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 June 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 July 28, 2011

Common Stock, $0.01 par value per share   175,445,661 shares

 

 

 


Table of Contents

TABLE OF CONTENTS

AMERICAN WATER WORKS COMPANY, INC.

REPORT ON FORM 10-Q

FOR THE QUARTER ENDED June 30, 2011

INDEX

 

PART I. FINANCIAL INFORMATION      1   

ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS

     1-17   

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

     18 - 32   

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     32   

ITEM 4. CONTROLS AND PROCEDURES

     32   
PART II. OTHER INFORMATION      32   

ITEM 1. LEGAL PROCEEDINGS

     32   

ITEM 1A. RISK FACTORS

     32   

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

     32   

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

     32   

ITEM 4. [RESERVED]

     32   

ITEM 5. OTHER INFORMATION

     32   

ITEM 6. EXHIBITS

     33   

SIGNATURES

     34   

EXHIBITS INDEX

  

EXHIBIT 10.1

  

EXHIBIT 10.2

  

EXHIBIT 10.3

  

EXHIBIT 31.1

  

EXHIBIT 31.2

  

EXHIBIT 32.1

  

EXHIBIT 32.2

  

EXHIBIT 101

  

 

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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)

 

     June 30,
2011
    December 31,
2010
 
ASSETS     

Property, plant and equipment

    

Utility plant—at original cost, net of accumulated depreciation of $3,238,585 at June 30 and $3,134,094 at December 31

   $ 10,463,211      $ 10,241,342   

Nonutility property, net of accumulated depreciation of $161,703 at June 30 and $142,902 at December 31

     136,731        142,554   
  

 

 

   

 

 

 

Total property, plant and equipment

     10,599,942        10,383,896   
  

 

 

   

 

 

 

Current assets

    

Cash and cash equivalents

     13,466        13,112   

Restricted funds

     65,055        94,066   

Utility customer accounts receivable

     165,686        145,747   

Allowance for uncollectible accounts

     (16,617     (17,474

Unbilled utility revenues

     145,500        132,876   

Other receivables, net

     73,125        74,028   

Income taxes receivable

     3,443        0   

Materials and supplies

     31,414        27,743   

Assets of discontinued operations

     937,202        927,423   

Other

     74,940        46,788   
  

 

 

   

 

 

 

Total current assets

     1,493,214        1,444,309   
  

 

 

   

 

 

 

Regulatory and other long-term assets

    

Regulatory assets

     989,932        980,911   

Restricted funds

     17,212        26,718   

Goodwill

     1,195,510        1,195,585   

Other

     51,406        48,354   
  

 

 

   

 

 

 

Total regulatory and other long-term assets

     2,254,060        2,251,568   
  

 

 

   

 

 

 

TOTAL ASSETS

   $ 14,347,216      $ 14,079,773   
  

 

 

   

 

 

 

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)

 

     June 30,
2011
    December 31,
2010
 
CAPITALIZATION AND LIABILITIES     

Capitalization

    

Common stock ($.01 par value, 500,000 shares authorized, 175,438 and 174,996 shares outstanding at June 30 and December 31, respectively)

   $ 1,754      $ 1,750   

Paid-in-capital

     6,170,047        6,156,675   

Accumulated deficit

     (1,945,185     (1,959,235

Accumulated other comprehensive loss

     (68,696     (71,446

Treasury stock

     0        (19
  

 

 

   

 

 

 

Common stockholders’ equity

     4,157,920        4,127,725   

Preferred stock without mandatory redemption requirements

     4,547        4,547   
  

 

 

   

 

 

 

Total stockholders’ equity

     4,162,467        4,132,272   
  

 

 

   

 

 

 

Long-term debt

    

Long-term debt

     5,362,604        5,394,135   

Redeemable preferred stock at redemption value

     22,123        22,135   
  

 

 

   

 

 

 

Total capitalization

     9,547,194        9,548,542   
  

 

 

   

 

 

 

Current liabilities

    

Short-term debt

     449,940        228,502   

Current portion of long-term debt

     8,439        36,092   

Accounts payable

     159,024        191,973   

Taxes accrued, including income taxes of $0 at June 30 and $906 at December 31

     47,475        37,963   

Interest accrued

     59,156        60,465   

Liabilities of discontinued operations

     380,688        385,171   

Other

     222,924        182,317   
  

 

 

   

 

 

 

Total current liabilities

     1,327,646        1,122,483   
  

 

 

   

 

 

 

Regulatory and other long-term liabilities

    

Advances for construction

     396,440        397,164   

Deferred income taxes

     1,163,854        1,080,162   

Deferred investment tax credits

     30,198        30,969   

Regulatory liabilities

     301,317        296,121   

Accrued pension expense

     386,664        421,408   

Accrued postretirement benefit expense

     213,375        215,217   

Other

     39,709        42,151   
  

 

 

   

 

 

 

Total regulatory and other long-term liabilities

     2,531,557        2,483,192   
  

 

 

   

 

 

 

Contributions in aid of construction

     940,819        925,556   

Commitments and contingencies (See Note 9)

     —          —     
  

 

 

   

 

 

 

TOTAL CAPITALIZATION AND LIABILITIES

   $ 14,347,216      $ 14,079,773   
  

 

 

   

 

 

 

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

 

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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
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Operating revenues

   $ 674,248      $ 634,910      $ 1,276,070      $ 1,192,930   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

        

Operation and maintenance

     332,310        314,016        647,677        614,599   

Depreciation and amortization

     87,654        81,695        174,603        162,754   

General taxes

     53,096        50,889        108,815        103,743   

Loss (gain) on sale of assets

     28        26        296        (45
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses, net

     473,088        446,626        931,391        881,051   
  

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     201,160        188,284        344,679        311,879   
  

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expenses)

        

Interest, net

     (78,504     (78,444     (154,724     (156,888

Allowance for other funds used during construction

     2,535        2,305        5,363        4,414   

Allowance for borrowed funds used during construction

     1,198        1,194        2,402        2,547   

Amortization of debt expense

     (1,255     (735     (2,547     (1,927

Other, net

     679        1,987        (475     2,059   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expenses)

     (75,347     (73,693     (149,981     (149,795
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

     125,813        114,591        194,698        162,084   

Provision for income taxes

     51,160        46,570        79,315        64,880   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

     74,653        68,021        115,383        97,204   

Income from discontinued operations, net of tax

     9,913        4,730        16,515        6,355   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 84,566      $ 72,751      $ 131,898      $ 103,559   
  

 

 

   

 

 

   

 

 

   

 

 

 

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 $56 and $25 for the six months ended, respectively

   $ 43      $ 19      $ 87      $ 39   

Actuarial loss, net of tax of $720 and $698 for the three months ended and $1,440 and $1,396 for the six months ended, respectively

     1,126        1,092        2,252        2,184   

Foreign currency translation adjustment

     93        (454     411        (92
  

 

 

   

 

 

   

 

 

   

 

 

 

Other comprehensive income

     1,262        657        2,750        2,131   
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income

   $ 85,828      $ 73,408      $ 134,648      $ 105,690   
  

 

 

   

 

 

   

 

 

   

 

 

 

Basic earnings per common share: (a)

        

Income from continuing operations

   $ 0.43      $ 0.39      $ 0.66      $ 0.56   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from discontinued operations, net of tax

   $ 0.06      $ 0.03      $ 0.09      $ 0.04   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 0.48      $ 0.42      $ 0.75      $ 0.59   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted earnings per common share: (a)

        

Income from continuing operations

   $ 0.42      $ 0.39      $ 0.65      $ 0.56   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income from discontinued operations, net of tax

   $ 0.06      $ 0.03      $ 0.09      $ 0.04   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net income

   $ 0.48      $ 0.42      $ 0.75      $ 0.59   
  

 

 

   

 

 

   

 

 

   

 

 

 

Average common shares outstanding during the period:

        

Basic

     175,469        174,774        175,364        174,747   
  

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

     176,419        174,850        176,255        174,820   
  

 

 

   

 

 

   

 

 

   

 

 

 

Dividends per common share

   $ 0.45      $ 0.21      $ 0.67      $ 0.42   
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(a) Amounts may not sum due to rounding.

