolidated income statement components. These include Gas operating revenues, Net cost of gas sold, Net interest deductions, and Other income (deductions).

The following table presents Southwest’s outstanding PGA balances receivable/(payable) (thousands of dollars):

 

     September 30, 2016      December 31, 2015      September 30, 2015  

Arizona

   $ (34,425    $ (3,537    $ (5,996

Northern Nevada

     (10,326      (2,311      (4,360

Southern Nevada

     (77,402      (39,753      (34,398

California

     (1,246      3,591         815   
  

 

 

    

 

 

    

 

 

 
   $ (123,399    $ (42,010    $ (43,939
  

 

 

    

 

 

    

 

 

 

Pipeline Safety Regulation

The Pipeline and Hazardous Materials Safety Administration (“PHMSA”) is in the process of proposing a series of significant rulemakings that are expected to further transform the regulatory requirements for pipelines. In October 2016, PHMSA issued a final rule regarding expanding the use of excess flow valves in natural gas distribution systems. The new rule will become effective in April 2017. The Company is evaluating potential impacts of this regulation on its operations and customers. The Company continues to monitor changing pipeline safety legislation and participates to the extent possible in developing associated mandates and reporting requirements. Additionally, it works with its state and federal commissions, where possible, to develop customer rates that are responsive to incremental costs of compliance. However, due to the timing of when rates are implemented in response to new requirements, and as additional rules are developed, compliance requirements could impact the Company’s expenses and the timing and amount of capital expenditures.

Holding Company Reorganization

In 2015, the Board of Directors (“Board”) of the Company authorized management to evaluate and pursue a holding company reorganization to provide further separation between regulated and unregulated businesses, and to provide additional financing flexibility. Following the holding company reorganization, Centuri and Southwest Gas would each be subsidiaries of the new publicly traded parent holding company but Centuri would no longer be a subsidiary of Southwest Gas. All of Southwest Gas Corporation’s outstanding debt securities (not associated with Centuri) at the time of the reorganization will remain at the Southwest Gas utility entity. Regulatory applications for preapproval of the reorganization were filed with the ACC, the CPUC, and the PUCN in October 2015. Approvals were received from the CPUC, the PUCN, and the ACC in January, March, and May, respectively, of 2016. The reorganization is also subject to consents from various third parties and final Board approval. Subject to such conditions, the reorganization is expected to become effective in January 2017. In this event, each outstanding share of Southwest Gas common stock would automatically convert into a share of stock in the holding company, on a one-for-one basis.

Capital Resources and Liquidity

Cash on hand and cash flows from operations in the past twelve months have generally provided the majority of cash used in investing activities (primarily for construction expenditures and property additions). During the past three years, the Company was able to achieve cost savings from debt refinancing and strategic debt redemptions. Certain pipe replacement work was accelerated during these years to take advantage of bonus depreciation tax incentives and to fortify system integrity and reliability, largely supported by favorable regulatory mechanisms. In addition, in March 2015, the Company filed an automatic shelf registration statement for the offer and sale of up to $100 million of its common stock for general corporate purposes and for the noted investment activities (refer to Note 5 – Common Stock and the discussion below), and it also issued $300 million in new debt (refer to Note 6 – Long-term Debt). The Company’s capitalization strategy is to maintain an appropriate balance of equity and debt to maintain strong investment-grade credit ratings, which should minimize interest costs.

 

31


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

Cash Flows

Operating Cash Flows. Cash flows provided by consolidated operating activities increased $63.4 million in the first nine months of 2016 as compared to the same period of 2015. The improvement in operating cash flows included an increase in net income and benefits from depreciation and deferred income taxes. Additionally, new and updated surcharges for decoupling mechanisms, conservation and energy efficiency and gas infrastructure programs improved cash flows during the first nine months of 2016. Refer to Results of Natural Gas Operations and Rates and Regulatory Proceedings.

