Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2011

OR

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                  to                 

Commission file: number 001-34028

 

 

AMERICAN WATER WORKS COMPANY, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   51-0063696

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

1025 Laurel Oak Road, Voorhees, NJ   08043
(Address of principal executive offices)   (Zip Code)

(856) 346-8200

(Registrant’s telephone number, including area code)

 

 

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.    x  Yes    ¨  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).    x  Yes    ¨  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” 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    x  No

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

 

Class

  

Outstanding at October 27, 2011

Common Stock, $0.01 par value per share   

175,516,248 shares

 

 

 


Table of Contents

TABLE OF CONTENTS

AMERICAN WATER WORKS COMPANY, INC.

REPORT ON FORM 10-Q

FOR THE QUARTER ENDED September 30, 2011

INDEX

 

PART I. FINANCIAL INFORMATION

     1   

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

     1   

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

     21   

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     35   

ITEM 4. CONTROLS AND PROCEDURES

     35   

PART II. OTHER INFORMATION

     36   

ITEM 1. LEGAL PROCEEDINGS

     36   

ITEM 1A. RISK FACTORS

     36   

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

     36   

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

     36   

ITEM 4. [REMOVED AND RESERVED]

     36   

ITEM 5. OTHER INFORMATION

     36   

ITEM 6. EXHIBITS

     37   

SIGNATURES

     38   

EXHIBITS INDEX

     39   

EXHIBIT 31.1

  

EXHIBIT 31.2

  

EXHIBIT 32.1

  

EXHIBIT 32.2

  

EXHIBIT 101

  

 

i


Table of Contents

PART I. FINANCIAL INFORMATION

 

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

American Water Works Company, Inc. and Subsidiary Companies

Consolidated Balance Sheets (Unaudited)

(In thousands, except per share data)

 

     September 30,
2011
    December 31,
2010
 
ASSETS     

Property, plant and equipment

    

Utility plant—at original cost, net of accumulated depreciation of $3,299,029 at September 30 and $3,134,094 at December 31

   $ 10,647,307      $ 10,241,342   

Nonutility property, net of accumulated depreciation of $161,955 at September 30 and $142,902 at December 31

     140,537        142,554   
  

 

 

   

 

 

 

Total property, plant and equipment

     10,787,844        10,383,896   
  

 

 

   

 

 

 

Current assets

    

Cash and cash equivalents

     15,621        13,112   

Restricted funds

     46,864        94,066   

Utility customer accounts receivable

     184,235        145,747   

Allowance for uncollectible accounts

     (17,426     (17,474

Unbilled utility revenues

     142,302        132,876   

Other receivables, net

     62,934        74,028   

Income taxes receivable

     134        6,473   

Materials and supplies

     30,491        27,743   

Assets of discontinued operations

     943,155        927,423   

Other

     71,151        46,788   
  

 

 

   

 

 

 

Total current assets

     1,479,461        1,450,782   
  

 

 

   

 

 

 

Regulatory and other long-term assets

    

Regulatory assets

     997,511        980,911   

Restricted funds

     19,729        26,718   

Goodwill

     1,195,510        1,195,585   

Other

     58,678        48,354   
  

 

 

   

 

 

 

Total regulatory and other long-term assets

     2,271,428        2,251,568   
  

 

 

   

 

 

 

TOTAL ASSETS

   $ 14,538,733      $ 14,086,246   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

1


Table of Contents

American Water Works Company, Inc. and Subsidiary Companies

Consolidated Balance Sheets (Unaudited)

(In thousands, except per share data)

 

     September 30,
2011
    December 31,
2010
 
CAPITALIZATION AND LIABILITIES     

Capitalization

    

Common stock ($.01 par value, 500,000 shares authorized, 175,508 and 174,996 shares outstanding at September 30 and December 31, respectively)

   $ 1,755      $ 1,750   

Paid-in-capital

     6,173,781        6,156,675   

Accumulated deficit

     (1,848,338     (1,959,235

Accumulated other comprehensive loss

     (68,555     (71,446

Treasury stock

     0        (19
  

 

 

   

 

 

 

Common stockholders’ equity

     4,258,643        4,127,725   

Preferred stock without mandatory redemption requirements

     4,547        4,547   
  

 

 

   

 

 

 

Total stockholders’ equity

     4,263,190        4,132,272   
  

 

 

   

 

 

 

Long-term debt

    

Long-term debt

     5,361,531        5,394,135   

Redeemable preferred stock at redemption value

     21,984        22,135   
  

 

 

   

 

 

 

Total capitalization

     9,646,705        9,548,542   
  

 

 

   

 

 

 

Current liabilities

    

Short-term debt

     408,998        228,502   

Current portion of long-term debt

     8,949        36,092   

Accounts payable

     190,556        191,973   

Taxes accrued, including income taxes of $0 at September 30 and December 31

     47,962        37,053   

Interest accrued

     103,184        60,465   

Liabilities of discontinued operations

     388,157        384,595   

Other

     232,208        182,317   
  

 

 

   

 

 

 

Total current liabilities

     1,380,014        1,120,997   
  

 

 

   

 

 

 

Regulatory and other long-term liabilities

    

Advances for construction

     394,956        397,164   

Deferred income taxes

     1,235,554        1,088,121   

Deferred investment tax credits

     29,813        30,969   

Regulatory liabilities

     309,822        296,121   

Accrued pension expense

     340,951        421,408   

Accrued postretirement benefit expense

     212,357        215,217   

Other

     36,965        42,151   
  

 

 

   

 

 

 

Total regulatory and other long-term liabilities

     2,560,418        2,491,151   
  

 

 

   

 

 

 

Contributions in aid of construction

     951,596        925,556   

Commitments and contingencies (See Note 9)

     —          —     
  

 

 

   

 

 

 

TOTAL CAPITALIZATION AND LIABILITIES

   $ 14,538,733      $ 14,086,246   
  

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

2


Table of Contents

American Water Works Company, Inc. and Subsidiary Companies

Consolidated Statements of Operations and Comprehensive Income (Unaudited)

(In thousands, except per share data)

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Operating revenues

   $ 766,450      $ 748,953      $ 2,042,520      $ 1,941,883   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

        

Operation and maintenance

     345,757        346,180        993,434        960,779   

Depreciation and amortization

     88,424        84,005        263,027        246,759   

General taxes

     52,587        52,029        161,402        155,772   

(Gain) loss on asset dispositions and purchases

     (1,635     211        (1,339     166   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses, net

     485,133        482,425        1,416,524        1,363,476   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     281,317        266,528        625,996        578,407   
  

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expenses)

        

Interest, net

     (78,602     (74,568     (233,326     (231,456

Allowance for other funds used during construction

     3,696        2,482        9,059        6,896   

Allowance for borrowed funds used during construction

     1,586        1,447        3,988        3,994   

Amortization of debt expense

     (1,251     (1,275     (3,798     (3,202

Other, net

     13        505        (462     2,564   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expenses)

     (74,558     (71,409     (224,539     (221,204
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

     206,759        195,119        401,457        357,203   

Provision for income taxes

     78,354        75,762        157,669        140,642   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

     128,405        119,357        243,788        216,561   

Income from discontinued operations, net of tax

     9,017        4,757        25,532        11,112   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 137,422      $ 124,114      $ 269,320      $ 227,673   
  

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income, net of tax:

        

Pension plan amortized to periodic benefit cost:

        

Prior service cost, net of tax of $28 and $13 for the three months ended and $84 and $38 for the nine months ended, respectively

   $ 44      $ 20      $ 131      $ 59   

Actuarial loss, net of tax of $720 and $698 for the three months ended and $2,160 and $2,094 for the nine months ended, respectively

     1,126        1,092        3,378        3,276   

Foreign currency translation adjustment

     (1,029     348        (618     256   
  

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income

     141        1,460        2,891        3,591   
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income

   $ 137,563      $ 125,574      $ 272,211      $ 231,264   
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic earnings per common share: (a)

        

Income from continuing operations

   $ 0.73      $ 0.68      $ 1.39      $ 1.24   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from discontinued operations, net of tax

   $ 0.05      $ 0.03      $ 0.15      $ 0.06   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 0.78      $ 0.71      $ 1.53      $ 1.30   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings per common share: (a)

        

Income from continuing operations

   $ 0.73      $ 0.68      $ 1.38      $ 1.24   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from discontinued operations, net of tax

   $ 0.05      $ 0.03      $ 0.14      $ 0.06   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 0.78      $ 0.71      $ 1.53      $ 1.30   
  

 

 

   

 

 

   

 

 

   

 

 

 

Average common shares outstanding during the period:

        

Basic

     175,547        174,859        175,426        174,785   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     176,593        175,062        176,422        174,919   
  

 

 

   

 

 

   

 

 

   

 

 

 

Dividends per common share

   $ 0.23      $ 0.22      $ 0.90      $ 0.64   
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(a) Amounts may not sum due to rounding.

The accompanying notes are an integral part of these consolidated financial statements.

 

3


Table of Contents

American Water Works Company, Inc. and Subsidiary Companies

Consolidated Statements of Cash Flows (Unaudited)

(In thousands, except per share data)

 

     Nine Months Ended
September 30,
 
     2011     2010  

CASH FLOWS FROM OPERATING ACTIVITIES

    

Net income

   $ 269,320      $ 227,673   

Adjustments

    

Depreciation and amortization

     263,027        246,759   

Provision for deferred income taxes

     144,654        146,084   

Amortization of deferred investment tax credits

     (1,156     (1,170

Provision for losses on utility accounts receivable

     13,336        15,872   

Allowance for other funds used during construction

     (9,059     (6,896

(Gain) loss on asset dispositions and purchases

     (1,339     166   

Pension and non-pension post retirement benefits

     53,579        67,007   

Other, net

     7,301        31,087   

Changes in assets and liabilities

    

Receivables and unbilled utility revenues

     (55,647     (93,258

Income taxes receivable

     (134     11,526   

Other current assets

     (32,689     (2,559

Pension and non-pension post retirement benefit contributions

     (134,821     (110,739

Accounts payable

     (14,385     (6,548

Taxes accrued, including income taxes

     17,289        5,716   

Interest accrued

     42,626        42,991   

Other current liabilities

     14,142        13,316   
  

 

 

   

 

 

 

Net cash provided by operating activities

     576,044        587,027   
  

 

 

   

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES

    

Capital expenditures

     (621,940     (522,090

Acquisitions

     (6,381     (1,670

Proceeds from sale of assets and securities

     7,044        150   

Removal costs from property, plant and equipment retirements, net

     (38,915     (28,270

Net restricted funds released

     54,191        45,928   
  

 

 

   

 

 

 

Net cash used in investing activities

     (606,001     (505,952
  

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES

    

Proceeds from long-term debt

     12,350        162,541   

Repayment of long-term debt

     (68,689     (196,449

Net borrowings under short-term debt agreements

     211,543        78,998   

Proceeds from employee stock plan issuances and DRIP

     10,363        3,823   

Advances and contributions for construction, net of refunds of $15,142 and $28,775 at September 30, 2011 and 2010, respectively

     15,767        4,975   

Change in bank overdraft position

     (31,111     (16,654

Debt issuance costs

     (552     (5,089

Redemption of preferred stock

     (140     (150

Dividends paid

     (117,463     (111,825

Other financing activities

     398        0   
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     32,466        (79,830
  

 

 

   

 

 

 

Net increase in cash and cash equivalents

     2,509        1,245   

Cash and cash equivalents at beginning of period

     13,112        22,256   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 15,621      $ 23,501   
  

 

 

   

 

 

 

Non-cash investing activity:

    

Capital expenditures acquired on account but unpaid at quarter-end

   $ 107,477      $ 96,383   

Non-cash financing activity:

    

Long-term debt

   $ 0      $ 111,000   

Dividends accrued

   $ 40,367      $ 0   

Advances and contributions

   $ 16,356      $ 21,474   

The accompanying notes are an integral part of these consolidated financial statements.