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

 

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Table of Contents

American Water Works Company, Inc. and Subsidiary Companies

Consolidated Statements of Cash Flows (Unaudited)

(In thousands, except per share data)

 

     Six Months Ended
June 30,
 
     2011     2010  

CASH FLOWS FROM OPERATING ACTIVITIES

    

Net income

   $ 131,898      $ 103,559   

Adjustments

    

Depreciation and amortization

     174,603        162,754   

Provision for deferred income taxes

     69,326        76,587   

Amortization of deferred investment tax credits

     (771     (780

Provision for losses on utility accounts receivable

     7,774        10,375   

Allowance for other funds used during construction

     (5,363     (4,414

Loss (gain) on sale of assets

     296        (45

Pension and non-pension post retirement benefits

     35,720        44,672   

Other, net

     790        2,079   

Changes in assets and liabilities

    

Receivables and unbilled utility revenues

     (44,705     (59,367

Income taxes receivable

     (3,443     13,847   

Other current assets

     (35,564     (4,915

Pension and non-pension post retirement benefit contributions

     (72,006     (60,359

Accounts payable

     (14,728     1,894   

Taxes accrued, including income taxes

     15,580        8,300   

Interest accrued

     (1,306     (131

Other current liabilities

     4,295        3,453   
  

 

 

   

 

 

 

Net cash provided by operating activities

     262,396        297,509   
  

 

 

   

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES

    

Capital expenditures

     (391,792     (327,279

Acquisitions

     (4,769     (1,572

Proceeds from sale of assets and securities

     6,657        99   

Removal costs from property, plant and equipment retirements, net

     (24,038     (17,096

Net restricted funds released

     38,517        14,622   
  

 

 

   

 

 

 

Net cash used in investing activities

     (375,425     (331,226
  

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES

    

Proceeds from long-term debt

     12,275        1,193   

Repayment of long-term debt

     (64,208     (42,677

Net borrowings under short-term debt agreements

     247,946        149,428   

Proceeds from employee stock plan issuances and DRIP

     8,852        1,865   

Advances and contributions for construction, net of refunds of $8,550 and $18,177 at June 30, 2011 and 2010, respectively

     11,193        521   

Change in bank overdraft position

     (25,411     (3,118

Debt issuance costs

     (552     (1,757

Redemption of preferred stock

     (6     (16

Dividends paid

     (77,105     (73,368

Other financing activities

     399        0   
  

 

 

   

 

 

 

Net cash provided by financing activities

     113,383        32,071   
  

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

     354        (1,646

Cash and cash equivalents at beginning of period

     13,112        22,256   
  

 

 

   

 

 

 

Cash and cash equivalents at end of period

   $ 13,466      $ 20,610   
  

 

 

   

 

 

 

Non-cash investing activity:

    

Capital expenditures acquired on account but unpaid at quarter-end

   $ 80,573      $ 72,676   

Non-cash financing activity:

    

Long-term debt

   $ 0      $ 51,000   

Dividends accrued

   $ 40,351      $ 0   

Advances and contributions

   $ 10,027      $ 16,401   

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

 

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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     Paid-in
Capital
    Accumulated
Deficit
    Accumulated
Other
Comprehensive
Loss
    Treasury Stock    

Preferred

Stock

of

Subsidiary

Companies

Without

Mandatory

    Total
Stockholders’
Equity
 
  Shares     Par
Value
          Shares     At Cost     Redemption
Requirements
   

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

    —          —          —          131,898        —          —          —          —          131,898   

Direct stock reinvestment and purchase plan (DRIP), net of expense of $9

    34        0        948        —          —          —          —          —          948   

Employee stock purchase plan (ESPP)

    59        1        1,586        —          —          —          —          —          1,587   

Stock-based compensation activity

    349        3        10,838        (392     —          1        19        —          10,468   

Other comprehensive income, net of tax of $1,496

    —          —          —          —          2,750        —          —          —          2,750   

Dividends

    —          —          —          (117,456     —          —          —          —          (117,456
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at June 30, 2011

    175,438      $ 1,754      $ 6,170,047      $ (1,945,185   $ (68,696     0      $ 0      $ 4,547      $ 4,162,467   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
    Common Stock     Paid-in
Capital
    Accumulated
Deficit
    Accumulated
Other
Comprehensive
Loss
    Treasury Stock    

Preferred

Stock

of

Subsidiary

Companies

Without

Mandatory

    Total
Stockholders’
Equity
 
  Shares     Par
Value
          Shares     At Cost     Redemption
Requirements
   

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

    —          —          —          103,559        —          —          —          —          103,559   

Direct stock reinvestment and purchase plan (DRIP), net of expense of $61

    18        0        302        —          —          —          —          —          302   

Employee stock purchase plan (ESPP)

    52        1        1,171            7        127        —          1,299   

Stock-based compensation activity

    48        0        4,894        (230     —          (7     (127     —          4,537   

Subsidiary preferred stock redemption

                  (10     (10

Other comprehensive income, net of tax of $1,421

    —          —          —          —          2,131        —          —          —          2,131   

Dividends

    —          —          —          (73,368     —          —          —          —          (73,368
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance at June 30, 2010

    174,748      $ 1,747      $ 6,146,444      $ (2,046,326   $ (62,546     0      $ 0      $ 4,547      $ 4,043,866   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

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 June 30, 2011, the Consolidated Statements of Operations and Comprehensive Income for the three and six months ended June 30, 2011 and 2010, the Consolidated Statements of Cash Flows for the six months ended June 30, 2011 and 2010, and the Consolidated Statement of Changes in Stockholders’ Equity for the six months ended June 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 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. The qualitative factors are consistent with existing authoritative guidance, which 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.

 

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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. This new guidance 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.

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 June 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 six-month changes in the Company’s goodwill of continuing operations by reporting unit:

 

     Regulated Unit     Market-Based Operations     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 June 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 June 30, 2010

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

 

 

   

 

 

   

 

 

    

 

 

   

 

 

   

 

 

   

 

 

 

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.