Investing Cash Flows. Cash used in consolidated investing activities increased $88.8 million in the first nine months of 2016 as compared to the same period of 2015. The increase was primarily due to additional construction expenditures, including scheduled and accelerated pipe replacement, and equipment purchases by Centuri due to the increased replacement construction work of its customers, as well as the acquisition of ETTI in the construction services segment.

Financing Cash Flows. Net cash used in consolidated financing activities decreased $80.1 million in the first nine months of 2016 as compared to the same period of 2015. Southwest issued $300 million in senior notes and redeemed approximately $125 million of IDRBs during the current period (see Note 6 – Long-Term Debt). It also temporarily paid down $150 million of amounts outstanding on the long-term portion, as well as $18 million of amounts outstanding on the short-term portion, of its credit and commercial paper facility during 2016. All other long-term debt issuance amounts and retirements of long-term debt during this period are attributable to Centuri’s borrowing and repayment activity. Southwest also issued stock under its Equity Shelf Program in the first nine months of 2015. See Note 5 – Common Stock, and discussion below. Dividends paid increased in the first nine months of 2016 as compared to the same period of 2015 as a result of an increase in the quarterly dividend per share and an increase in the number of shares outstanding.

The capital requirements and resources of the Company generally are determined independently for the natural gas operations and construction services segments. Each business activity is generally responsible for securing its own financing sources.

Gas Segment Construction Expenditures, Debt Maturities, and Financing

During the twelve-month period ended September 30, 2016, construction expenditures for the natural gas operations segment were $485 million. The majority of these expenditures represented costs associated with scheduled and accelerated replacement of existing transmission, distribution, and general plant. Cash flows from operating activities of Southwest were $532 million during this time, which provided the majority of the funding for construction expenditures and dividend requirements of the natural gas operations segment.

Southwest estimates natural gas segment construction expenditures during the three-year period ending December 31, 2018 will be between $1.4 billion and $1.6 billion. Of this amount, approximately $470 million is expected to be incurred in the full year 2016. Southwest plans to continue, as appropriate, to request regulatory support to accelerate projects that improve system flexibility and reliability (including replacement of early vintage plastic and steel pipe). This includes the recent approval in Nevada to complete $57.3 million in accelerated replacement projects in Nevada in 2017 and a future request in California to initiate new programs, as well as a request included in the current Arizona general rate case to expand existing or initiate new programs. If successful, significant replacement activities are expected to continue well beyond the next few years. See also Rates and Regulatory Proceedings for discussion of Nevada infrastructure, Arizona COYL, and an LNG facility. During the three-year period, cash flows from operating activities of Southwest are expected to provide approximately 65% to 75% of the funding necessary for the gas operations’ total construction expenditures and dividend requirements. Any additional cash requirements are expected to be provided by existing credit facilities and/or other external financing sources. The timing, types, and amounts of any additional external financings will be dependent on a number of factors, including the cost of gas purchases, conditions in the capital markets, timing and amounts of rate relief, growth levels in Southwest’s service areas, and earnings. External financings could include the issuance of both debt and equity securities, bank and other short-term borrowings, and other forms of financing.

 

32


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

During the nine months ended September 30, 2016, the Company issued approximately 105,000 additional shares of common stock collectively through the Restricted Stock/Unit Plan, the Management Incentive Plan, and the Stock Incentive Plan. The Company raised approximately $735,000 from the issuance of shares of common stock through the Stock Incentive Plan. All shares associated with the Stock Incentive Plan have been issued.

Bonus Depreciation

In December 2015, the Protecting Americans from Tax Hikes Act of 2015 (“PATH Act”) was enacted, extending the 50% bonus depreciation tax deduction for qualified property acquired or constructed and placed in-service during 2015 (and additional years as noted below) as well as other tax deductions, credits, and incentives. The bonus depreciation tax deduction will be phased out over five years. The PATH Act provides for a 50% bonus depreciation tax deduction in 2015 through 2017, 40% in 2018, 30% in 2019, and no bonus deduction after 2019. Southwest estimates the bonus depreciation provision of the PATH Act will defer the payment of more than $60 million of federal income taxes for 2016. The actual amount will be dependent upon the ultimate level of qualifying expenditures.