 

4


Table of Contents

American Water Works Company, Inc. and Subsidiary Companies

Consolidated Statement of Changes in Stockholders’ Equity (Unaudited)

(In thousands, except per share data)

 

    Common Stock                 Accumulated
Other
    Treasury Stock    

Preferred

Stock

of

Subsidiary

Companies

Without

Mandatory

    Total
 
    Shares     Par
Value
    Paid-in
Capital
    Accumulated
Deficit
    Comprehensive
Loss
    Shares     At Cost     Redemption
Requirements
    Stockholders’
Equity
 

Balance at December 31, 2010

    174,996      $ 1,750      $ 6,156,675      $ (1,959,235   $ (71,446     (1   $ (19   $ 4,547      $ 4,132,272   

Net income

    —          —          —          269,320        —          —          —          —          269,320   

Direct stock reinvestment and purchase plan (DRIP), net of expense of $14

    52        1        1,451        —          —          —          —          —          1,452   

Employee stock purchase plan (ESPP)

    91        1        2,604        —          —          —          —          —          2,605   

Stock-based compensation activity

    369        3        13,051        (593     —          1        19        —          12,480   

Other comprehensive income, net of tax of $2,244

    —          —          —          —          2,891        —          —          —          2,891   

Dividends

    —          —          —          (157,830     —          —          —          —          (157,830
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 30, 2011

    175,508      $ 1,755      $ 6,173,781      $ (1,848,338   $ (68,555     0      $ 0      $ 4,547      $ 4,263,190   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
    Common Stock                 Accumulated
Other
    Treasury Stock    

Preferred

Stock

of

Subsidiary

Companies

Without

Mandatory

    Total
 
    Shares     Par
Value
    Paid-in
Capital
    Accumulated
Deficit
    Comprehensive
Loss
    Shares     At Cost     Redemption
Requirements
    Stockholders’
Equity
 

Balance at December 31, 2009

    174,630      $ 1,746      $ 6,140,077      $ (2,076,287   $ (64,677     0      $ 0      $ 4,557      $ 4,005,416   

Net income

    —          —          —          227,673        —          —          —          —          227,673   

Direct stock reinvestment and purchase plan (DRIP), net of expense of $69

    40        0        799        —          —          —          —          —          799   

Employee stock purchase plan (ESPP)

    85        1        1,390        —          —          7        127        —          1,518   

Stock-based compensation activity

    105        2        9,083        (367     —          (7     (127     —          8,591   

Subsidiary preferred stock redemption

                  (10     (10

Other comprehensive income, net of tax of $2,132

    —          —          —          —          3,591        —          —          —          3,591   

Dividends

    —          —          —          (111,825     —          —          —          —          (111,825
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 30, 2010

    174,860      $ 1,749      $ 6,151,349      $ (1,960,806   $ (61,086     0      $ 0      $ 4,547      $ 4,135,753   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

5


Table of Contents

American Water Works Company, Inc. and Subsidiary Companies

Notes to Consolidated Financial Statements (Unaudited)

(In thousands, except per share data)

Note 1: Basis of Presentation

The accompanying Consolidated Balance Sheet of American Water Works Company, Inc. and Subsidiary Companies (the “Company”) at September 30, 2011, the Consolidated Statements of Operations and Comprehensive Income for the three and nine months ended September 30, 2011 and 2010, the Consolidated Statements of Cash Flows for the nine months ended September 30, 2011 and 2010, and the Consolidated Statement of Changes in Stockholders’ Equity for the nine months ended September 30, 2011 and 2010, are unaudited, but reflect all adjustments, which are, in the opinion of management, necessary to present fairly the consolidated financial position, the consolidated changes in stockholders’ equity, the consolidated results of operations and comprehensive income, and the consolidated cash flows for the periods presented. All adjustments are of a normal, recurring nature, except as otherwise disclosed. Because they cover interim periods, the unaudited consolidated financial statements and related notes to the consolidated financial statements do not include all disclosures and notes normally provided in annual financial statements and, therefore, should be read in conjunction with the Company’s Consolidated Financial Statements and related Notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010. The results of operations for interim periods are not necessarily indicative of the results that may be expected for the year, due primarily to the seasonality of the Company’s operations.

Certain reclassifications for discontinued operations (see Note 13) and to present amortization associated with removal costs as depreciation and amortization have been made to conform previously reported data to the current presentation.

Note 2: New Accounting Pronouncements

The following recently announced accounting standards have been adopted by the Company and have been included in the consolidated results of operations, financial position or footnotes of the accompanying Consolidated Financial Statements:

Revenue arrangements with Multiple Deliverables

In October 2009, the Financial Accounting Standards Board (“FASB”) issued authoritative guidance that amends existing guidance for identifying separate deliverables in a revenue-generating transaction where multiple deliverables exist, and provides guidance for allocating and recognizing revenue based on those separate deliverables. The guidance is expected to result in more multiple-deliverable arrangements being separable than under current guidance. This guidance is effective for the Company beginning on January 1, 2011 and is required to be applied prospectively to new or significantly modified revenue arrangements. The adoption of this guidance did not have a significant impact on the Company’s results of operations, financial position or cash flows.

Business Combinations

In December 2010, the FASB clarified the requirements for reporting of pro forma revenue and earnings disclosures for business combinations. The accounting update specifies that if a public entity presents comparative financial statements, the entity should disclose revenue and earnings of the combined entity as though the business combination(s) that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. The amendments also expand the supplemental pro forma disclosures to include a description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. The amendments are effective for the Company for business combinations finalized after January 1, 2011. As this guidance clarifies and provides for additional disclosure requirements only, the adoption of this guidance has not had an impact on the Company’s results of operations, financial position or cash flows.

Intangibles – Goodwill

In December 2010, the FASB issued authoritative guidance that modifies step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. The update requires that for those reporting units, an entity is required to perform step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that impairment may exist. Existing authoritative guidance requires that goodwill of a reporting unit be tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. This guidance is effective for the Company beginning on January 1, 2011. The adoption of this update did not have a significant impact on the Company’s results of operations, financial position or cash flows.

 

6


Table of Contents

The following recently issued accounting standards are not yet required to be adopted by the Company or included in the consolidated results of operations or financial position of the Company:

Fair Value Measurements

In May 2011, the FASB issued updated accounting guidance related to fair value measurements and disclosures that result in common fair value measurements and disclosures between U.S. GAAP and International Financial Reporting Standards. This new guidance amends current fair value measurement and disclosure guidance to increase transparency around valuation inputs and investment categorization. This guidance is effective for interim and annual periods beginning after December 15, 2011. The new guidance is to be adopted prospectively and early adoption is not permitted. The Company does not expect the adoption of this guidance to have a significant impact on the Company’s results of operations, financial position or cash flows.

Comprehensive Income

In June 2011, the FASB issued new guidance on the presentation of comprehensive income. The new guidance allows an entity to present components of net income and other comprehensive income in one continuous statement, referred to as the statement of comprehensive income, or in two separate, but consecutive statements. The new guidance eliminates the current option to report other comprehensive income and its components in the statement of changes in equity. While the new guidance changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or other comprehensive income under current accounting guidance. On October 21, 2011, the FASB tentatively decided to propose delaying the effective date of the presentation requirements for reclassification adjustments in the new guidance. This new guidance on the presentation of comprehensive income is effective for fiscal years and interim periods beginning after December 15, 2011. As the Company already presents the components of net income and other comprehensive income in one continuous statement, the adoption of the new guidance will not have an impact on its results of operations, financial position or cash flows.

Testing Goodwill for Impairment

In September 2011, the FASB updated the accounting guidance related to testing goodwill for impairment. This update permits an entity to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test that is currently in place. Under the new guidance, an entity will not be required to calculate the fair value of a reporting unit unless the entity determines, based on the qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount. This update is effective for annual and interim goodwill impairment tests performed in fiscal years beginning after December 15, 2011; however, early adoption is permitted. The Company is evaluating the specific provisions of the updated guidance, but does not expect the adoption of this guidance to have a significant impact on the Company’s results of operations, financial position or cash flows.

Note 3: Goodwill

At December 31, 2010, the Company’s goodwill totaled $1,250,692. During the first quarter of 2011, with the pending sale of the Company’s regulated businesses in Arizona, New Mexico and Texas, the Company allocated $46,465 of goodwill to discontinued operations, and reclassified all prior periods for that effect. In the second quarter of 2011, the Company classified its Ohio subsidiary as held for sale and allocated an additional $8,642 of goodwill to discontinued operations. At September 30, 2011, the Company’s goodwill of continuing operations totaled $1,195,510.

The Company’s annual goodwill impairment test is conducted at November 30 of each calendar year and interim reviews are performed when the Company determines that a triggering event that would more likely than not reduce the fair value of a reporting unit below its carrying value has occurred. With the pending sales in Arizona, New Mexico, Texas and Ohio, the Company assessed fair value, including allocated goodwill, and recorded an impairment of $561 for allocated Texas goodwill in the first quarter of 2011; this impairment charge is included in the operating results of discontinued operations. (see Note 13)

The following table summarizes the nine-month changes in the Company’s goodwill of continuing operations by reporting unit:

 

     Regulated Unit     Market-Based Unit     Consolidated  
     Cost     Accumulated
Impairment
    Cost      Accumulated
Impairment
    Cost     Accumulated
Impairment
    Total Net  

Balance at January 1, 2011

   $ 3,399,884      $ (2,332,670   $ 235,990       $ (107,619   $ 3,635,874      $ (2,440,289   $ 1,195,585   

Reclassifications and other activity

     (75     0        0         0        (75     0        (75
  

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 30, 2011

   $ 3,399,809      $ (2,332,670   $ 235,990       $ (107,619   $ 3,635,799      $ (2,440,289   $ 1,195,510   
  

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Balance at January 1, 2010

   $ 3,399,848      $ (2,332,670   $ 235,715       $ (107,619   $ 3,635,563      $ (2,440,289   $ 1,195,274   

Reclassifications and other activity

     36        0        275         0        311        0        311   
  

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

Balance at September 30, 2010

   $ 3,399,884      $ (2,332,670   $ 235,990       $ (107,619   $ 3,635,874      $ (2,440,289   $ 1,195,585   
  

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

 

 

7


Table of Contents

The Company may be required to recognize an impairment of goodwill in the future due to market conditions or other factors related to the Company’s performance. These market events could include a decline over a period of time of the Company’s stock price, a decline over a period of time in valuation multiples of comparable water utilities, the lack of an increase in the Company’s market price consistent with its peer companies, or decreases in control premiums. A decline in the forecasted results in the Company’s business plan, such as changes in rate case results or capital investment budgets or changes in the Company’s interest rates, could also result in an impairment charge. Recognition of impairments of a significant portion of goodwill would negatively affect the Company’s reported results of operations and total capitalization, the effect of which could be material and could make it more difficult to maintain its credit ratings, secure financing on attractive terms, maintain compliance with debt covenants and meet expectations of the Company’s regulators.