 

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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 June 30, 2011, there were 4,903 shares available for future issuance under the DRIP. The following table summarizes information regarding issuances under the DRIP for the six months ended June 30, 2011 and 2010:

 

     2011      2010  

Shares of common stock issued

     34         18   

Cash proceeds received

   $ 957       $ 363   

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

 

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

Dividends per share

   $ 0.22       $ 0.21       $ 0.22       $ 0.21   

Total dividends paid

   $ 38,580       $ 36,689       $ 38,525       $ 36,679   

On June 17, 2011, the Company declared a quarterly cash dividend payment of $0.23 per share payable on September 1, 2011 to all shareholders of record as of August 12, 2011. As of June 30, 2011, the Company had accrued dividends totaling $40,351 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 June 30, 2011, a total of 10,903 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 six months ended June 30, 2011 and 2010:

 

     Three Months  Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Stock options

   $ 802      $ 949      $ 1,628      $ 1,854   

Restricted stock units

     1,699        1,683        2,904        2,886   

Employee stock purchase plan

     111        85        208        171   
  

 

 

   

 

 

   

 

 

   

 

 

 

Stock-based compensation in operation and maintenance expense

     2,612        2,717        4,740        4,911   

Income tax benefit

     (1,019     (1,060     (1,849     (1,916
  

 

 

   

 

 

   

 

 

   

 

 

 

After-tax stock-based compensation expense

   $ 1,593      $ 1,657      $ 2,891      $ 2,995   
  

 

 

   

 

 

   

 

 

   

 

 

 

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

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   

 

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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 June 30, 2011, $4,981 of total unrecognized compensation cost related to the non-vested stock options is expected to be recognized over the weighted-average period of 1.8 years.

The following table summarizes stock option activity for the six months ended June 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

     (35     22.47         

Exercised

     (307     21.26         
  

 

 

         

Options outstanding at June 30, 2011

     3,264      $ 22.67         4.82       $ 22,138   
  

 

 

   

 

 

    

 

 

    

 

 

 

Exercisable at June 30, 2011

     1,802      $ 21.34         3.98       $ 14,624   
  

 

 

   

 

 

    

 

 

    

 

 

 

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

 

     2011      2010  

Intrinsic value

   $ 1,893       $ 18   

Exercise proceeds

   $ 6,517       $ 367   

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.

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 June 30, 2011, $5,078 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 1.4 years.

The following table summarizes restricted stock unit activity for the six months ended June 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

     (67     21.49   

Forfeited

     (9     24.05   

Undistributed vested awards

     (22     27.08   
  

 

 

   

Nonvested total at June 30, 2011

     586      $ 25.11   
  

 

 

   

 

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

 

     2011      2010  

Intrinsic value

   $ 1,695       $ 894   

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 $392 and $230 to retained earnings during the six months ended June 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 June 30, 2011 there were 1,654 shares of common stock reserved for issuance under the ESPP. During the six months ended June 30, 2011, the Company issued 59 shares under the ESPP.

Note 5: Long-Term Debt

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

 

     Rate     Weighted
Average  Rate
   

Maturity

Date

   June  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      3,089,488         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      1,211,435         1,201,723   

Mortgage bonds

            

Fixed rate

     5.48%-9.71     7.40   2011-2039      697,898         730,991   

Mandatory redeemable preferred stock

     4.60%-9.75     8.41   2013-2036      22,841         22,844   

Notes payable and other (b)

     9.49%-13.96     11.88   2013-2026      1,895         5,689   
         

 

 

    

 

 

 

Long-term debt

            5,346,167         5,401,553   

Unamortized debt discount, net (c)

            45,911         51,154   

Fair value adjustment to interest rate hedge

            1,088         (345
         

 

 

    

 

 

 

Total long-term debt

          $ 5,393,166       $ 5,452,362   
         

 

 

    

 

 

 

 

(a) AWCC, a wholly-owned subsidiary of the Company, has a strong support agreement with its parent, which under certain circumstances, is the functional equivalent of a guarantee.
(b) Includes capital lease obligations of $1,373 and $5,076 at June 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    $ 12,275   
          

 

 

 

Total issuances

           $ 12,275   
          

 

 

 

The following long-term debt was retired through optional redemption 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    $ 28,208   

Other subsidiaries

   Mortgage bonds – fixed rate      8.21%-9.71   2011-2022      33,093   

Other subsidiaries

   Private activity bonds and government funded debt      0.00%-5.90   2011-2032      2,600   

Other subsidiaries

   Mandatory redeemable preferred stock      4.75%-5.75   2017-2019      6   

Other

   Capital leases and other           3,794   
          

 

 

 

Total retirements & redemptions

           $ 67,701   
          

 

 

 

 

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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.

Interest income included in interest, net is summarized below:

 

     Three Months  Ended
June 30,
     Six Months Ended
June 30,
 
     2011      2010      2011      2010  

Interest income

   $ 2,663       $ 2,613       $ 5,339       $ 4,917   

On July 12, 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 June 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:

 

      June 30,
2011
     December 31,
2010
 

Balance sheet classification

     

Regulatory and other long-term assets

     

Other

   $ 716       $ 0   

Regulatory and other long-term liabilities

     

Other

   $ 0       $ 898   

Long-term debt

     

Long-term debt

   $ 1,088       $ (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
June 30,
     Six Months  Ended
June 30,
 
     2011     2010      2011     2010  

Interest, net

         

Gain (loss) on swap

   $ 2,767      $ 0       $ 1,614      $ 0   

Gain (loss) on borrowing

   $ (2,420   $ 0       $ (1,433   $ 0   

Hedge ineffectiveness

   $ 347      $ 0       $ 181      $ 0   

Note 6: Short-Term Debt

The components of short-term debt are as follows:

 

     June 30,
2011
     December 31,
2010
 

Revolving credit lines

   $ 0       $ 2,734   

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

     425,970         175,290   

Bank overdraft

     23,970         50,478   
  

 

 

    

 

 

 

Total short-term debt

   $ 449,940       $ 228,502   
  

 

 

    

 

 

 

 

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Note 7: Income Taxes

The Company’s estimated annual effective tax rate for the six months ended June 30, 2011 was 40.5% compared to 40.4% for the six months ended June 30, 2010, excluding various discrete items. The Company’s actual effective tax rates on continuing operations were as follows:

 

     Three Months  Ended
June 30,
    Six Months  Ended
June 30,
 
     2011     2010     2011     2010  

Actual effective tax rate on continuing operations

     40.7     40.6     40.7     40.0

Note 8: Pension and Other Postretirement Benefits

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

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Components of net periodic pension benefit cost

        

Service cost

   $ 8,411      $ 7,668      $ 16,821      $ 15,337   

Interest cost

     17,261        16,901        34,523        33,801   

Expected return on plan assets

     (18,027     (14,187     (36,054     (28,375

Amortization of:

        

Prior service cost

     181        80        361        161   

Actuarial loss

     4,637        4,475        9,275        8,951   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic pension benefit cost

   $ 12,463      $ 14,937      $ 24,926      $ 29,875   
  

 

 

   

 

 

   

 

 

   

 

 

 
     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
     2011     2010     2011     2010  

Components of net periodic other postretirement benefit cost

        

Service cost

   $ 3,484      $ 3,666      $ 6,969      $ 7,332   

Interest cost

     7,804        8,038        15,609        16,075   

Expected return on plan assets

     (7,194     (6,093     (14,389     (12,186

Amortization of:

        

Transition obligation

     0        44        0        87   

Prior service credit

     (481     (295     (962     (590

Actuarial loss

     1,784        2,039        3,567        4,079   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic other postretirement benefit cost

   $ 5,397      $ 7,399      $ 10,794      $ 14,797   
  

 

 

   

 

 

   

 

 

   

 

 

 

The Company contributed $58,400 to its defined benefit pension plan in the first six months of 2011, and expects to contribute $81,200 during the balance of 2011. In addition, the Company contributed $13,606 for the funding of its other postretirement plans in the first six months of 2011 and expects to contribute $13,606 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 June 30, 2011, the Company has accrued approximately $1,300 as probable costs and it is reasonably possible that additional losses could range up to $11,300 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 $2,048,000 at June 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 $1,119,000 at June 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.