Dividend Policy

In reviewing dividend policy, the Board of Directors (“Board”) considers the adequacy and sustainability of earnings and cash flows of the Company and its subsidiaries; the strength of the Company’s capital structure; the sustainability of the dividend through all business cycles; and whether the dividend is within a normal payout range for its respective businesses. As a result of its ongoing review of dividend policy, in February 2016, the Board increased the quarterly dividend from 40.5 cents to 45 cents per share, effective with the June 2016 payment. The Board’s policy is to target a dividend payout ratio that allows the Company to maintain its strong credit ratings and effectively fund its rate base growth and is consistent with the local distribution company peer group average. The timing and amount of any increases will be based on the Board’s continual review of the Company’s dividends per share in the context of the performance of the Company’s two operating segments and their future growth prospects.

Liquidity

Liquidity refers to the ability of an enterprise to generate sufficient amounts of cash through its operating activities and external financing to meet its cash requirements. Several general factors (some of which are out of the control of the Company) that could significantly affect liquidity in future years include: variability of natural gas prices, changes in the ratemaking policies of regulatory commissions, regulatory lag, customer growth in the natural gas segment’s service territories, Southwest’s ability to access and obtain capital from external sources, interest rates, changes in income tax laws, pension funding requirements, inflation, and the level of Company earnings. Natural gas prices and related gas cost recovery/refunding rates have historically had the most significant impact on Company liquidity.

On an interim basis, Southwest defers over- or under-collections of gas costs to PGA balancing accounts. In addition, Southwest uses this mechanism to either refund amounts over-collected or recoup amounts under-collected as compared to the price paid for natural gas during the period since the last PGA rate change went into effect. At September 30, 2016, the combined balance in the PGA accounts totaled an over-collection of $123.4 million. See PGA Filings for more information.

In March 2016, the Company amended its $300 million credit and commercial paper facility. The facility was previously scheduled to expire in March 2020 and was extended to March 2021. Southwest has designated $150 million of the $300 million facility for long-term borrowing needs and the remaining $150 million for working capital purposes. The maximum amount outstanding on the credit facility (including a commercial paper program) during the first nine months of 2016 was $230 million. At September 30, 2016, there were no borrowings outstanding on the short-term and long-term portions of the credit facility. The credit facility can be used as necessary to meet liquidity requirements, including temporarily financing under-collected PGA balances, if any, or meeting the refund needs of over-collected balances. This credit facility has been adequate for Southwest’s working capital needs outside of funds raised through operations and other types of external financing.

 

33


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

The Company has a $50 million commercial paper program. Any issuance under the commercial paper program is supported by the Company’s current revolving credit facility and, therefore, does not represent additional borrowing capacity. Any borrowing under the commercial paper program will be designated as long-term debt. Interest rates for the commercial paper program are calculated at the current commercial paper rate during the borrowing term. At September 30, 2016, no borrowings were outstanding under this program.

The $100 million 2005 4.85% Series A fixed-rate IDRBs (originally due in 2035) were redeemed at par plus accrued interest in July 2016. In September 2016, the $24.9 million 2006A 4.75% fixed-rate IDRBs (originally due in 2036) were redeemed at par plus accrued interest.

In September 2016, the Company issued $300 million in 3.8% Senior Notes at a discount of 0.302%. The notes will mature in September 2046. A portion of the net proceeds were used to temporarily pay down amounts outstanding under the credit facility. The remaining net proceeds are intended to be used for general corporate purposes.