Note 4: Stockholders’ Equity

Common Stock

In March 2010, the Company established American Water Stock Direct, a dividend reinvestment and direct stock purchase plan (the “DRIP”). Under the DRIP, stockholders may reinvest cash dividends and purchase additional Company common stock, up to certain limits, through a transfer agent without commission fees. The Company’s transfer agent may buy newly issued shares directly from the Company or shares held in the Company’s treasury. The transfer agent may also buy shares in the public markets or in privately negotiated transactions. Purchases generally will be made and credited to DRIP accounts once each week. As of September 30, 2011, there were 4,885 shares available for future issuance under the DRIP. The following table summarizes information regarding issuances under the DRIP for the nine months ended September 30, 2011 and 2010:

 

     2011      2010  

Shares of common stock issued

     52         40   

Cash proceeds received

   $ 1,466       $ 868   

Cash dividend payments made during the three-month periods ending March 31, June 30 and September 30 were as follows:

 

     Three Months Ended
September 30,
     Three Months Ended
June 30,
     Three Months Ended
March 31,
 
     2011      2010      2011      2010      2011      2010  

Dividends per share

   $ 0.23       $ 0.22       $ 0.22       $ 0.21       $ 0.22       $ 0.21   

Total dividends paid

   $ 40,358       $ 38,457       $ 38,580       $ 36,689       $ 38,525       $ 36,679   

On September 23, 2011 the Company declared a quarterly cash dividend payment of $0.23 per share payable on December 1, 2011 to all shareholders of record as of November 18, 2011. As of September 30, 2011, the Company had accrued dividends totaling $40,367 included in other current liabilities on the accompanying Consolidated Balance Sheets.

Stock Based Compensation

The Company has granted stock option and restricted stock unit awards to non-employee directors, officers and other key employees of the Company pursuant to the terms of its 2007 Omnibus Equity Compensation Plan (the “Plan”). As of September 30, 2011, a total of 10,906 shares are available for grant under the Plan. Shares issued under the Plan may be authorized but unissued shares of Company stock or reacquired shares of Company stock, including shares purchased by the Company on the open market for purposes of the Plan.

The Company recognizes compensation expense for stock awards over the vesting period of the award. The following table presents stock-based compensation expense recorded in operation and maintenance expense in the accompanying Consolidated Statements of Operations and Comprehensive Income for the three and nine months ended September 30, 2011 and 2010:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Stock options

   $ 810       $ 1,323       $ 2,438       $ 3,177   

Restricted stock units

     1,275         1,551         4,179         4,437   

Employee stock purchase plan

     135         94         343         265   
  

 

 

    

 

 

    

 

 

    

 

 

 

Stock-based compensation in operation and maintenance expense

     2,220         2,968         6,960         7,879   

 

8


Table of Contents
     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Income tax benefit

     (865     (1,157     (2,714     (3,073
  

 

 

   

 

 

   

 

 

   

 

 

 

After-tax stock-based compensation expense

   $ 1,355      $ 1,811      $ 4,246      $ 4,806   
  

 

 

   

 

 

   

 

 

   

 

 

 

There were no significant stock-based compensation costs capitalized during the nine months ended September 30, 2011 and 2010, respectively.

 

9


Table of Contents

Stock Options

In the first quarter of 2011, the Company granted non-qualified stock options to certain employees under the Plan. The stock options vest ratably over the three-year service period beginning January 1, 2011. These awards have no performance vesting conditions and the grant date fair value is amortized through expense over the requisite service period using the straight-line method. The following table presents the weighted average assumptions used in the pricing model for 2011 grants and the resulting weighted average grant date fair value per share of stock options granted:

 

Dividend yield

     3.25

Expected volatility

     29.32

Risk-free interest rate

     1.93

Expected life (years)

     4.35   

Exercise price

   $ 27.08   

Grant date fair value per share

   $ 5.14   

Stock options granted under the Plan have maximum terms of seven years, vest over periods ranging from one to three years, and are granted with exercise prices equal to the market value of the Company’s common stock on the date of grant. As of September 30, 2011, $4,223 of total unrecognized compensation cost related to the non-vested stock options is expected to be recognized over the weighted-average period of 1.6 years.

The following table summarizes stock option activity for the nine months ended September 30, 2011:

 

     Shares     Weighted
Average
Exercise Price
(per share)
     Weighted
Average
Remaining
Life (years)
     Aggregate
Intrinsic
Value
 

Options outstanding at January 1, 2011

     2,870      $ 21.38         

Granted

     736        27.08         

Forfeited or expired

     (38     22.52         

Exercised

     (312     21.27         
  

 

 

         

Options outstanding at September 30, 2011

     3,256      $ 22.67         4.57       $ 24,450   
  

 

 

   

 

 

    

 

 

    

 

 

 

Exercisable at September 30, 2011

     1,796      $ 21.34         3.73       $ 15,887   
  

 

 

   

 

 

    

 

 

    

 

 

 

The following table summarizes additional information regarding stock options exercised during the nine months ended September 30, 2011 and 2010:

 

     2011      2010  

Intrinsic value

   $ 1,944       $ 52   

Exercise proceeds

   $ 6,645       $ 1,230   

Restricted Stock Units

In the first quarter of 2011, the Company granted restricted stock units to certain employees under the Plan. The restricted stock units vest ratably over the three-year performance period beginning January 1, 2011 (the “Performance Period”); however, distribution of the shares is contingent upon the achievement of internal performance measures and, separately, certain market thresholds over the Performance Period. The restricted stock units granted with performance and service conditions are valued at the market value of the Company’s common stock on the date of grant. The restricted stock units granted with market and service conditions are valued using a Monte Carlo model. Weighted average assumptions used in the Monte Carlo simulation are as follows for the 2011 grants:

 

Expected volatility

     29.50

Risk-free interest rate

     1.24

Expected life (years)

     3   

On May 6, 2011, the Company granted 16 restricted stock units to certain non-employee directors under the Plan. The restricted stock units vested on the date of grant; however, distribution of the shares will be made within 30 days of the earlier of August 12, 2012 or the participant’s separation from service. Because these restricted stock units vested on grant date, the total grant date fair value of $29.28 per share was recorded in operation and maintenance expense included in the expense table above in the second quarter of 2011.

 

10


Table of Contents

The grant date fair value of the restricted stock awards that have (a) market or performance conditions, (b) service conditions and (c) vest ratably is amortized through expense over the requisite service period using the graded-vesting method. As of September 30, 2011, $3,880 of total unrecognized compensation cost related to the non-vested restricted stock units is expected to be recognized over the weighted-average remaining life of 1.0 years.

The following table summarizes restricted stock unit activity for the nine months ended September 30, 2011:

 

     Shares     Weighted Average
Grant Date
Fair Value
(per share)
 

Nonvested total at January 1, 2011

     479      $ 22.60   

Granted

     205        29.95   

Distributed

     (81     21.36   

Forfeited

     (9     24.13   

Undistributed vested awards

     (8     24.17   
  

 

 

   

Nonvested total at September 30, 2011

     586      $ 25.11   
  

 

 

   

The following table summarizes additional information regarding restricted stock units distributed during the nine months ended September 30, 2011 and 2010:

 

     2011      2010  

Intrinsic value

   $ 1,980       $ 1,179   

Income tax benefit

   $ 99       $ 14   

If dividends are declared with respect to shares of the Company’s common stock before the restricted stock units are distributed, the Company credits a liability for the value of the dividends that would have been paid if the restricted stock units were shares of Company common stock. When the restricted stock units are distributed, the Company pays the employee a lump sum cash payment equal to the value of the dividend equivalents accrued. The Company accrued dividend equivalents totaling $593 and $367 to retained earnings during the nine months ended September 30, 2011 and 2010, respectively.

Employee Stock Purchase Plan

Under the Nonqualified Employee Stock Purchase Plan (the “ESPP”), employees can use payroll deductions to acquire Company stock at the lesser of 90% of the fair market value of (a) the beginning or (b) the end of each three-month purchase period. As of September 30, 2011 there were 1,622 shares of common stock reserved for issuance under the ESPP. During the nine months ended September 30, 2011, the Company issued 91 shares under the ESPP.

 

11


Table of Contents

Note 5: Long-Term Debt

The Company primarily issues long-term debt to fund capital expenditures of the regulated subsidiaries. The components of long-term debt are as follows:

 

     Rate     Weighted
Average Rate
    Maturity
Date
     September 30,
2011
     December 31,
2010
 

Long-term debt of American Water Capital Corp. (“AWCC”) (a)

            

Private activity bonds and government funded debt

            

Fixed rate

     4.85%-6.75     5.72     2018-2040       $ 322,610       $ 322,610   

Senior notes

            

Fixed rate

     5.39%-10.00     6.25     2013-2040         3,089,409         3,117,696   

Long-term debt of other subsidiaries

            

Private activity bonds and government funded debt

            

Fixed rate

     0.00%-6.20     5.07     2011-2039         1,207,265         1,201,723   

Mortgage bonds

            

Fixed rate

     5.48%-9.71     7.40     2011-2039         697,849         730,991   

Mandatory redeemable preferred stock

     4.60%-9.75     8.43     2013-2036         22,707         22,844   

Notes payable and other (b)

     9.49%-13.96     11.93     2013-2026         1,841         5,689   
         

 

 

    

 

 

 

Long-term debt

            5,341,681         5,401,553   

Unamortized debt discount, net (c)

            44,898         51,154   

Fair value adjustment to interest rate hedge

            5,885         (345
         

 

 

    

 

 

 

Total long-term debt

          $ 5,392,464       $ 5,452,362   
         

 

 

    

 

 

 

 

(a) A wholly-owned subsidiary of the Company.
(b) Includes capital lease obligations of $1,319 and $5,076 at September 30, 2011 and December 31, 2010, respectively.
(c) Includes fair value adjustments previously recognized in acquisition purchase accounting.

The following long-term debt was issued in 2011:

 

Company

  

Type

   Interest Rate     Maturity      Amount  

Other subsidiaries

   Private activity bonds and government funded debt – fixed rate      0.00%-1.56     2031       $ 12,350   
          

 

 

 

Total issuances

           $ 12,350   
          

 

 

 

The following long-term debt was retired through optional redemption, sinking fund provisions or payment at maturity during 2011:

 

Company

  

Type

   Interest Rate     Maturity      Amount  

American Water Capital Corp.

   Senior notes – fixed rate      6.00%-8.25     2011-2039       $ 28,287   

Other subsidiaries

   Mortgage bonds – fixed rate      8.21%-9.71     2011-2022         33,142   

Other subsidiaries

   Private activity bonds and government funded debt      0.00%-5.90     2011-2034         6,876   

Other subsidiaries

   Mandatory redeemable preferred stock      4.60%-6.00     2013-2019         140   

Other

   Capital leases and other           3,871   
          

 

 

 

Total retirements and redemptions

           $ 72,316   
          

 

 

 

Included in the capital lease redemptions above is a non-cash redemption of $3,487 associated with a cancelled sublease and a capital lease arrangement.

 

12


Table of Contents

Interest income included in interest, net is summarized below:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Interest income

   $ 2,601       $ 2,531       $ 7,940       $ 7,448   

In July 2010, the Company entered into an interest-rate swap to hedge $100,000 of its 6.085% fixed-rate debt maturing 2017. The Company will pay variable interest of six-month LIBOR plus 3.422%. This fixed rate and pay variable rate interest swap is accounted for as a fair value hedge. The swap matures with the fixed-rate debt in 2017. The Company uses a combination of fixed-rate and variable-rate debt to manage interest rate exposure.