 

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Table of Contents

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 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 June 30, 2011 and December 31, 2010, respectively. At June 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 June 30, 2011 and December 31, 2010 include $10,011 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
June 30,
     Six Months Ended
June 30,
 
     2011      2010      2011      2010  

Basic:

           

Income from continuing operations

   $ 74,653       $ 68,021       $ 115,383       $ 97,204   

Income from discontinued operations, net of tax

     9,913         4,730         16,515         6,355   

Net income

     84,566         72,751         131,898         103,559   

Less: Distributed earnings to common shareholders

     38,810         36,797         77,461         73,575   

Less: Distributed earnings to participating securities

     19         13         35         23   
  

 

 

    

 

 

    

 

 

    

 

 

 

Undistributed earnings

     45,737         35,941         54,402         29,961   

Undistributed earnings allocated to common shareholders

     45,716         35,930         54,378         29,953   

Undistributed earnings allocated to participating securities

     21         11         24         8   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income from continuing operations available to common shareholders, basic

   $ 74,613       $ 67,997       $ 115,324       $ 97,173   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income available to common shareholders, basic

   $ 84,526       $ 72,727       $ 131,839       $ 103,528   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding, basic

     175,469         174,774         175,364         174,747   
  

 

 

    

 

 

    

 

 

    

 

 

 

Basic earnings per share: (a)

           

Income from continuing operations

   $ 0.43       $ 0.39       $ 0.66       $ 0.56   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, net of tax

   $ 0.06       $ 0.03       $ 0.09       $ 0.04   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net income

   $ 0.48       $ 0.42       $ 0.75       $ 0.59   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) Amounts may not sum due to rounding.

 

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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
June 30,
     Six Months Ended
June 30,
 
     2011      2010      2011      2010  

Diluted:

           

Total income from continuing operations available to common shareholders, basic

   $ 74,613       $ 67,997       $ 115,324       $ 97,173   

Income from discontinued operations, net of tax

     9,913         4,730         16,515         6,355   

Total income available to common shareholders, basic

     84,526         72,727         131,839         103,528   

Undistributed earnings allocated to participating securities

     21         11         24         8   

Total income from continuing operations available to common shareholders, diluted

   $ 74,634       $ 68,008       $ 115,348       $ 97,181   
  

 

 

    

 

 

    

 

 

    

 

 

 

Total income available to common shareholders, diluted

   $ 84,547       $ 72,738       $ 131,863       $ 103,536   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding, basic

     175,469         174,774         175,364         174,747   

Stock-based compensation:

           

Restricted stock units

     475         74         443         70   

Stock options

     473         0         446         0   

Employee stock purchase plan

     2         2         2         3   
  

 

 

    

 

 

    

 

 

    

 

 

 

Weighted average common shares outstanding, diluted

     176,419         174,850         176,255         174,820   
  

 

 

    

 

 

    

 

 

    

 

 

 

Diluted earnings per share: (a)

           

Income from continuing operations

   $ 0.42       $ 0.39       $ 0.65       $ 0.56   
  

 

 

    

 

 

    

 

 

    

 

 

 

Income from discontinued operations, net of tax

   $ 0.06       $ 0.03       $ 0.09       $ 0.04   
  

 

 

    

 

 

    

 

 

    

 

 

 

Net income

   $ 0.48       $ 0.42       $ 0.75       $ 0.59   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(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
June 30,
     Six Months  Ended
June 30,
 
     2011      2010      2011      2010  

Stock options

     729         3,049         729         3,049   

Restricted stock units where certain performance conditions were not met

     139         371         140         371   

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.

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 June 30, 2011

   Carrying
Amount
     Fair Value  

Preferred stocks with mandatory redemption requirements

   $ 22,782       $ 25,914   

Long-term debt (excluding capital lease obligations)

     5,369,011         5,831,275   

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   

 

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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 June 30, 2011 and December 31, 2010, respectively:

 

     At Fair Value as of June 30, 2011  

Recurring Fair Value Measures

   Level 1      Level 2     Level 3      Total  

Assets:

          

Restricted funds

   $ 82,267         —          —         $ 82,267   

Rabbi trust investments

     —         $ 1,031        —           1,031   

Deposits

     1,715         —          —           1,715   

Mark-to-market derivative asset

     —           716        —           716   
                                  

Total assets

   $ 83,982       $ 1,747        —         $ 85,729   
                                  

Liabilities:

          

Deferred compensation obligation

     —         $ 9,232        —         $ 9,232   

Mark-to-market derivative liability

     —           0        —           0   
                                  

Total liabilities

     —           9,232        —           9,232   
                                  

Total net assets (liabilities)

   $ 83,982       $ (7,485     —         $ 76,497   
                                  
     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.

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 six months ended June 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.

 

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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 sale 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 had previously 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 equity and debt financing.

Charges recorded in connection with the discontinued operations and disposals of businesses include estimates that are subject to subsequent adjustments.

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
June 30,
    Six Months Ended
June 30,
 
     2011      2010     2011      2010  

Operating revenues

     $39,954       $ 36,313      $ 72,974       $ 66,346   

Total operating expenses, net

     23,981         28,614        45,880         56,177   
  

 

 

    

 

 

   

 

 

    

 

 

 

Operating income

     15,973         7,699        27,094         10,169   

Other income (expense), net

     154         (718     474         (396
  

 

 

    

 

 

   

 

 

    

 

 

 

Income from discontinued operations before income taxes

     16,127         6,981        27,568         9,773   

Provision for income taxes

     6,214         2,251        11,053         3,418   
  

 

 

    

 

 

   

 

 

    

 

 

 

Income from discontinued operations, net of tax

   $ 9,913       $ 4,730      $ 16,515       $ 6,355   
  

 

 

    

 

 

   

 

 

    

 

 

 

Operating expenses were lower in 2011 due to the cessation of depreciation for assets held for sale totaling $5,179 and $12,932 for the three and six months ended June 30, 2011, respectively.

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

 

     June  30,
2011
     December  31,
2010
 
Assets:      

Total property, plant and equipment

   $ 818,753       $ 817,721   

Current assets

     24,818         17,421   

Regulatory assets

     37,010         35,096   

Goodwill

     54,546         55,107   

Other

     2,075         2,078   
  

 

 

    

 

 

 

Total assets of discontinued operations

   $ 937,202       $ 927,423   
  

 

 

    

 

 

 
     June  30,
2011
     December  31,
2010
 
Liabilities:      

Long-term debt

   $ 12,980       $ 17,272   

Current portion of long-term debt

     12,870         8,668   

Other current liabilities

     26,137         28,526   

Advances for construction

     211,384         214,045   

Regulatory liabilities

     5,705         7,622   

Other

     18,064         18,132   

Contributions in aid of construction

     93,548         90,906   
  

 

 

    

 

 

 

Total liabilities of discontinued operations

   $ 380,688       $ 385,171   
  

 

 

    

 

 

 

 

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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
June 30, 2011
 
     Regulated
Businesses
     Market-Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 594,441       $ 87,799       $ (7,992   $ 674,248   