Centuri has a $300 million secured revolving credit and term loan facility that is scheduled to expire in October 2019. The term loan facility portion had an initial limit of approximately $150 million, which was reached in 2014 and is in the process of being repaid. No further borrowing is permitted under this portion of the facility. The secured revolving credit facility portion also has a limit of $150 million; amounts borrowed and repaid under this portion of the facility are available to be re-borrowed. The maximum amount outstanding on the credit facility during the first nine months of 2016 was $198 million, at which point $115 million was outstanding on the term loan facility. At September 30, 2016, $79.9 million was outstanding on the Centuri secured revolving credit facility. At September 30, 2016, there was approximately $56 million, net of letters of credit, available under the line of credit.

The following table sets forth the ratios of earnings to fixed charges for the Company. Due to the seasonal nature of the Company’s business, these ratios are computed on a twelve-month basis:

 

     For the Twelve Months Ended  
     September 30,      December 31,  
     2016      2015  

Ratio of earnings to fixed charges

     3.53         3.43   

Earnings are defined as the sum of pretax income plus fixed charges. Fixed charges consist of all interest expense including capitalized interest, one-third of rent expense (which approximates the interest component of such expense), and net amortized debt costs.

Forward-Looking Statements

This quarterly report contains statements that constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (“Reform Act”). All statements other than statements of historical fact included or incorporated by reference in this quarterly report are forward-looking statements, including, without limitation, statements regarding the Company’s plans, objectives, goals, intentions, projections, strategies, future events or performance, and underlying assumptions. The words “may,” “if,” “will,” “should,” “could,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “predict,” “project,” “continue,” “forecast,” “intend,” “promote,” “seek,” and similar words and expressions are generally used and intended to identify forward-looking statements. For example, statements regarding operating margin patterns, customer growth, the composition of our customer base, price volatility, seasonal patterns, payment of debt, interest savings, the Company’s COLI strategy, annual COLI returns, replacement market and new construction market, bonus depreciation tax deductions, amount and timing for completion of estimated future construction expenditures, including the LNG facility in southern Arizona and related reconsideration of the modified filing or Order issued related to the LNG facility, forecasted operating cash flows and results of operations, net earnings impacts from gas infrastructure replacement surcharges, funding sources of cash requirements, amounts generally expected to be reflected in 2016 or future period revenues from regulatory rate proceedings including the Arizona general rate case, rates and surcharges, PGA, and other rate adjustments, impacts of pipeline safety regulations, sufficiency of working capital and current credit facilities, bank lending practices, the Company’s views regarding its liquidity position, ability to raise funds and receive external financing capacity and the intent and ability to issue the remaining capacity under the Equity Shelf Program, future dividend increases, pension and post-retirement benefits, certain benefits of tax acts, the effect of any rate changes or regulatory

 

34


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

proceedings, infrastructure replacement mechanisms and the COYL program or ability to receive approval for an expansion of the program, statements regarding future gas prices, gas purchase contracts and derivative financial instruments, recoverability of regulatory assets, the impact of certain legal proceedings, the success in securing remaining approvals of the proposed holding company structure or timing of the related reorganization, and the timing and results of future rate hearings and approvals are forward-looking statements. All forward-looking statements are intended to be subject to the safe harbor protection provided by the Reform Act.

A number of important factors affecting the business and financial results of the Company could cause actual results to differ materially from those stated in the forward-looking statements. These factors include, but are not limited to, customer growth rates, conditions in the housing market, the ability to recover costs through the PGA mechanisms or other regulatory assets, the effects of regulation/deregulation, the effects of pipeline safety regulations, the timing and amount of rate relief, changes in rate design, variability in volume of gas or transportation service sold to customers, changes in gas procurement practices, changes in capital requirements and funding, the impact of conditions in the capital markets on financing costs, changes in construction expenditures and financing, changes in operations and maintenance expenses, effects of pension expense forecasts, accounting changes, future liability claims, changes in pipeline capacity for the transportation of gas and related costs, results of Centuri bid work, impacts of structural and management changes at Centuri, Centuri construction expenses, differences between actual and originally expected outcomes of Centuri bid or other fixed-price construction agreements, and ability to successfully procure new work, acquisitions and management’s plans related thereto, competition, our ability to raise capital in external financings, our ability to continue to remain within the ratios and other limits subject to our debt covenants, and ongoing evaluations in regard to goodwill and other intangible assets. In addition, the Company can provide no assurance that its discussions regarding certain trends relating to its financing and operating expenses will continue in future periods. For additional information on the risks associated with the Company’s business, see Item 1A. Risk Factors and Item 7A. Quantitative and Qualitative Disclosures About Market Risk in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