At September 30, 2011 and December 31, 2010, the Company had a $100,000 notional amount variable interest-rate swap fair value hedge outstanding. The following table provides a summary of the derivative fair value balance recorded by the Company and the line item in the Consolidated Balance Sheets in which such amount is recorded:

 

     September 30,
2011
     December 31,
2010
 

Balance sheet classification:

     

Regulatory and other long-term assets

     

Other

   $ 5,612       $ 0   

Regulatory and other long-term liabilities

     

Other

   $ 0       $ 898   

Long-term debt

     

Long-term debt

   $ 5,885       $ (345

For derivative instruments that are designated and qualify as fair value hedges, the gain or loss on the hedge instrument as well as the offsetting loss or gain on the hedged item attributable to the hedged risk are recognized in current net income. The Company includes the gain or loss on the derivative instrument and the offsetting loss or gain on the hedged item in interest expense as follows:

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Interest, net:

        

Gain (loss) on swap

   $ 4,896      $ 3,228      $ 6,510      $ 3,228   

Gain (loss) on borrowing

   $ (4,797   $ (3,535   $ (6,230   $ (3,535

Hedge ineffectiveness

   $ 99      $ (307   $ 280      $ (307

Note 6: Short-Term Debt

The components of short-term debt are as follows:

 

     September 30,
2011
     December 31,
2010
 

Revolving credit lines

   $ 0       $ 2,734   

Commercial paper, net of $33 and $10 discount at September 30 and December 31, respectively

     389,567         175,290   

Bank overdraft

     19,431         50,478   
  

 

 

    

 

 

 

Total short-term debt

   $ 408,998       $ 228,502   
  

 

 

    

 

 

 

Note 7: Income Taxes

The Company’s estimated annual effective tax rate for the nine months ended September 30, 2011 was 40.2% compared to 39.7% for the nine months ended September 30, 2010, excluding various discrete items. The Company’s actual effective tax rates on continuing operations were as follows:

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Actual effective tax rate on continuing operations

     37.9     38.8     39.3     39.4

 

13


Table of Contents

The actual effective tax rates in all periods presented were less than the estimated annual rates due to various discrete items.

Note 8: Pension and Other Postretirement Benefits

The following table provides the components of net periodic benefit costs:

 

     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Components of net periodic pension benefit cost:

        

Service cost

   $ 8,410      $ 7,669      $ 25,231      $ 23,006   

Interest cost

     17,262        16,901        51,785        50,702   

Expected return on plan assets

     (18,027     (14,189     (54,081     (42,564

Amortization of:

        

Prior service cost

     180        81        541        242   

Actuarial loss

     4,638        4,476        13,913        13,427   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic pension benefit cost

   $ 12,463      $ 14,938      $ 37,389      $ 44,813   
  

 

 

   

 

 

   

 

 

   

 

 

 
     Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2011     2010     2011     2010  

Components of net periodic other postretirement benefit cost:

        

Service cost

   $ 3,484      $ 3,665      $ 10,453      $ 10,997   

Interest cost

     7,805        8,037        23,414        24,112   

Expected return on plan assets

     (7,195     (6,093     (21,584     (18,279

Amortization of:

        

Transition obligation

     0        43        0        130   

Prior service credit

     (481     (295     (1,443     (885

Actuarial loss

     1,783        2,040        5,350        6,119   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic other postretirement benefit cost

   $ 5,396      $ 7,397      $ 16,190      $ 22,194   
  

 

 

   

 

 

   

 

 

   

 

 

 

The Company contributed $114,412 to its defined benefit pension plan in the first nine months of 2011. In October, the Company contributed $23,199. In addition, the Company contributed $20,409 for the funding of its other postretirement plans in the first nine months of 2011 and expects to contribute $6,803 during the balance of 2011.

Note 9: Commitments and Contingencies

The Company is also routinely involved in legal actions incident to the normal conduct of its business. At September 30, 2011, the Company has accrued approximately $1,300 as probable costs and it is reasonably possible that additional losses could range up to $12,200 for these matters. For certain matters, the Company is unable to estimate possible losses. The Company believes that damages or settlements, if any, recovered by plaintiffs in such claims or actions will not have a material adverse effect on the Company’s results of operations, financial position or cash flows.

The Company enters into agreements for the provision of services to water and wastewater facilities for the United States military, municipalities and other customers. The Company’s military services agreements expire between 2051 and 2060 and have remaining performance commitments as measured by estimated remaining contract revenue of $2,052,000 at September 30, 2011. The military contracts are subject to customary termination provisions held by the U.S. Federal Government prior to the agreed upon contract expiration. The Company’s Operations and Maintenance agreements with municipalities and other customers expire between 2011 and 2048 and have remaining performance commitments as measured by estimated remaining contract revenue of $1,129,000 at September 30, 2011. Some of the Company’s long-term contracts to operate and maintain a municipality’s, federal government’s or other party’s water or wastewater treatment and delivery facilities include responsibility for certain maintenance for some of those facilities, in exchange for an annual fee. Unless specifically required to perform certain maintenance activities, the maintenance costs are recognized when the maintenance is performed.

Note 10: Environmental Matters

The Company’s water and wastewater operations are subject to federal, state, local and foreign requirements relating to environmental protection, and as such, the Company periodically becomes subject to environmental claims in the normal course of business. Environmental expenditures that relate to current operations or provide a future benefit are expensed or capitalized as

 

14


Table of Contents

appropriate. Remediation costs that relate to an existing condition caused by past operations are accrued, on an undiscounted basis, when it is probable that these costs will be incurred and can be reasonably estimated. Remediation costs accrued amounted to $5,500 and $6,630 at September 30, 2011 and December 31, 2010, respectively. At September 30, 2011, the balance of the accrual relates to a conservation agreement entered into by a subsidiary of the Company with the National Oceanic and Atmospheric Administration (“NOAA”) requiring the Company to, among other provisions, implement certain measures to protect the steelhead trout and its habitat in the Carmel River watershed in the state of California. The Company has agreed to pay $1,100 annually from 2010 through 2016, or until the regional desalination project comes on line, whichever is earlier. The Company pursues recovery of incurred costs through all appropriate means, including regulatory recovery through customer rates. The Company’s regulatory assets at September 30, 2011 and December 31, 2010 include $9,540 and $10,642, respectively, related to the NOAA agreement.

Note 11: Earnings per Common Share

Earnings per share is calculated using the two-class method. The two-class method is an earnings allocation formula that determines earnings per share for each class of common stock and participating security. The Company has participating securities related to restricted stock units, granted under the Company’s 2007 Omnibus Equity Compensation Plan, that earn dividend equivalents on an equal basis with common shares. In applying the two-class method, undistributed earnings are allocated to both common shares and participating securities. The following is a reconciliation of the Company’s income from continuing operations, income from discontinued operations, and net income and weighted average common shares outstanding for calculating basic net earnings per share:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Basic:

           

Income from continuing operations

   $ 128,405       $ 119,357       $ 243,788       $ 216,561   

Income from discontinued operations, net of tax

     9,017         4,757         25,532         11,112   

Net income

     137,422         124,114         269,320         227,673   

Less: Distributed earnings to common shareholders

     40,541         38,580         118,002         112,155   

Less: Distributed earnings to participating securities

     17         13         52         36   
  

 

 

    

 

 

    

 

 

    

 

 

 

Undistributed earnings

     96,864         85,521         151,266         115,482   

Undistributed earnings allocated to common shareholders

     96,820         85,491         151,199         115,444   

Undistributed earnings allocated to participating securities

     44         30         67         38   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income from continuing operations available to common shareholders, basic

   $ 128,344       $ 119,314       $ 243,669       $ 216,487   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income available to common shareholders, basic

   $ 137,361       $ 124,071       $ 269,201       $ 227,599   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding, basic

     175,547         174,859         175,426         174,785   
  

 

 

    

 

 

    

 

 

    

 

 

 

Basic earnings per share: (a)

           

Income from continuing operations

   $ 0.73       $ 0.68       $ 1.39       $ 1.24   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, net of tax

   $ 0.05       $ 0.03       $ 0.15       $ 0.06   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net income

   $ 0.78       $ 0.71       $ 1.53       $ 1.30   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) Amounts may not sum due to rounding.

 

15


Table of Contents

Diluted earnings per common share is based on the weighted average number of common shares outstanding adjusted for the dilutive effect of common stock equivalents related to the restricted stock units, stock options, and employee stock purchase plan. The dilutive effect of the common stock equivalents is calculated using the treasury stock method and expected proceeds on vesting of the restricted stock units, exercise of the stock options and purchases under the employee stock purchase plan. The following is a reconciliation of the Company’s income from continuing operations, income from discontinued operations and net income and weighted average common shares outstanding for calculating diluted earnings per share:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Diluted:

           

Total income from continuing operations available to common shareholders, basic

   $ 128,344       $ 119,314       $ 243,669       $ 216,487   

Income from discontinued operations, net of tax

     9,017         4,757         25,532         11,112   

Total income available to common shareholders, basic

     137,361         124,071         269,201         227,599   

Undistributed earnings allocated to participating securities

     44         30         67         38   

Total income from continuing operations available to common shareholders, diluted

   $ 126,388       $ 119,344       $ 243,736       $ 216,525   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income available to common shareholders, diluted

   $ 137,405       $ 124,101       $ 269,268       $ 227,637   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding, basic

     175,547         174,859         175,426         174,785   

Stock-based compensation:

           

Restricted stock units

     561         183         524         128   

Stock options

     484         18         471         5   

Employee stock purchase plan

     1         2         1         1   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding, diluted

     176,593         175,062         176,422         174,919   
  

 

 

    

 

 

    

 

 

    

 

 

 

Diluted earnings per share: (a)

           

Income from continuing operations

   $ 0.73       $ 0.68       $ 1.38       $ 1.24   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, net of tax

   $ 0.05       $ 0.03       $ 0.14       $ 0.06   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net income

   $ 0.78       $ 0.71       $ 1.53       $ 1.30   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) Amounts may not sum due to rounding.

The following potentially dilutive common stock equivalents were not included in the earnings per share calculations because they were anti-dilutive:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Stock options

     728         1,873         728         1,873   

Restricted stock units where certain performance conditions were not met

     74         144         74         147   

Note 12: Fair Value of Assets and Liabilities

Fair Value of Financial Instruments

The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments.

Current assets and current liabilities: The carrying amounts reported in the accompanying Consolidated Balance Sheets for current assets and current liabilities, including revolving credit debt due to the short-term maturities and variable interest rates, approximate their fair values.

Preferred stock with mandatory redemption requirements and long-term debt: The fair values of preferred stock with mandatory redemption requirements and long-term debt are determined by a valuation model which is based on a conventional discounted cash flow methodology and utilizes assumptions of current market rates. As a majority of the Company’s debts do not trade in active markets, the Company calculated a base yield curve using a risk-free rate (a U.S. Treasury securities yield curve) plus a credit spread that is based on the following two factors: an average of the Company’s own publicly-traded debt securities and the current market rates for U.S. Utility BBB+ debt securities. The Company used these yield curve assumptions to derive a base yield and then adjusted the base yield for specific features of the debt securities including call features, coupon tax treatment and collateral.