Depreciation and amortization

     79,797         2,039         5,818        87,654   

Total operating expenses, net

     400,719         81,363         (8,994     473,088   

Income (loss) from continuing operations before income taxes

     138,020         6,988         (19,195     125,813   

Total assets (1)

     12,537,877         264,985         1,544,354        14,347,216   

Capital expenditures (2)

     214,045         1,336         0        215,381   
     As of or for the Three Months Ended
June 30, 2010
 
     Regulated
Businesses
     Market-Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 566,002       $ 75,317       $ (6,409   $ 634,910   

Depreciation and amortization

     74,643         1,807         5,245        81,695   

Total operating expenses, net

     383,803         72,005         (9,182     446,626   

Income (loss) from continuing operations before income taxes

     127,074         5,516         (17,999     114,591  

Total assets (1)

     11,967,739         240,686         1,565,091        13,773,516   

Capital expenditures (2)

     182,774         1,823         0        184,597   
     As of or for the Six Months Ended
June 30, 2011
 
     Regulated
Businesses
     Market-Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 1,122,722       $ 168,288       $ (14,940   $ 1,276,070   

Depreciation and amortization

     158,377         3,879         12,347        174,603   

Total operating expenses, net

     795,066         154,475         (18,150     931,391   

Income (loss) from continuing operations before income taxes

     215,082         14,903         (35,287     194,698   

Total assets (1)

     12,537,877         264,985         1,544,354        14,347,216   

Capital expenditures (2)

     390,017         1,775         0        391,792   
     As of or for the Six Months Ended
June 30, 2010
 
     Regulated
Businesses
     Market-Based
Operations
     Other     Consolidated  

Net operating revenues

   $ 1,055,457       $ 149,843       $ (12,370   $ 1,192,930   

Depreciation and amortization

     148,228         3,708         10,818        162,754   

Total operating expenses, net

     757,167         142,786         (18,902     881,051   

Income (loss) from continuing operations before income taxes

     187,977         10,248         (36,141     162,084   

Total assets (1)

     11,967,739         240,686         1,565,091        13,773,516   

Capital expenditures (2)

     323,058         4,221         0        327,279   

 

(1) The Regulated Businesses segment includes $937,202 and $925,822 of assets of discontinued operations as of June 30, 2011 and 2010, respectively.
(2) The Regulated Businesses segment includes capital expenditures from discontinued operations totaling $11,188 and $12,525 for the six months and $5,197 and $6,919 for the three months ended June 30, 2011 and 2010, respectively.

Note 15: Subsequent Events

In July 2011, the Company entered into an agreement to purchase certain regulated water systems in New York for approximately $71,000. The acquisition is subject to customary closing conditions including regulatory approval by the public utility commission in New York. The purchase is expected to close in early 2012.

 

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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

All financial information in this Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A), reflects only continuing operations. 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, New Mexico and 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. American Water’s net income was $84.6 million for the second quarter of 2011 compared to $72.8 million for the comparable quarter in 2010. Net income for 2011 is higher by $3.2 million or $0.02 earnings per share as a result of 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 $74.7 million for the second quarter of 2011 compared to net income from continuing operations of $68.0 million for the second quarter of 2010. Diluted earnings from continuing operations per average common share was $0.42 for the second quarter of 2011 as compared to $0.39 for the second quarter of 2010.

For the six months ended June 30, 2011, American Water’s net income was $131.9 million compared to $103.6 million for the six months ended June 30, 2010. Net income for 2011 is higher by $7.9 million or $0.04 earnings per share as a result of the cessation of depreciation on assets held by our discontinued operations in accordance with GAAP. Net income from continuing operations was $115.4 million for the six months ended June 30, 2011 compared to net income from continuing operations of $97.2 million for the six months ended June 30, 2010. Diluted income from continuing operations per average common share was $0.65 for the six months ended June 30, 2011 as compared to $0.56 for the six months ended June 30, 2010.

The primary driver contributing to these increases in net income from continuing operations for both the three and six months ended June 30, 2011 was increased revenues resulting from rate increases as well as slightly higher revenues in our Market-Based Operations segment. Partially offsetting these increases were higher operating expenses and depreciation and amortization expense. For further details, see “Consolidated Results of Operations and Variances” and “Segment Results” below.

 

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In 2011, our goals are to start the execution of the portfolio optimization, resolve outstanding rate cases, initiate state specific efforts to address the decline in water usage, continue improvement in our operating 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. The progress that we have made in the first six months of 2011 with respect to these objectives is described below.

Execution 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 brings an additional 1,700 water customers 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 Long Island American Water. In a separate agreement, American Water will sell its eight regulated water systems and one wastewater system in Ohio for approximately $120 million, which includes assumption of approximately $31 million of liabilities. Ohio American Water serves approximately 60,000 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. In April 2011, our Tennessee and our West Virginia rate cases, both of which were filed in 2010, were approved, authorizing additional annualized revenues of $5.6 million effective April 5, 2011 and $5.1 million effective April 19, 2011, respectively.

Also, during the three and six months ended June 30, 2011, we were granted $3.4 million and $14.3 million in additional annualized revenues, respectively, assuming constant sales volumes, from infrastructure charges. The table below provides further details of these charges by state:

 

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

State

     

Pennsylvania

   $ 2.2       $ 7.7   

Missouri

     —           3.6   

Illinois

     0.3         2.0   

Other

     0.9         1.0   
  

 

 

    

 

 

 

Total Infrastructure charges

   $ 3.4       $ 14.3   
  

 

 

    

 

 

 

In addition to our general rate case filings and infrastructure charge filings, also during the quarter we made other filings including cost of capital, pre-construction cost, and interim rates true-ups. We do not expect these filings to have a material impact on our results of operations, financial condition or cash flows. In July 2011, additional annualized revenue of $3.1 million and $0.2 million resulting from infrastructure charges in our Pennsylvania and New York subsidiaries, respectively, became effective.

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.

On August 1, 2011, our Virginia rate case, which was filed in 2010 and for which interim rates had been in effect under bond subject to refund since the third quarter of 2010, was approved. The new rates provide for an additional annualized revenue of $4.3 million for jurisdictional customers and a $0.5 million increase for non-jurisdictional customers which is not subject to commission filing. This increase approximates what we have been collecting since August 2010 under interim rates.

During the second quarter of 2011, we filed general rate cases in Pennsylvania, Iowa, New York, Indiana, New Mexico and Missouri requesting additional annualized revenues of $151.3 million. Additionally, in July 2011, we filed general rate cases in Ohio and New Jersey requesting additional annualized revenue of $8.3 million and $95.5 million, respectively. As of August 3, 2011, including the aforementioned cases, we are awaiting final orders in eleven states, requesting additional annualized revenues of $314.6 million, including Hawaii and Iowa where interim rate increases have been put into effect. The interim rates will continue to be in effect until the final order is issued. There is no assurance that the requested amount of any increase, or any portion of the requested increases, will be granted.

 

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Continue Improvement in Operating Efficiency Ratio for our Regulated Businesses. Our operating efficiency ratio (a non-GAAP measure) is defined as operation and maintenance expense divided by operating revenues where both operation and maintenance expense and operating revenues are adjusted for purchased water expense. Our operating efficiency ratio was 43.2% for the three months ended June 30, 2011 compared to 43.6% for the three months ended June 30, 2010. Our operating efficiency ratio was 45.5% for the six months ended June 30, 2011 compared to 46.2% for the same period in 2010. We evaluate our operating performance using this measure because management believes it is one measure of the efficiency of our regulated operations. This information is intended to enhance an investor’s overall understanding of our operating performance. Operating 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 as a percentage of operating revenues as determined in accordance with GAAP and our operating efficiency ratio for the three and six months ended June 30, 2011 as compared to the same periods ended June 30, 2010.