All forward-looking statements in this quarterly report are made as of the date hereof, based on information available to the Company as of the date hereof, and the Company assumes no obligation to update or revise any of its forward-looking statements even if experience or future changes show that the indicated results or events will not be realized. We caution you to not unduly rely on any forward-looking statement(s).

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

See Item 7A. Quantitative and Qualitative Disclosures about Market Risk in the Company’s 2015 Annual Report on Form 10-K filed with the SEC. No material changes have occurred related to the Company’s disclosures about market risk.

ITEM 4. CONTROLS AND PROCEDURES

The Company has established disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) that are designed to provide reasonable assurance that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms and to provide reasonable assurance that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and benefits of controls must be considered relative to their costs. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or management override of the control. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and may not be detected.

Based on the most recent evaluation, as of September 30, 2016, management of the Company, including the Chief Executive Officer and Chief Financial Officer, believe the Company’s disclosure controls and procedures are effective at attaining the level of reasonable assurance noted above.

 

35


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

There have been no changes in the Company’s internal controls over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act) during the third quarter of 2016 that have materially affected, or are likely to materially affect, the Company’s internal controls over financial reporting.

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

The Company is named as a defendant in various legal proceedings. The ultimate dispositions of these proceedings are not presently determinable; however, it is the opinion of management that none of this litigation individually or in the aggregate will have a material adverse impact on the Company’s financial position or results of operations.

ITEMS 1A through 3. None.

ITEM 4. MINE SAFETY DISCLOSURES Not applicable.

ITEM 5. OTHER INFORMATION None.

ITEM 6. EXHIBITS

The following documents are filed, or furnished, as applicable, as part of this report on Form 10-Q:

 

Exhibit 4.01    -   

Indenture, dated as of September 29, 2016, by and between Southwest Gas Corporation and The Bank of New York Mellon Trust Company, N.A., as Trustee. Incorporated herein by reference to Exhibit 4.1 to Form 8-K dated September 26, 2016. File No. 1-07850.

Exhibit 4.02      

Amendment No. 2 to Note Purchase Agreement, dated September 30, 2016, by and among Southwest Gas Corporation and Metropolitan Life Insurance Company, John Hancock Life Insurance Company (U.S.A.), certain of their respective affiliates, and Union Fidelity Life Insurance Company.

Exhibit 12.01    -   

Computation of Ratios of Earnings to Fixed Charges.

Exhibit 31.01    -   

Section 302 Certifications.

Exhibit 32.01    -   

Section 906 Certifications.

Exhibit 101    -   

The following materials from the Company’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2016, formatted in Extensible Business Reporting Language (“XBRL”): (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Income, (iii) the Condensed Consolidated Statements of Comprehensive Income, (iv) the Condensed Consolidated Statements of Cash Flows, and (v) the Notes to the Condensed Consolidated Financial Statements.

 

36


SOUTHWEST GAS CORPORATION    Form 10-Q
September 30, 2016   

 

SIGNATURES

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

 

Southwest Gas Corporation

(Registrant)

Date: November 8, 2016

 

/s/ GREGORY J. PETERSON

Gregory J. Peterson
Vice President/Controller and Chief Accounting Officer

 

37