 

16


Table of Contents

The carrying amounts (including fair value adjustments previously recognized in acquisition purchase accounting) and fair values of the financial instruments are as follows:

 

As of September 30, 2011

   Carrying
Amount
     Fair Value  

Preferred stocks with mandatory redemption requirements

   $ 22,643       $ 27,630   

Long-term debt (excluding capital lease obligations)

     5,368,502         6,305,810   

As of December 31, 2010

   Carrying
Amount
     Fair Value  

Preferred stocks with mandatory redemption requirements

   $ 22,794       $ 25,475   

Long-term debt (excluding capital lease obligations)

     5,424,492         5,841,448   

Recurring Fair Value Measurements

The following table presents assets and liabilities measured and recorded at fair value on a recurring basis and their level within the fair value hierarchy as of September 30, 2011 and December 31, 2010, respectively:

 

     At Fair Value as of September 30, 2011  

Recurring Fair Value Measures

   Level 1      Level 2     Level 3      Total  

Assets:

          

Restricted funds

   $ 66,593         —          —         $ 66,593   

Rabbi trust investments

     —         $ 779        —           779   

Deposits

     1,646         —          —           1,646   

Mark-to-market derivative asset

     —           5,612        —           5,612   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total assets

   $ 68,239       $ 6,391        —         $ 74,630   
  

 

 

    

 

 

   

 

 

    

 

 

 

Liabilities:

          

Deferred compensation obligation

     —         $ 8,868        —         $ 8,868   

Mark-to-market derivative liability

     —           0        —           0   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total liabilities

     —           8,868        —           8,868   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total net assets (liabilities)

   $ 68,239       $ (2,477     —         $ 65,762   
  

 

 

    

 

 

   

 

 

    

 

 

 
     At Fair Value as of December 31, 2010  

Recurring Fair Value Measures

   Level 1      Level 2     Level 3      Total  

Assets:

          

Restricted funds

   $ 120,784         —          —         $ 120,784   

Rabbi trust investments

     —         $ 1,552        —           1,552   

Deposits

     1,381         —          —           1,381   

Mark-to-market derivative asset

     —           0        —           0   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total assets

   $ 122,165       $ 1,552        —         $ 123,717   
  

 

 

    

 

 

   

 

 

    

 

 

 

Liabilities:

          

Deferred compensation obligation

     —         $ 9,180        —         $ 9,180   

Mark-to-market derivative liability

     —           898        —           898   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total liabilities

     —         $ 10,078        —         $ 10,078   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total net assets (liabilities)

   $ 122,165       $ (8,526     —         $ 113,639   
  

 

 

    

 

 

   

 

 

    

 

 

 

Restricted funds – The Company’s restricted funds primarily represent proceeds received from financings for the construction and capital improvement of facilities and from customers for future services under operations and maintenance projects. The proceeds of these financings are held in escrow until the designated expenditures are incurred. Restricted funds expected to be released within twelve months subsequent to the balance sheet date are classified as current.

Rabbi trust investments – The Company’s rabbi trust investments consist primarily of fixed income investments from which supplemental executive retirement plan benefits are paid. The Company includes these assets in other long-term assets.

 

17


Table of Contents

Deposits – Deposits include escrow funds and certain other deposits held in trust. The Company includes cash deposits in other current assets.

Deferred compensation obligations – The Company’s deferred compensation plans allow participants to defer certain cash compensation into notional investment accounts. The Company includes such plans in other long-term liabilities. The value of the Company’s deferred compensation obligations is based on the market value of the participants’ notional investment accounts. The notional investments are comprised primarily of mutual funds, which are based on observable market prices.

Mark-to-market derivative asset and liability – The Company utilizes fixed-to-floating interest-rate swaps, typically designated as fair-value hedges, to achieve a targeted level of variable-rate debt as a percentage of total debt. The Company uses a calculation of future cash inflows and estimated future outflows, which are discounted, to determine the current fair value. Additional inputs to the present value calculation include the contract terms, counterparty credit risk, interest rates and market volatility.

Non-recurring Fair Value Measurements

As discussed in Note 3, no goodwill impairment was recognized by the Company’s continuing operations for the three and nine months ended September 30, 2011 and 2010, respectively. The Company’s goodwill valuation model includes significant unobservable inputs and falls within level 3 of the fair value hierarchy.

Note 13: Discontinued Operations

As part of the Company’s strategic review of its business investments, it has entered into agreements to sell assets or stock of certain subsidiaries.

In June 2011, the Company completed the sale of the assets of its Texas regulated subsidiary for proceeds of $6,245. A gain on the sale of the assets has been recognized for $142 ($87 after tax) and is included in the discontinued operating results presented in the accompanying financial statements. In the first quarter of 2011, the Company recognized a pretax impairment charge of $561 for the goodwill allocated to the Texas subsidiary.

The Company also entered into an agreement to sell all the stock of the Company’s Arizona and New Mexico subsidiaries. The sale price of $470,000 for both subsidiaries is subject to certain closing adjustments and approval by the Arizona and New Mexico public utility commissions. Closing of this sale is expected to occur in late 2011 or early 2012.

The Company has also entered into an agreement to sell the stock of its Ohio subsidiary. The sale price is currently estimated at approximately $89,000, plus assumed liabilities, for an estimated enterprise value of approximately $120,000. The sale is subject to certain closing adjustments and approval by the Ohio public utility commission. Closing of this sale is expected to occur in early 2012.

The Company plans to use the majority of the proceeds from the above sales to reduce debt financing.

Operating results and the financial position of the four subsidiaries named above are included in the accompanying financial statements as discontinued operations.

A summary of discontinued operations presented in the Consolidated Statements of Operations and Comprehensive Income follows:

 

     Three Months Ended
September 30,
     Nine Months Ended
September 30,
 
     2011      2010      2011      2010  

Operating revenues

   $ 42,823       $ 37,993       $ 115,797       $ 104,339   

Total operating expenses, net

     28,633         30,566         74,513         86,743   
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating income

     14,190         7,427         41,284         17,596   

Other income (expense), net

     106         177         580         (219
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations before income taxes

     14,296         7,604         41,864         17,377   

Provision for income taxes

     5,279         2,847         16,332         6,265   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, net of tax

   $ 9,017       $ 4,757       $ 25,532       $ 11,112   
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating expenses were lower in 2011 due to the cessation of depreciation for assets held for sale totaling $5,726 and $18,658 for the three and nine months ended September 30, 2011, respectively.

 

18


Table of Contents

Assets and liabilities of discontinued operations in the accompanying Consolidated Balance Sheets include the following:

 

     September 30,
2011
     December 31,
2010
 

Assets:

     

Total property, plant and equipment

   $ 824,627       $ 817,721   

Current assets

     24,363         17,421   

Regulatory assets

     38,145         35,096   

Goodwill

     54,546         55,107   

Other

     1,474         2,078   
  

 

 

    

 

 

 

Total assets of discontinued operations

   $ 943,155       $ 927,423   
  

 

 

    

 

 

 
     September 30,
2011
     December 31,
2010
 

Liabilities:

     

Long-term debt

   $ 12,900       $ 17,272   

Current portion of long-term debt

     12,869         8,668   

Other current liabilities

     36,685         35,907   

Advances for construction

     209,518         214,045   

Regulatory liabilities

     5,637         7,622   

Other

     15,707         10,175   

Contributions in aid of construction

     94,841         90,906   
  

 

 

    

 

 

 

Total liabilities of discontinued operations

   $ 388,157       $ 384,595   
  

 

 

    

 

 

 

Note 14: Segment Information

The Company has two operating segments which are also the Company’s two reportable segments referred to as Regulated Businesses and Market-Based Operations.

The following table includes the Company’s summarized segment information from continuing operations, except as noted below:

 

     As of or for the Three Months Ended
September 30, 2011
 
     Regulated
Businesses
     Market-
Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 682,363       $ 91,628       $ (7,541   $ 766,450   

Depreciation and amortization

     81,058         1,766         5,600        88,424   

Total operating expenses, net

     417,020         77,548         (9,435     485,133   

Income (loss) from continuing operations before income taxes

     209,722         14,682         (17,645     206,759   

Total assets (1)

     12,669,871         267,905         1,600,957        14,538,733   

Capital expenditures (2)

     229,102         1,046         0        230,148   
     As of or for the Three Months Ended
September 30, 2010
 
     Regulated
Businesses
     Market-
Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 675,087       $ 80,310       $ (6,444   $ 748,953   

Depreciation and amortization

     76,381         1,854         5,770        84,005   

Total operating expenses, net

     417,561         71,499         (6,635     482,425   

Income (loss) from continuing operations before income taxes

     203,230         9,431         (17,542     195,119   

Total assets (1)

     12,201,526         244,394         1,537,755        13,983,675   

Capital expenditures (2)

     193,540         1,271         0        194,811   

 

 

19


Table of Contents
     As of or for the Nine Months Ended
September 30, 2011
 
     Regulated
Businesses
     Market-
Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 1,805,085       $ 259,916       $ (22,481   $ 2,042,520   

Depreciation and amortization

     239,435         5,645         17,947        263,027   

Total operating expenses, net

     1,212,086         232,023         (27,585     1,416,524   

Income (loss) from continuing operations before income taxes

     424,804         29,585         (52,932     401,457   

Total assets (1)

     12,669,871         267,905         1,600,957        14,538,733   

Capital expenditures (2)

     619,119         2,821         0        621,940   
     As of or for the Nine Months Ended
September 30, 2010
 
     Regulated
Businesses
     Market-
Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 1,730,544       $ 230,153       $ (18,814   $ 1,941,883   

Depreciation and amortization

     224,609         5,562         16,588        246,759   

Total operating expenses, net

     1,174,728         214,285         (25,537     1,363,476   

Income (loss) from continuing operations before income taxes

     391,207         19,679         (53,683     357,203   

Total assets (1)

     12,201,526         244,394         1,537,755        13,983,675   

Capital expenditures (2)

     516,598         5,492         0        522,090   

 

(1) The Regulated Businesses segment includes $943,155 and $926,855 of assets of discontinued operations as of September 30, 2011 and 2010, respectively.

 

(2) The Regulated Businesses segment includes capital expenditures from discontinued operations totaling $15,619 and $17,096 for the nine months and $4,600 and $4,714 for the three months ended September 30, 2011 and 2010, respectively.

 

20


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

FORWARD-LOOKING STATEMENTS

Certain matters within this Quarterly Report on Form 10-Q include “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All statements included in this Form 10-Q, other than statements of historical fact, may constitute forward-looking statements. Forward-looking statements can be identified by the use of words such as “may,” “should,” “will,” “could,” “estimates,” “predicts,” “potential,” “continue,” “anticipates,” “believes,” “plans,” “expects,” “future” and “intends” and similar expressions. Forward-looking statements may involve known and unknown risks, uncertainties and other factors that may cause the actual results or performance to differ from those projected in the forward-looking statements. These statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control and difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements. Factors that could cause or contribute to differences in results and outcomes from those in our forward-looking statements include, without limitation, those items discussed in the “Risk Factors” section or other sections in the Company’s Form 10-K for the year ended December 31, 2010 filed with the Securities and Exchange Commission (“SEC”), as well as in Item IA of Part II of this Quarterly Report. We undertake no obligation, other than as required by law, to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

General

American Water Works Company, Inc. (herein referred to as “American Water” or the “Company”) is the largest investor-owned United States water and wastewater utility company, as measured both by operating revenue and population served. Our primary business involves the ownership of water and wastewater utilities that provide water and wastewater services to residential, commercial, industrial and other customers. Our Regulated Businesses that provide these services are generally subject to economic regulation by state regulatory agencies (“PUCs”) in the states in which they operate. We report the results of these businesses in our Regulated Businesses segment. We also provide services that are not subject to economic regulation by state regulatory agencies. We report the results of these businesses in our Market-Based Operations segment. For further description of our businesses see the “Business” section found in our Form 10-K for the year ended December 31, 2010 filed with the SEC.

You should read the following discussion in conjunction with our Consolidated Financial Statements and related Notes included elsewhere in this Quarterly Report on Form 10-Q and in our Form 10-K for the year ended December 31, 2010 filed with the SEC.