Regulated Operation and Maintenance Efficiency Ratio (a Non-GAAP Measure)

 

     For the three months ended
June 30,
    For the six months ended
June 30,
 
     2011     2010     2011     2010  
     (In thousands)  

Total regulated operation and maintenance expense

   $ 271,383      $ 261,711      $ 536,336      $ 512,964   

Less: Regulated purchased water

     25,565        26,063        46,380        46,421   
  

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted regulated operation and maintenance expense(a)

   $ 245,818      $ 235,648      $ 489,956      $ 466,543   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total regulated operating revenues

   $ 594,441      $ 566,002      $ 1,122,722      $ 1,055,457   

Less: Regulated purchased water expense*

     25,565        26,063        46,380        46,421   
  

 

 

   

 

 

   

 

 

   

 

 

 

Adjusted regulated operating revenues(b)

   $ 568,876      $ 539,939      $ 1,076,342      $ 1,009,036   
  

 

 

   

 

 

   

 

 

   

 

 

 

Regulated operation and maintenance efficiency ratio(a)/(b)

     43.2     43.6     45.5     46.2

 

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

In regards to our other 2011 goals not explicitly outlined above, we continue to make progress.

Consolidated Results of Operations and Variances

 

     For the three months ended
June 30,
    For the six months ended
June 30,
 
     (In thousands)  
(In thousands)    2011     2010     Favorable
(Unfavorable)
Change
    2011     2010     Favorable
(Unfavorable)
Change
 

Operating revenues

   $ 674,248      $ 634,910      $ 39,338      $ 1,276,070      $ 1,192,930      $ 83,140   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

            

Operation and maintenance

     332,310        314,016        (18,294     647,677        614,599        (33,078

Depreciation and amortization

     87,654        81,695        (5,959     174,603        162,754        (11,849

General taxes

     53,096        50,889        (2,207     108,815        103,743        (5,072

Loss (gain) on sale of assets

     28        26        (2     296        (45     (341
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses, net

     473,088        446,626        (26,462     931,391        881,051        (50,340
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating income

     201,160        188,284        12,876        344,679        311,879        32,800   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expenses)

            

Interest, net

     (78,504     (78,444     (60     (154,724     (156,888     2,164   

Allowance for other funds used during construction

     2,535        2,305        230        5,363        4,414        949   

Allowance for borrowed funds used during construction

     1,198        1,194        4        2,402        2,547        (145

Amortization of debt expense

     (1,255     (735     (520     (2,547     (1,927     (620

Other, net

     679        1,987        (1,308     (475     2,059        (2,534
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expenses)

     (75,347     (73,693     (1,654     (149,981     (149,795     (186
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

     125,813        114,591        11,222        194,698        162,084        32,614   

Provision for income taxes

     51,160        46,570        (4,590     79,315        64,880        (14,435
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

     74,653        68,021        6,632        115,383        97,204        18,179   

Income from discontinued operations, net of tax

     9,913        4,730        5,183        16,515        6,355        10,160   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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Table of Contents
     For the three months ended
June 30,
     For the six months ended
June 30,
 
     (In thousands)  
(In thousands)    2011      2010      Favorable
(Unfavorable)

Change
     2011      2010      Favorable
(Unfavorable)
Change
 

Net income

   $ 84,566       $ 72,751       $ 11,815       $ 131,898       $ 103,559       $ 28,339   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Basic earnings per common share:(a)

                 

Income from continuing operations

   $ 0.43       $ 0.39          $ 0.66       $ 0.56      
  

 

 

    

 

 

       

 

 

    

 

 

    

Income from discontinued operations, net of tax

   $ 0.06       $ 0.03          $ 0.09       $ 0.04      
  

 

 

    

 

 

       

 

 

    

 

 

    

Net income

   $ 0.48       $ 0.42          $ 0.75       $ 0.59      
  

 

 

    

 

 

       

 

 

    

 

 

    

Diluted earnings per common share:(a)

                 

Income from continuing operations

   $ 0.42       $ 0.39          $ 0.65       $ 0.56      
  

 

 

    

 

 

       

 

 

    

 

 

    

Income from discontinued operations, net of tax

   $ 0.06       $ 0.03          $ 0.09       $ 0.04      
  

 

 

    

 

 

       

 

 

    

 

 

    

Net income

   $ 0.48       $ 0.42          $ 0.75       $ 0.59      
  

 

 

    

 

 

       

 

 

    

 

 

    

Average common shares outstanding during the period:

                 

Basic

     175,469         174,774            175,364         174,747      

Diluted

     176,419         174,850            176,255         174,820      

 

(a) amounts may not sum due to rounding

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

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

Operating revenues. Consolidated operating revenues for the three months ended June 30, 2011 increased $39.3 million, or 6.2%, compared to the same period in 2010. This change reflects a $28.4 million increase in our Regulated Businesses segment which was mainly attributable to rate increases and a $12.5 million increase in our Market-Based Operations segment, which was primarily due to a $10.8 million increase in the Contract Operations Group revenues. 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 June 30, 2011 increased $18.3 million, or 5.8%, compared to the same period in 2010. This change was driven by a $9.7 million increase in our Regulated Businesses segment and a $9.0 million increase in our Market-Based Operations segment. For further information see the respective “Operation and Maintenance” discussions within the “Segment Results.”

Depreciation and amortization. Depreciation and amortization expense increased by $6.0 million, or 7.3%, for the three months ended June 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 $2.2 million, or 4.3%, for the three months ended June 30, 2011 compared to the three months ended June 30, 2010. This increase was principally due to higher gross receipts taxes of $1.1 million, primarily in our New Jersey regulated subsidiary, as well as higher payroll taxes and property taxes.

Other income (expenses). Interest expense, net of interest income, which is the primary component of our other income (expenses), increased by $0.1 million, or 0.1% for the three months ended June 30, 2011 compared to the same period in the prior year. 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 outstanding issues and uncertainties.

Provision for income taxes. Our consolidated provision for income taxes increased $4.6 million, or 9.9%, to $51.2 million for the three months ended June 30, 2011. The effective tax rates for the three months ended June 30, 2011 and 2010 were 40.7% and 40.6%, respectively.

 

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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 June 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 June 30, 2011 would have been reduced by $3.2 million and $0.02, respectively.

Six Months Ended June 30, 2011 Compared To Six Months Ended June 30, 2010

Operating revenues. Consolidated operating revenues for the six months ended June 30, 2011 increased $83.1 million, or 7.0%, compared to the same period in 2010. This change reflects a $67.3 million increase in our Regulated Businesses segment which was mainly attributable to rate increases and an $18.4 million increase in our Market-Based Operations segment, which was primarily the result of a $14.3 million increase in the Contract Operations Group revenues. For further information see the respective “Operating Revenues” discussions within the “Segment Results.”

Operation and maintenance. Consolidated operation and maintenance expense for the six months ended June 30, 2011 increased $33.1 million, or 5.4%, compared to the same period in 2010. This change was driven by a $23.4 million increase in our Regulated Businesses segment and a $10.8 million increase in our Market-Based Operations segment. For further information see the respective “Operation and Maintenance” discussions within the “Segment Results.”