Overview

As previously disclosed in our Form 10-K for the year ended December 31, 2010, as part of our portfolio optimization initiative, we entered into agreements to sell our regulated subsidiaries in Arizona and New Mexico as well as our regulated water and wastewater systems in Texas. The sale of the Texas subsidiary assets was completed in June 2011. In addition, on July 8, 2011, the Company entered into an agreement to sell our Ohio subsidiary. Therefore, the financial results of these entities have been presented as discontinued operations for all periods, unless otherwise noted. See Note 13 to Consolidated Financial Statements for further details on our discontinued operations.

Financial Results. Despite challenging weather events in the northeast region of the United States, American Water’s net income was $137.4 million for the third quarter of 2011, or diluted earnings per share of $0.78, compared to $124.1 million, or diluted earnings per share of $0.71, for the comparable quarter in 2010. Net income for 2011 is higher by $3.5 million, or $0.02 per share, as a result of the benefit from the cessation of depreciation on assets held by our discontinued operations in accordance with generally accepted accounting principles (“GAAP”). Net income from continuing operations was $128.4 million for the third quarter of 2011, compared to net income from continuing operations of $119.4 million for the third quarter of 2010. Diluted earnings from continuing operations per average common share was $0.73 for the third quarter of 2011 as compared to $0.68 for the third quarter of 2010.

For the nine months ended September 30, 2011, American Water’s net income was $269.3 million, or diluted earnings per share of $1.53 compared to $227.7 million, or diluted earnings per share of $1.30, for the nine months ended September 30, 2010. Net income for 2011 is higher by $11.4 million, or $0.06 per share, as a result of the benefit from the cessation of depreciation on assets held by our discontinued operations in accordance with GAAP. Net income from continuing operations was $243.8 million for the nine months ended September 30, 2011, compared to net income from continuing operations of $216.6 million for the nine months ended September 30, 2010. Diluted income from continuing operations per average common share was $1.38 for the nine months ended September 30, 2011, as compared to $1.24 for the nine months ended September 30, 2010.

 

21


Table of Contents

The primary drivers contributing to these increases in net income from continuing operations for both the three and nine months ended September 30, 2011 were increased revenues resulting from rate increases as well as higher revenues in our Market-Based Operations segment partially offset by higher depreciation and amortization expense and general taxes. Also, partially offsetting the increase for the nine months ended September 30, 2011, compared to the same period in 2010, was an increase in operation and maintenance expense. For further details, see “Consolidated Results of Operations and Variances” and “Segment Results” below.

In 2011, our goals are to implement the execution of the portfolio optimization, resolve rate cases outstanding at the beginning of 2011, initiate state specific efforts to address the decline in water usage, continue improvement in our operation and maintenance expense (“O&M”) efficiency ratio, increase our earned rate of return to more closely align with that which is authorized by the PUCs, selectively expand our Market-Based Operations business, as well as optimize our municipal contract operations’ business model. We continue to make progress on our goals. The progress that we have made in the first nine months of 2011 with respect to portfolio optimization, resolution of rate cases and O&M efficiency ratio is described below.

Implementation of Portfolio Optimization Initiative. We continue to execute our plan for optimizing our portfolio. The Missouri-American Water Company’s acquisition of 11 regulated water systems and 48 wastewater systems in Missouri was completed in May 2011 for a purchase price of $3.3 million. The acquisition adds 1,700 water and nearly 2,000 wastewater customers. Also, in June 2011, we completed the sale of our Texas subsidiary’s assets.

We continue to move forward with the divestiture of our regulated water and wastewater operating companies located in Arizona and New Mexico. To date, filings have been made with the respective PUCs in these states. At the present time, we expect to consummate the divestiture of our Arizona and New Mexico subsidiaries in late 2011 or early 2012.

On July 8, 2011, we entered into an agreement to purchase seven regulated water systems in New York for approximately $71 million, adding approximately 50,000 customers to New York regulated operations. In a separate agreement, American Water will sell its eight regulated water systems and one wastewater system in Ohio for approximately $89 million, plus assumed liabilities of approximately $31 million for an estimated enterprise value of approximately $120 million. Ohio American Water serves approximately 58,000 customers. The completion of both transactions is subject to customary closing conditions including regulatory approval by public utility commissions in both New York and Ohio. The closing on these transactions is expected in early 2012.

Resolving Rate Cases. For the three and nine months ended September 30, 2011, we were granted additional annualized revenue from rate authorizations of $4.8 million and $15.5 million, respectively. Also, during the three and nine months ended September 30, 2011, we were granted $3.3 million and $17.6 million in additional annualized revenues, respectively, assuming constant sales volumes, from infrastructure charges. The table below details the additional annualized revenues resulting from such rate authorizations by state:

 

     Annualized Rate Increases Granted  
     For the three months ended
September 30, 2011
     For the nine months ended
September 30, 2011
 
     
     (In millions)  

State

     

General Rate Cases:

     

Tennessee

     —         $ 5.6   

West Virginia

     —           5.1   

Virginia (a)

   $ 4.8         4.8   
  

 

 

    

 

 

 

Total General Rate cases

   $ 4.8       $ 15.5   
  

 

 

    

 

 

 

Infrastructure charges:

     

Pennsylvania

   $ 3.1       $ 10.8   

Missouri

     —           3.6   

Illinois

     —           2.0   

Other

     0.2         1.2   
  

 

 

    

 

 

 

Total Infrastructure charges

   $ 3.3       $ 17.6   
  

 

 

    

 

 

 

 

(a) The new rates provide for additional annualized revenue of $4.3 million for jurisdictional customers and a $0.5 million increase for non-jurisdictional customers which are not subject to commission filing. This increase approximates what we had been collecting since August 2010 under interim rates.

On July 29, 2011, new rates, which would provide for an additional $2.3 million of annualized revenues, were put into effect under bond subject to refund for our Iowa subsidiary. There is no assurance that the bonded amount, or any portion thereof, will be approved.

 

22


Table of Contents

In October 2011, additional annualized revenue of $5.6 million and $2.2 million resulting from infrastructure charges in our Pennsylvania and Missouri subsidiaries, respectively, became effective.

Additionally, in October 2011, settlements, or partial settlements have been reached in our general rate cases in Pennsylvania, Iowa and Hawaii, which could provide $39.8 million in additional annualized revenues, if approved, in accordance with the settlement agreements. All settlements are pending regulatory approvals and are all subject to change. Details of these cases will be released upon final approval.

During the third quarter of 2011, we filed general rate cases in Ohio and New Jersey requesting additional annualized revenue of $8.3 million and $95.5 million, respectively. Also, on October 27, 2011, we filed a general rate case in Illinois requesting additional annualized revenues of $37.8 million. As of November 2, 2011, including the aforementioned Illinois case and excluding the cases with settlements, we are awaiting final orders in ten states, requesting additional annualized revenues of $276.6 million. There is no assurance that the requested amount of any increase, or any portion of the requested increases, will be granted.

Continue Improvement in O&M Efficiency Ratio for our Regulated Businesses. Our O&M efficiency ratio (a non-GAAP measure) is defined as our regulated operation and maintenance expense divided by regulated operating revenues where both operation and maintenance expense and operating revenues are adjusted to eliminate purchased water expense. Our O&M efficiency ratio for the three and nine months ended September 30, 2011 was 39.6% and 43.3%, respectively, compared to 40.6% and 44.1%, respectively, for the three and nine months ended September 30, 2010. We evaluate our operating performance using this measure as it is the primary measure of the efficiency of our regulated operations. This information is intended to enhance an investor’s overall understanding of our operating performance. O&M efficiency ratio is not a measure defined under GAAP and may not be comparable to other companies’ operating measures or deemed more useful than the GAAP information provided elsewhere in this report. The following table provides a reconciliation between operation and maintenance expense and operating revenues, as determined in accordance with GAAP, to those amounts utilized in the calculation of our O&M efficiency ratio for the three and nine months ended September 30, 2011 as compared to the same periods ended September 30, 2010:

Regulated O&M Efficiency Ratio (a Non-GAAP Measure)

 

     For the three months ended
September 30,
    For the nine months ended
September 30,
 
     2011     2010     2011     2010  
     (In thousands)  

Total regulated O&M expense

   $ 288,147      $ 293,261      $ 824,483      $ 806,225   

Less: Regulated purchased water

     29,892        31,784        76,272        78,205   
  

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted regulated O&M expense(a)

   $ 258,255      $ 261,477      $ 748,211      $ 728,020   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total regulated operating revenues

   $ 682,363      $ 675,087      $ 1,805,085      $ 1,730,544   

Less: Regulated purchased water expense*

     29,892        31,784        76,272        78,205   
  

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted regulated operating revenues(b)

   $ 652,471      $ 643,303      $ 1,728,813      $ 1,652,339   
  

 

 

   

 

 

   

 

 

   

 

 

 

Regulated O&M efficiency ratio(a)/(b)

     39.6     40.6     43.3     44.1

 

* Note calculation assumes purchased water revenues approximate purchased water expenses.

 

23


Table of Contents

Consolidated Results of Operations and Variances

 

     For the three months ended
September 30,
    For the nine months ended
September 30,
 
     (In thousands except per share data)  
     2011     2010     Favorable
(Unfavorable)
Change
    2011     2010     Favorable
(Unfavorable)
Change
 

Operating revenues

   $ 766,450      $ 748,953      $ 17,497      $ 2,042,520      $ 1,941,883      $ 100,637   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

            

Operation and maintenance

     345,757        346,180        423        993,434        960,779        (32,655

Depreciation and amortization

     88,424        84,005        (4,419     263,027        246,759        (16,268

General taxes

     52,587        52,029        (558     161,402        155,772        (5,630

(Gain) loss on asset dispositions and purchases

     (1,635     211        1,846        (1,339     166        1,505   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses, net

     485,133        482,425        (2,708     1,416,524        1,363,476        (53,048
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     281,317        266,528        14,789        625,996        578,407        47,589   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expenses)

            

Interest, net

     (78,602     (74,568     (4,034     (233,326     (231,456     (1,870

Allowance for other funds used during construction

     3,696        2,482        1,214        9,059        6,896        2,163   

Allowance for borrowed funds used during construction

     1,586        1,447        139        3,988        3,994        (6

Amortization of debt expense

     (1,251     (1,275     24        (3,798     (3,202     (596

Other, net

     13        505        (492     (462     2,564        (3,026
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expenses)

     (74,558     (71,409     (3,149     (224,539     (221,204     (3,335
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

     206,759        195,119        11,640        401,457        357,203        44,254   

Provision for income taxes

     78,354        75,762        (2,592     157,669        140,642        (17,027
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

     128,405        119,357        9,048        243,788        216,561        27,227   

Income from discontinued operations, net of tax

     9,017        4,757        4,260        25,532        11,112        14,420   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 137,422      $ 124,114      $ 13,308      $ 269,320      $ 227,673      $ 41,647   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic earnings per common share:(a)

            

Income from continuing operations

   $ 0.73      $ 0.68        $ 1.39      $ 1.24     
  

 

 

   

 

 

     

 

 

   

 

 

   

Income from discontinued operations, net of tax

   $ 0.05      $ 0.03        $ 0.15      $ 0.06     
  

 

 

   

 

 

     

 

 

   

 

 

   

Net income

   $ 0.78      $ 0.71        $ 1.53      $ 1.30     
  

 

 

   

 

 

     

 

 

   

 

 

   

Diluted earnings per common share:(a)

            

Income from continuing operations

   $ 0.73      $ 0.68        $ 1.38      $ 1.24     
  

 

 

   

 

 

     

 

 

   

 

 

   

Income from discontinued operations, net of tax

   $ 0.05      $ 0.03        $ 0.14      $ 0.06     
  

 

 

   

 

 

     

 

 

   

 

 

   

Net income

   $ 0.78      $ 0.71        $ 1.53      $ 1.30     
  

 

 

   

 

 

     

 

 

   

 

 

   

Average common shares outstanding during the period:

            

Basic

     175,547        174,859          175,426        174,785     

Diluted

     176,593        175,062          176,422        174,919     

 

(a) Amounts may not sum due to rounding.