Depreciation and amortization. Depreciation and amortization expense increased by $11.8 million, or 7.3%, for the six months ended June 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 $5.1 million, or 4.9%, for the six months ended June 30, 2011 compared to the six months ended June 30, 2010. This increase was principally due to higher gross receipts taxes of $2.4 million, primarily in our New Jersey regulated subsidiary, as well as property taxes of $1.5 million and higher payroll taxes of $1.4 million.

Other income (expenses). Interest expense, net of interest income, which is the primary component of our other income (expenses), decreased by $2.2 million, or 1.4% for the six months ended June 30, 2011 compared to the same period in the prior year. This decrease reflects the recognition of $3.1 million in unamortized debt discounts associated with debt that was called and retired 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.

Provision for income taxes. Our consolidated provision for income taxes increased $14.4 million, or 22.2%, to $79.3 million for the six months ended June 30, 2011. The effective tax rates for the six months ended June 30, 2011 and 2010 were 40.7% and 40.0%, respectively. The effective tax rate in 2010 included a discrete item.

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 and Texas subsidiaries in accordance with GAAP for the six months ended June, 2011. Had these assets been depreciated in 2011, net income and earnings per share for the six months ended June 30, 2011 would have been reduced by $7.9 million and $0.05, 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.

Regulated Segment

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

 

 

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     For the three months ended
June 30,
     For the six months ended
June 30,
 
     2011      2010      Increase      2011      2010      Increase  
     (In thousands)         

Operating revenues

   $ 594,441       $ 566,002       $ 28,439       $ 1,122,722       $ 1,055,457       $ 67,265   

Operation and maintenance expense

     271,383         261,711         9,672         536,336         512,964         23,372   

Operating expenses, net

     400,719         383,803         16,916         795,066         757,167         37,899   

Income from continuing operations before income taxes

     138,020         127,074         10,946         215,082         187,977         27,105   

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 $28.4 million, or 5.0%, for the three months ended June 30, 2011 and $67.3 million, or 6.4%, for the six months ended June 30, 2011, respectively, 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 $41.0 million and $87.5 million for the three and six months ending June 30, 2011, respectively. Partially offsetting the rate related increases were decreased revenues of $15.7 million and $23.1 million for the three and six months ending June 30, 2011, respectively, which is attributable to decreased consumption in 2011 compared 2010.

The following table sets forth the percentage of Regulated Businesses’ revenues and billed water sales volume by customer class:

 

     For the three months ended June 30,  
     2011     2010*     2011     2010*  
     Operating Revenues     Billed Water Sales Volume  
     (Dollars in thousands, gallons in millions)  

Customer Class

                    

Water service:

                    

Residential

   $ 335,772         56.5   $ 321,193         56.8     42,473         51.0     44,222         51.1

Commercial

     117,829         19.8     110,191         19.5     19,103         22.9     19,674         22.8

Industrial

     30,392         5.1     28,324         5.0     9,491         11.4     9,563         11.1

Public and other

     74,796         12.6     73,005         12.9     12,211         14.7     13,005         15.0

Other water revenues

     6,019         1.0     7,414         1.3     —           —          —           —     
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total water revenues

     564,808         95.0     540,127         95.5     83,278         100.0     86,464         100.0
            

 

 

    

 

 

   

 

 

    

 

 

 

Wastewater service

     19,411         3.3     17,147         3.0          

Other revenues

     10,222         1.7     8,728         1.5          
  

 

 

    

 

 

   

 

 

    

 

 

           
   $ 594,441         100.0   $ 566,002         100.0          
  

 

 

    

 

 

   

 

 

    

 

 

           

 

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

 

     For the six months ended June 30,  
     2011     2010*     2011     2010*  
     Operating Revenues     Billed Water Sales Volume  
     (Dollars in thousands, gallons in millions)  

Customer Class

                    

Water service:

                    

Residential

   $ 633,217         56.4   $ 596,055         56.5     81,610         50.7     83,801         50.9

Commercial

     219,069         19.5     206,287         19.5     36,453         22.7     37,131         22.5

Industrial

     57,049         5.1     52,918         5.0     18,761         11.7     18,619         11.3

Public and other

     144,842         12.9     136,755         13.0     24,026         14.9     25,136         15.3

Other water revenues

     11,318         1.0     13,474         1.3     —           —          —           —     
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total water revenues

     1,065,495         94.9     1,005,489         95.3     160,850         100.0     164,687         100.0
            

 

 

    

 

 

   

 

 

    

 

 

 

Wastewater service

     37,902         3.4     33,729         3.2          

Other revenues

     19,325         1.7     16,239         1.5          
  

 

 

    

 

 

   

 

 

    

 

 

           
   $ 1,122,722         100.0   $ 1,055,457         100.0          
  

 

 

    

 

 

   

 

 

    

 

 

           

 

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

 

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Table of Contents

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.

Water Services – Water service operating revenues from residential customers for the three and six months ended June 30, 2011 totaled $335.8 million, a $14.6 million increase, or 4.5%, and $633.2 million, a $37.2 million increase, or 6.2% over the same period of 2010, respectively, mainly due to rate increases partially offset by decreases in sales volume. The volume of water sold to residential customers decreased by 4.0% for the three months ended June 30, 2011 to 42.5 billion gallons, from 44.2 billion gallons for the same period in 2010. The volume of water sold to residential customers decreased by 2.6% for the six months ended June 30, 2011 to 81.6 billion gallons, from 83.8 billion gallons for the same period in 2010. We believe that factors contributing to the decline could include the current economic climate, weather and an increased customer focus on conservation. 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 months ended June 30, 2011 increased by $7.6 million, or 6.9%, to $117.8 million for the same period in 2010. Water service operating revenues from commercial water customers for the six months ended June 30, 2011 increased by $12.8 million, or 6.2%, to $219.1 million, compared to June 30, 2010. These increases were mainly due to rate increases partially offset by decreases in sales volume. The volume of water sold to commercial customers decreased by 2.9% for the three months ended June 30, 2011, to 19.1 billion gallons, from 19.7 billion gallons for the three months ended June 30, 2010. Water volume sold to commercial customers decreased by 1.8% for the six months ended June 30, 2011, to 36.5 billion gallons, from 37.1 billion gallons compared to the same period in 2010.

Water service operating revenues from industrial customers totaled $30.4 million for the three months ended June 30, 2011, an increase of $2.1 million, or 7.3%, from those recorded for the same period of 2010, mainly due to rate increases offset by a slight decrease in sales volume. The volume of water sold to industrial customers totaled 9.5 billion gallons for the three months ended June 30, 2011, a decrease of 0.8% from the 9.6 billion gallons for the three months ended June 30, 2010. For the six months ended June 30, 2011, water service operating revenues from industrial customers totaled $57.0 million, an increase of $4.1 million, or 7.8%, compared to the same period of 2010, mainly due to rate increases in addition to a slight increase in sales volume. The volume of water sold to industrial customers totaled 18.8 billion gallons for the six months ended June 30, 2011, an increase of 0.8% from the 18.6 billion gallons for the six months ended June 30, 2010.