The following is a summary discussion of the consolidated results of operations for the three and nine months ended September 30, 2011 compared to the three and nine months ended September 30, 2010.

Three Months Ended September 30, 2011 Compared To Three Months Ended September 30, 2010

 

24


Table of Contents

Operating revenues. Consolidated operating revenues for the three months ended September 30, 2011 increased $17.5 million, or 2.3%, compared to the same period in 2010. This change reflects a $7.3 million increase in our Regulated Businesses segment, which was mainly attributable to rate increases, and an $11.3 million increase in our Market-Based Operations segment, which was primarily due to an $8.2 million increase in the Contract Operations Group revenues primarily related to our military services contracts. For further information see the respective “Operating Revenues” discussions within the “Segment Results.”

Operation and maintenance. Consolidated operation and maintenance expense for the three months ended September 30, 2011 remained relatively unchanged compared to the same period in 2010. Our Market-Based Operations segment increased by $7.0 million and was offset by a decrease in our Regulated Businesses of $5.1 million and by lower severance costs in 2011 as 2010 reflected costs associated with changes in certain senior management positions. For further information see the respective “Operation and Maintenance” discussions within the “Segment Results.”

Depreciation and amortization. Depreciation and amortization expense increased by $4.4 million, or 5.3%, for the three months ended September 30, 2011, compared to the same period in the prior year, as a result of additional utility plant placed in service.

General taxes. General taxes expense, which includes taxes for property, payroll, gross receipts, and other miscellaneous items, remained relatively unchanged for the three months ended September 30, 2011, compared to the three months ended September 30, 2010.

Other income (expenses). Interest expense, net of interest income, which is the primary component of our other income (expenses), increased by $4.0 million, or 5.4% for the three months ended September 30, 2011, compared to the same period in the prior year. This increase was primarily due to the accelerated amortization in 2010 of $3.6 million in unamortized debt discounts associated with debt that was redeemed in July 2010.

Provision for income taxes. Our consolidated provision for income taxes increased $2.6 million, or 3.4%, to $78.4 million for the three months ended September 30, 2011. The effective tax rates for the three months ended September 30, 2011 and 2010 were 37.9% and 38.8%, respectively. The rate for the three months ended September 30, 2011 includes a $4.5 million tax benefit related to one of our operating companies contributing non-utility property to a county authority within its operating area.

Income from discontinued operations, net of tax. As noted above, the financial results of our regulated water and wastewater systems in Arizona, New Mexico, Texas and Ohio have been classified as discontinued operations for all periods presented. The increase in income from discontinued operations, net of tax, is primarily related to the cessation of depreciation in accordance with GAAP for the three months ended September 30, 2011. Under GAAP, operations that are considered discontinued operations cease to depreciate their assets. Had these assets been depreciated in 2011, net income and earnings per share for the three months ended September 30, 2011 would have been reduced by $3.5 million and $0.02, respectively.

Nine Months Ended September 30, 2011 Compared To Nine Months Ended September 30, 2010

Operating revenues. Consolidated operating revenues for the nine months ended September 30, 2011 increased $100.6 million, or 5.2%, compared to the same period in 2010. This change reflects a $74.5 million increase in our Regulated Businesses segment, which was mainly attributable to rate increases, and a $29.8 million increase in our Market-Based Operations segment, which was primarily the result of a $22.5 million increase in the Contract Operations Group revenues primarily related to our military services contracts. For further information see the respective “Operating Revenues” discussions within the “Segment Results.”

Operation and maintenance. Consolidated operation and maintenance expense for the nine months ended September 30, 2011 increased $32.7 million, or 3.4%, compared to the same period in 2010. This change was driven by an $18.3 million increase in our Regulated Businesses segment and a $17.8 million increase in our Market-Based Operations segment partially offset by the lower severance costs in 2011 as 2010 reflected costs associated with changes in certain senior management positions. For further information see the respective “Operation and Maintenance” discussions within the “Segment Results.”

Depreciation and amortization. Depreciation and amortization expense increased by $16.3 million, or 6.6%, for the nine months ended September 30, 2011, compared to the same period in the prior year as a result of additional utility plant placed in service.

General taxes. General taxes expense, which includes taxes for property, payroll, gross receipts, and other miscellaneous items, increased by $5.6 million, or 3.6%, for the nine months ended September 30, 2011, compared to the nine months ended September 30, 2010. This increase was principally due to higher gross receipts taxes of $3.2 million, primarily in our New Jersey regulated subsidiary, as well as property taxes of $2.1 million, mainly in our Indiana regulated subsidiary.

Other income (expenses). Interest expense, net of interest income, which is the primary component of our other income (expenses), increased by $1.9 million, or 0.8%, for the nine months ended September 30, 2011, compared to the same period in the prior year. This increase is due to increased borrowings in 2011, mainly commercial paper, as well as the fact that 2010 included the $3.6 million accelerated amortization in unamortized debt discounts associated with debt that was redeemed in July 2010. These increases were partially offset by a decrease in 2011 due to $3.1 million in accelerated amortization in unamortized debt discounts associated with debt that was redeemed during the first quarter of 2011. Additionally, other income is lower in 2011 compared to 2010 as 2010 included $1.3 million attributable to the release of the remaining balance of a loss reserve due to the resolution of the outstanding issues and uncertainties.

 

25


Table of Contents

Provision for income taxes. Our consolidated provision for income taxes increased $17.0 million, or 12.1%, to $157.7 million for the nine months ended September 30, 2011. The effective tax rates for the nine months ended September 30, 2011 and 2010 were 39.3% and 39.4%, respectively. The effective tax rates in 2011 and 2010 include discrete items.

Income from discontinued operations, net of tax. As noted above, the financial results of our regulated water and wastewater systems in Arizona, New Mexico, Texas and Ohio have been classified as discontinued operations for all periods presented. The increase in income from discontinued operations, net of tax, is primarily related to the cessation of depreciation for our Arizona, New Mexico, Texas and Ohio subsidiaries in accordance with GAAP for the nine months ended September, 2011. Had these assets been depreciated in 2011, net income and earnings per share for the nine months ended September 30, 2011 would have been reduced by $11.4 million and $0.06, respectively.

Segment Results

We have two operating segments, which are also our reportable segments: the Regulated Businesses and the Market-Based Operations. These segments are determined based on how we assess performance and allocate resources. Prior to the first quarter of 2011, management evaluated the performance of its segments and allocated resources based on several factors, with the primary measure being Adjusted EBIT. Beginning in 2011, as management has become increasingly more focused on the overall contribution of the segment to the consolidated results, the Adjusted EBIT measure has been replaced by income from continuing operations before income taxes. All financial information in the Regulated Segment discussion below reflects only continuing operations.

Regulated Segment

The following table summarizes certain financial information for our Regulated Businesses for the periods indicated:

 

     For the three months ended
September 30,
    For the nine months ended
September 30,
 
     2011      2010      Increase
(Decrease)
    2011      2010      Increase  
     (In thousands)         

Operating revenues

   $ 682,363       $ 675,087       $ 7,276      $ 1,805,085       $ 1,730,544       $ 74,541   

Operation and maintenance expense

     288,147         293,261         (5,114     824,483         806,225         18,258   

Operating expenses, net

     417,020         417,561         (541     1,212,086         1,174,728         37,358   

Income from continuing operations before income taxes

     209,722         203,230         6,492        424,804         391,207         33,597   

Operating revenues. Our primary business involves the ownership of water and wastewater utilities that provide services to residential, commercial, industrial and other customers. This business is generally subject to state regulation and our results of operations are impacted significantly by rates authorized by the state regulatory commissions in the states in which we operate.

Operating revenues increased by $7.3 million, or 1.1%, for the three months ended September 30, 2011 and $74.5 million, or 4.3%, for the nine months ended September 30, 2011 as compared to the same periods in 2010. The increase in revenues was primarily due to rate increases obtained through rate authorizations for a number of our operating companies of which the impact was approximately $26.7 million and $111.8 million for the three and nine months ending September 30, 2011, respectively. Partially offsetting the rate related increases were decreased revenues of $18.3 million and $41.1 million for the three and nine months ending September 30, 2011, respectively, which is attributable to decreased consumption in 2011 compared to 2010. The following table sets forth the percentage of Regulated Businesses’ revenues and billed water sales volume by customer class:

 

26


Table of Contents
     For the three months ended September 30,  
     2011     2010*     2011     2010*  
     Operating Revenues     Billed Water Sales Volume  
     (Dollars in thousands)     (Gallons in millions)  

Customer Class

                    

Water service:

                    

Residential

   $ 389,736         57.1   $ 391,628         58.0     57,184         52.2     59,723         52.5

Commercial

     141,269         20.7     138,129         20.5     25,388         23.2     26,433         23.2

Industrial

     31,518         4.6     30,822         4.5     11,379         10.4     11,688         10.3

Public and other

     84,704         12.4     82,777         12.3     15,602         14.2     15,927         14.0

Other water revenues

     4,584         0.7     4,179         0.6     —           —          —           —     
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total water revenues

     651,811         95.5     647,535         95.9     109,553         100.0     113,771         100.0
            

 

 

    

 

 

   

 

 

    

 

 

 

Wastewater service

     19,400         2.9     17,478         2.6          

Other revenues

     11,152         1.6     10,074         1.5          
  

 

 

    

 

 

   

 

 

    

 

 

           
   $    682,363         100.0   $    675,087         100.0          
  

 

 

    

 

 

   

 

 

    

 

 

           

 

* Certain reclassifications have been made between customer classes to conform to the 2011 presentation.

 

     For the nine months ended September 30,  
     2011     2010*     2011     2010*  
     Operating Revenues     Billed Water Sales Volume  
     (Dollars in thousands)     (Gallons in millions)  

Customer Class

                    

Water service:

                    

Residential

   $ 1,022,953         56.6   $ 987,683         57.1     138,794         51.3     143,524         51.5

Commercial

     360,338         20.0     344,416         19.9     61,841         22.9     63,564         22.8

Industrial

     88,567         4.9     83,740         4.8     30,140         11.1     30,307         10.9

Public and other

     229,546         12.7     219,532         12.7     39,628         14.7     41,063         14.8

Other water revenues

     15,902         0.9     17,653         1.0     —           —          —           —     
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total water revenues

     1,717,306         95.1     1,653,024         95.5     270,403         100.0     278,458         100.0
            

 

 

    

 

 

   

 

 

    

 

 

 

Wastewater service

     57,302         3.2     51,207         3.0          

Other revenues

     30,477         1.7     26,313         1.5          
  

 

 

    

 

 

   

 

 

    

 

 

           
   $ 1,805,085         100.0   $ 1,730,544         100.0          
  

 

 

    

 

 

   

 

 

    

 

 

           

 

 

* Certain reclassifications have been made between customer classes to conform to the 2011 presentation.

The following discussion related to water services indicates the increase or decrease in the Regulated Businesses’ revenues and associated billed water sales volumes in gallons by customer class. While our New Jersey subsidiary’s volume for the three and nine months ended September 31, 2011 was down 11.5% and 5.9%, respectively, compared to the same periods in the prior year, our geographic diversity reduced that impact on our overall results.

Water Services –Water service operating revenues from residential customers for the three months ended September 30, 2011 totaled $389.7 million, a $1.9 million decrease, or 0.5%, compared to the three months ended September 30, 2010. The volume of water sold to residential customers decreased by 4.3% for the three months ended September 30, 2011 to 57.2 billion gallons, from 59.7 billion gallons for the same period in 2010. The majority of this decrease occurred in our New Jersey, Pennsylvania and New York subsidiaries mainly as a result of the extreme wet weather conditions, including the impacts associated with Hurricane Irene and other severe storms in the Northeast this quarter that created extended service interruptions in certain of our operating areas and even, in some cases, a loss in customers. The magnitude of these business interruption losses, related to the hurricane and the other severe storms, is still being evaluated. Upon completion of such evaluations, claims will be submitted to insurance carriers for such losses. Water service operating revenues from residential customers totaled $1,023.0 million for the nine months ended September 30, 2011, a $35.3 million or 3.6% increase over the same period of 2010, mainly due to rate increases partially offset by decreases in sales volume. The volume of water sold to residential customers decreased by 3.3% for the nine months ended September 30, 2011 to 138.8 billion gallons, from 143.5 billion gallons for the same period in 2010. We believe that factors contributing to the decline include the aforementioned weather conditions in the third quarter, an increased customer focus on conservation, the use of more efficient appliances, and the current economic climate. The extent to which these items individually contribute to the overall decline is difficult to measure.

Water service operating revenues from commercial water customers for the three and nine months ended September 30, 2011 increased by $3.1 million, or 2.3%, to $141.3 million and $15.9 million, or 4.6%, to $360.3 million, respectively, compared to the same periods in 2010. These increases were mainly due to rate increases partially offset by decreases in sales volume. The volume of

 

27


Table of Contents

water sold to commercial customers decreased by 4.0% for the three months ended September 30, 2011, to 25.4 billion gallons, from 26.4 billion gallons for the three months ended September 30, 2010, which we attribute to the wetter weather conditions in New Jersey, Pennsylvania and New York. Water volume sold to commercial customers decreased by 2.7% for the nine months ended September 30, 2011, to 61.8 billion gallons, from 63.6 billion gallons compared to the same period in 2010. We believe that factors contributing to this decline include wetter weather conditions, an increased customer focus on conservation as well as the current economic climate in certain areas in which we operate. Similar to the above, the extent to which these items individually contribute to the overall decline is difficult to measure.

Water service operating revenues from industrial customers totaled $31.5 million for the three months ended September 30, 2011, an increase of $0.7 million, or 2.3%, from those recorded for the same period of 2010, mainly due to rate increases offset by a decrease in sales volume. The volume of water sold to industrial customers totaled 11.4 billion gallons for the three months ended September 30, 2011, a decrease of 2.6% from the 11.7 billion gallons for the three months ended September 30, 2010. Similar to the residential and commercial classes above, a large portion of this decline was attributable to our New Jersey and Pennsylvania subsidiaries. For the nine months ended September 30, 2011, water service operating revenues from industrial customers totaled $88.6 million, an increase of $4.8 million, or 5.8%, compared to the same period of 2010, mainly due to rate increases offset by a decrease in sales volume. The volume of water sold to industrial customers totaled 30.1 billion gallons for the nine months ended September 30, 2011, a decrease of 0.6% from the 30.3 billion gallons for the nine months ended September 30, 2010.

Water service operating revenues from public and other customers, including municipal governments, other governmental entities and resale customers increased $1.9 million, or 2.3% to $84.7 million, for the three months ended September 30, 2011 from $82.8 million in the same period of 2010. For the nine months ended September 30, 2011, these revenues increased $10.0 million, or 4.6% to $229.5 million, from $219.5 million in 2010. These increases are mainly due to rate increases.

Wastewater services – Our subsidiaries provide wastewater services in nine states. Revenues from these services increased by $1.9 million, or 11.0%, to $19.4 million for the three months ended September 30, 2011, from the same period of 2010. Revenues from these services for the nine months ended September 30, 2011 increased by $6.1 million, or 11.9%, to $57.3 million, compared to the same period of 2010. The increase in both periods is primarily attributable to rate increases in a number of our operating companies.

Other revenues – Other revenues include such items as reconnection charges, initial application service fees, rental revenues, revenue collection services for others and similar items. The increase in revenues for both the three and nine months ended September 30, 2011, as compared to the same periods in the prior year, was mainly the result of increased rental revenues.

Operation and maintenance. Operation and maintenance expense decreased $5.1 million, or 1.7%, for the three months ended September 30, 2011, compared to the three months ended September 30, 2010. Operation and maintenance expense increased $18.3 million, or 2.3%, for the nine months ended September 30, 2011, compared to the same period in the prior year. The following table provides information regarding operation and maintenance expense for the three and nine months ended September 30, 2011 and 2010, by major expense category:

Production costs and employee-related costs, which account for approximately 70% of the total Regulated Businesses operation and maintenance expense, are discussed in more detail below.

 

     For the three months ended September 30,     For the nine months ended September 30,  
     2011      2010      Increase
(Decrease)
    Percentage     2011      2010      Increase
(Decrease)
    Percentage  
     (In thousands)  

Production costs

   $ 78,800       $ 82,069       $ (3,269     (4.0 %)    $ 203,084       $ 205,552       $ (2,468     (1.2 %) 

Employee-related costs

     126,048         125,301         747        0.6     368,539         358,760         9,779        2.7

Operating supplies and services

     43,772         45,293         (1,521     (3.4 %)      140,498         129,946         10,552        8.1

Maintenance materials and services

     17,335         17,430         (95     (0.5 %)      50,978         50,969         9        0.0

Customer billing and accounting

     12,639         12,216         423        3.5     33,776         35,058         (1,282     (3.7 %) 

Other

     9,553         10,952         (1,399     (12.8 %)      27,608         25,940         1,668        6.4
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

Total

   $ 288,147       $ 293,261       $ (5,114     (1.7 %)    $ 824,483       $ 806,225       $ 18,258        2.3
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

 

28


Table of Contents

Production costs, including fuel and power, purchased water, chemicals and waste disposal costs decreased $3.3 million, or 4.0%, for the three months ended September 30, 2011, compared to the same period in the prior year. For the nine month period, these costs decreased $2.5 million, or 1.2%. Production costs, by major expense type were as follows:

 

     For the three months ended September 30,     For the nine months ended September 30,  
     2011      2010      Increase
(Decrease)
    Percentage     2011      2010      Increase
(Decrease)
    Percentage  
     (In thousands)  

Fuel and power

   $ 26,338       $ 26,993       $ (655     (2.4 %)    $ 67,808       $ 68,036       $ (228     (0.3 %) 

Purchased Water

     29,892         31,784         (1,892     (6.0 %)      76,272         78,205         (1,933     (2.5 %) 

Chemicals

     15,216         16,211         (995     (6.1 %)      37,221         39,071         (1,850     (4.7 %) 

Waste disposal

     7,354         7,081         273        3.9     21,783         20,240         1,543        7.6
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

Total

   $ 78,800       $ 82,069       $ (3,269     (4.0 %)    $ 203,084       $ 205,552       $ (2,468     (1.2 %) 
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

The decrease in purchased water for the three and nine month periods was primarily due to decreases in usage, most notably in our New Jersey subsidiary, due to the wet weather conditions previously discussed, as well as in our California subsidiary as customer needs were met with internally produced water. The decrease in chemicals for the three and nine months ended September 30, 2011, as compared to the same periods in 2010, is mainly attributable to the decline in usage. This decline was attributable to higher consumption in 2010 as a result of much drier and warmer weather in the Northeast region of the United States. Also, contributing to the 2011 decrease is favorable pricing in some of our operating companies. The increase in waste disposal costs for the nine month period is due to increased rates in one of our subsidiaries.

Employee-related costs, including wage and salary, group insurance, and pension expense, increased $0.7 million, or 0.6%, for the three months ended September 30, 2011, compared to the same period in the prior year. These employee-related costs represent approximately 44% of regulated operation and maintenance expense for the three months ended September 30, 2011 and 2010. These costs also increased $9.8 million, or 2.7%, for the nine months ended September 30, 2011, compared to the same period in the prior year. These employee-related costs represent approximately 45% of regulated operation and maintenance expense for the nine months ended September 30, 2011 and 2010. The following table provides information with respect to components of employee-related costs for the three and nine months ended September 30, 2011 and 2010:

 

     For the three months ended September 30,     For the nine months ended September 30,  
     2011      2010      Increase
(Decrease)
     Percentage     2011      2010      Increase
(Decrease)
     Percentage  
     (In thousands)  

Salaries and wages

   $ 85,591       $ 85,461       $ 130         0.2   $ 247,467       $ 246,091       $ 1,376         0.6

Pensions

     16,309         16,236         73         0.4     49,150         42,808         6,342         14.8

Group insurance

     19,471         19,403         68         0.4     58,190         57,531         659         1.1

Other benefits

     4,677         4,201         476         11.3     13,732         12,330         1,402         11.4
  

 

 

    

 

 

    

 

 

      

 

 

    

 

 

    

 

 

    

Total

   $ 126,048       $ 125,301       $ 747         0.6   $ 368,539       $ 358,760       $ 9,779         2.7
  

 

 

    

 

 

    

 

 

      

 

 

    

 

 

    

 

 

    

For the three months ended September 30, 2011, salaries and wages were relatively unchanged with increased incentive expenses of $2.7 million and annual wage increases offset by vacant positions and lower severance expense as compared to the same period in the prior year. For the nine months ended September 30, 2011, salaries and wages increased $1.4 million primarily due to higher incentive compensation expense of $3.7 million. Additionally, salaries and wages increased due to annual wage increases and were partially offset by lower amounts of severance expense and vacant positions as compared to the same period in the prior year. The increase in pension expense for the nine months ended September 30, 2011 was primarily due to increased contributions in certain of our regulated operating companies whose costs and revenue requirements are based on the minimum amount required by the Employee Retirement Income Security Act of 1974. Other benefits increased for the nine months largely due to the implementation of an incentive program in 2011 that encourages employees to maintain or improve their health.

Operating supplies and services include expenses for office operation, legal and other professional services, including transportation expenses, information systems rental charges and other office equipment rental charges. Overall these costs decreased $1.5 million, or 3.4%, for the three months ended September 30, 2011 and increased $10.6 million, or 8.1%, for the nine months ended September 30, 2011, respectively, compared to the same periods in the prior year. Contributing to the three month decrease and offsetting the nine month increase were lower office expenses, as well as lower expenses attributable to fines and penalties expenses for the three and nine month periods ended September 30, 2011, compared to the same periods in 2010. The three and nine month periods in 2011 include the recording of an anticipated recovery of $2.2 million of expenses related to costs incurred as a result of severe weather storms, primarily Hurricane Irene, which have been recorded in their respective expense lines. Additionally, the same periods in 2010 included the establishment of $1.4 million in reserves for assets not recoverable associated with the California rate case. Also included in the 2010 periods was the reversal of a $3.5 million payment previously made by our California operating company to the California Department of Fish and Game (“CDFG”) on behalf of the National Oceanographic and Atmospheric Administration (“NOAA”). This reversal was the result of an advice letter issued by the California Public Utility Commission which allowed for rate recovery of such payment. Also, impacting the nine month period ended September 30, 2011 as compared to the same period in 2010 were higher contracted services of $8.8 million and increased transportation expenses of $1.4 million. Contract services increased due

&nbs