Water service operating revenues from public and other customers, including municipal governments, other governmental entities and resale customers increased $1.8 million, or 2.5% to $74.8 million, for the three months ended June 30, 2011 from $73.0 million in the same period of 2010. For the six months ended June 30, 2011, these revenues increased $8.1 million, or 5.9% to $144.8 million, from $136.8 million in 2010, mainly due to rate increases. Revenues from municipal governments for fire protection services and customers requiring special private fire service facilities totaled $31.6 million for the three months ended June 30, 2011, an increase of $1.6 million compared to the same period of 2010. Revenues from municipal governments for fire protection services and customers requiring special private fire service facilities totaled $63.3 million for the six months ended June 30, 2011, an increase from 2010 of $5.3 million. Revenues generated by sales to governmental entities and resale customers totaled $43.2 million, an increase of $0.2 million and $81.5 million, an increase of $2.8 million from the three and six months ended June 30, 2010, respectively.

Wastewater services – Our subsidiaries provide wastewater services in 9 states. Revenues from these services increased by $2.3 million, or 13.2%, to $19.4 million for the three months ended June 30, 2011, from the same period of 2010. Revenues from these services for the six months ended June 30, 2011 increased by $4.2 million, or 12.4%, to $37.9 million, compared to the same period of 2010. The increases in both periods were 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 six months ended June 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 increased $9.7 million, or 3.7%, for the three months ended June 30, 2011, compared to the three months ended June 30, 2010. Operation and maintenance expense increased $23.3 million, or 4.6%,

 

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Table of Contents

for the six months ended June 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 six months ended June 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 June 30,     For the six months ended June 30,  
     2011      2010      Increase
(Decrease)
    Percentage     2011      2010      Increase
(Decrease)
    Percentage  
     (Dollars in thousands)  

Production costs

   $ 65,711       $ 65,857       $ (146     (0.2 %)    $ 124,284       $ 123,483       $ 801        0.6

Employee-related costs

     119,909         115,672         4,237        3.7     242,491         233,459         9,032        3.9

Operating supplies and services

     47,899         41,491         6,408        15.4     96,726         84,653         12,073        14.3

Maintenance materials and services

     16,187         17,784         (1,597     (9.0 %)      33,643         33,539         104        0.3

Customer billing and accounting

     13,040         13,209         (169     (1.3 %)      21,137         22,842         (1,705     (7.5 %) 

Other

     8,637         7,698         939        12.2     18,055         14,988         3,067        20.5
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

Total

   $ 271,383       $ 261,711       $ 9,672        3.7   $ 536,336       $ 512,964       $ 23,372        4.6
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

Production costs, by major expense type were as follows:

 

     For the three months ended June 30,     For the six months ended June 30,  
     2011      2010      Increase
(Decrease)
    Percentage     2011      2010      Increase
(Decrease)
    Percentage  
     (Dollars in thousands)  

Fuel and power

   $ 21,401       $ 20,355       $ 1,046        5.1   $ 41,470       $ 41,043       $ 427        1.0

Purchased Water

     25,565         26,063         (498     (1.9 %)      46,380         46,421         (41     (0.1 %) 

Chemicals

     11,728         12,524         (796     (6.4 %)      22,005         22,860         (855     (3.7 %) 

Waste disposal

     7,017         6,915         102        1.5     14,429         13,159         1,270        9.7
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

Total

   $ 65,711       $ 65,857       $ (146     (0.2 %)    $ 124,284       $ 123,483       $ 801        0.6
  

 

 

    

 

 

    

 

 

     

 

 

    

 

 

    

 

 

   

Overall production costs remained relatively unchanged for the three and six months ended June 30, 2011 compared to the same period in the prior year.

Employee-related costs, including wage and salary, group insurance, and pension expense, increased $4.2 million or 3.7%, for the three months ended June 30, 2011 compared to the same period in the prior year. These employee-related costs represent approximately 44% of operation and maintenance expense for the three months ended June 30, 2011 and 2010. These costs also increased $9.0 million or 3.9%, for the six months ended June 30, 2011 compared to the same period in the prior year. These employee-related costs represent approximately 45% of operation and maintenance expense for the six months ended June 30, 2011 and 2010. The following table provides information with respect to components of employee-related costs for the three and six months ended June 30, 2011 and 2010:

 

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

Salaries and wages

   $ 81,227       $ 80,310       $ 917         1.1   $ 161,876       $ 160,630       $ 1,246         0.8

Pensions

     15,685         13,081         2,604         19.9     32,841         26,572         6,269         23.6

Group insurance

     18,549         18,339         210         1.2     38,719         38,128         591         1.6

Other benefits

     4,448         3,942         506         12.8     9,055         8,129         926         11.4
  

 

 

    

 

 

    

 

 

      

 

 

    

 

 

    

 

 

    

Total

   $ 119,909       $ 115,672       $ 4,237         3.7   $ 242,491       $ 233,459       $ 9,032         3.9
  

 

 

    

 

 

    

 

 

      

 

 

    

 

 

    

 

 

    

 

25


Table of Contents

The overall increase in employee-related costs was primarily driven by increased pension expense. The increase in pension expense for the three and six months ended June 30, 2011 was primarily due to increased contributions in certain of our regulated operating companies whose costs are recovered based on our funding policy, which is to fund at least the minimum amount required by the Employee Retirement Income Security Act of 1974. In addition, labor increased for both the three and the six months ended June 30, 2011 compared to the same periods in the prior year and was driven by wage increases partially offset by an increase in capitalized labor, vacancies and lower severance expenses.

Operating supplies and services include the day-to-day expenses of office operation, legal and other professional services, including transportation expenses, information systems rental charges and other office equipment rental charges. These costs increased $6.4 million, or 15.4% and $12.1 million, or 14.3%, for the three and six months ended June 30, 2011, respectively. These increases are primarily due to higher contracted services of $4.3 million and $8.1 million for the three and six months ended June 30, 2011, respectively, mainly as a result of backfilling positions, including those left open by our business transformation project as well as the use of contractors for other specific projects. Also contributing to the variance were higher transportation costs, as a result of the increased cost of gasoline, and higher travel and general office related expenses.

Other operation and maintenance expenses include casualty and liability insurance premiums and regulatory costs. The increase in these costs was driven by higher insurance costs for the three and six months ended June 30, 2011, as 2010 insurance costs reflected incremental credits resulting from positive resolution of prior years’ claims.

Operating expenses. The increase in operating expenses for the three and six months ended June 30, 2011 is primarily due to the increase in operation and maintenance expense, as explained above, higher depreciation expense of $5.2 million and $10.1 million, respectively, resulting from additional utility plant placed in service, and increased general taxes of $2.2 million and $4.5 million, respectively, principally attributable to higher gross receipts taxes in our New Jersey regulated subsidiary and higher property taxes.

Income from continuing operations before income taxes. The $10.9 million and $27.1 million increase, respectively, for the three months and six months ended June 30, 2011, compared to the same period in the prior year, is the result of the aforementioned operating revenue and operating expenses variations.

Market-Based Operations

The following table provides certain financial information for our Market-Based Operations segment for the periods indicated:

 

     For the three months ended
June 30,
     For the six months ended
June 30,
 
     2011      2010      Increase      2011      2010      Increase  
     (In thousands)  

Operating revenues

   $ 87,799       $ 75,317       $ 12,482       $ 168,288       $ 149.843       $ 18,445   

Operation and maintenance expense

     77,855         68,847         9,008         146,936         136,178         10,758   

Operating expenses, net

     81,363         72,005