wtr-2017-3-31

Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON DC  20549

FORM 10-Q

(Mark One) 

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

For the quarterly period ended March 31, 2017 

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

For the transition period from_______________ to _______________

Commission File Number 1-6659 

AQUA AMERICA, INC. 

(Exact name of registrant as specified in its charter) 





 

 

 

Pennsylvania

23-1702594

(State or other jurisdiction of

(I.R.S. Employer

incorporation or organization)

Identification No.)



 

762 W. Lancaster Avenue, Bryn Mawr, Pennsylvania

19010 -3489

(Address of principal executive offices)

(Zip Code)



 

(610) 527-8000

(Registrant’s telephone number, including area code)



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



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes   No 



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



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



 

Large accelerated filer 

Accelerated filer 

Non-accelerated filer  (do not check if a smaller reporting company)

Smaller reporting company 

Emerging growth company  

 



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



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

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of  

April 24, 2017:  177,601,658

  

 


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES

 



TABLE OF CONTENTS



 



Page

Part I – Financial Information



 

Item 1.  Financial Statements:

 



 

Consolidated Balance Sheets (unaudited) – March 31, 2017 and December 31, 2016

 

 

Consolidated Statements of Net Income (unaudited) –
Three Months Ended March 31, 2017 and 2016



 

Consolidated Statements of Comprehensive Income (unaudited) –
Three Months Ended March 31, 2017 and 2016



 

Consolidated Statements of Capitalization (unaudited) –
March 31, 2017 and December 31, 2016



 

Consolidated Statement of Equity (unaudited) –
Three Months Ended March 31, 2017



 

Consolidated Statements of Cash Flow (unaudited) –
Three Months Ended March 31, 2017 and 2016



 

Notes to Consolidated Financial Statements (unaudited)



 

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

22 



 

Item 3.  Quantitative and Qualitative Disclosures About Market Risk

26 



 

Item 4.  Controls and Procedures

26 



Part II – Other Information



 

Item 1.  Legal Proceedings

26 



 

Item 1A.  Risk Factors

26 



 

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

27 



 

Item 6.  Exhibits

27 



 

Signatures

28 



 

Exhibit Index

29 





 

1


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

 

CONSOLIDATED BALANCE SHEETS 

(In thousands of dollars, except per share amounts) 

(UNAUDITED)





 

 

 

 

 

 



 

 

 

 

 



 

March 31,

 

December 31,

Assets

 

2017

 

2016

Property, plant and equipment, at cost

 

$

6,590,830 

 

$

6,509,117 

Less:  accumulated depreciation

 

 

1,533,004 

 

 

1,507,502 

Net property, plant and equipment

 

 

5,057,826 

 

 

5,001,615 

Current assets:

 

 

 

 

 

 

Cash and cash equivalents

 

 

4,425 

 

 

3,763 

Accounts receivable and unbilled revenues, net

 

 

89,409 

 

 

97,394 

Inventory, materials and supplies

 

 

13,977 

 

 

12,961 

Prepayments and other current assets

 

 

12,727 

 

 

12,804 

Assets held for sale

 

 

1,925 

 

 

1,728 

Total current assets

 

 

122,463 

 

 

128,650 



 

 

 

 

 

 

Regulatory assets

 

 

974,853 

 

 

948,647 

Deferred charges and other assets, net

 

 

31,192 

 

 

30,845 

Investment in joint venture

 

 

6,995 

 

 

7,026 

Goodwill

 

 

42,266 

 

 

42,208 

Total assets

 

$

6,235,595 

 

$

6,158,991 

Liabilities and Equity

 

 

 

 

 

 

Stockholders' equity:

 

 

 

 

 

 

Common stock at $.50 par value, authorized 300,000,000 shares, issued 180,566,113 and 180,311,345 as of March 31, 2017 and December 31, 2016

 

$

90,283 

 

$

90,155 

Capital in excess of par value

 

 

800,420 

 

 

797,513 

Retained earnings

 

 

1,048,963 

 

 

1,032,844 

Treasury stock, at cost, 2,983,005 and 2,916,969 shares as of March 31, 2017 and December 31, 2016

 

 

(73,166)

 

 

(71,113)

Accumulated other comprehensive income

 

 

727 

 

 

669 

Total stockholders' equity

 

 

1,867,227 

 

 

1,850,068 



 

 

 

 

 

 

Long-term debt, excluding current portion

 

 

1,819,568 

 

 

1,759,962 

Less:  debt issuance costs

 

 

22,057 

 

 

22,357 

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

 

 

1,797,511 

 

 

1,737,605 

Commitments and contingencies (See Note 13)

 

 

 -

 

 

 -



 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

Current portion of long-term debt

 

 

119,296 

 

 

150,671 

Loans payable

 

 

27,732 

 

 

6,535 

Accounts payable

 

 

50,185 

 

 

59,872 

Accrued interest

 

 

20,624 

 

 

18,367 

Accrued taxes

 

 

24,092 

 

 

25,607 

Other accrued liabilities

 

 

35,671 

 

 

40,484 

Total current liabilities

 

 

277,600 

 

 

301,536 



 

 

 

 

 

 

Deferred credits and other liabilities:

 

 

 

 

 

 

Deferred income taxes and investment tax credits

 

 

1,301,189 

 

 

1,269,253 

Customers' advances for construction

 

 

90,391 

 

 

91,843 

Regulatory liabilities

 

 

245,294 

 

 

250,635 

Other

 

 

110,097 

 

 

115,583 

Total deferred credits and other liabilities

 

 

1,746,971 

 

 

1,727,314 



 

 

 

 

 

 

Contributions in aid of construction

 

 

546,286 

 

 

542,468 

Total liabilities and equity

 

$

6,235,595 

 

$

6,158,991 



 

 

 

 

 

 

See notes to consolidated financial statements beginning on page 8 of this report.

 



 

2


 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

CONSOLIDATED STATEMENTS OF NET INCOME

(In thousands, except per share amounts)

(UNAUDITED)







 

 

 

 

 

 



 

Three Months Ended



 

March 31,



 

2017

 

2016

Operating revenues

 

$

187,787 

 

$

192,607 



 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

 

Operations and maintenance

 

 

69,128 

 

 

73,541 

Depreciation

 

 

33,837 

 

 

32,145 

Amortization

 

 

189 

 

 

450 

Taxes other than income taxes

 

 

14,737 

 

 

14,140 

Total operating expenses

 

 

117,891 

 

 

120,276 



 

 

 

 

 

 

Operating income

 

 

69,896 

 

 

72,331 



 

 

 

 

 

 

Other expense (income):

 

 

 

 

 

 

Interest expense, net

 

 

21,326 

 

 

19,853 

Allowance for funds used during construction

 

 

(3,193)

 

 

(2,308)

Gain on sale of other assets

 

 

(269)

 

 

(207)

Equity loss in joint venture

 

 

30 

 

 

249 

Income before income taxes

 

 

52,002 

 

 

54,744 

Provision for income taxes

 

 

2,930 

 

 

3,007 

Net income

 

$

49,072 

 

$

51,737 



 

 

 

 

 

 

Net income per common share:

 

 

 

 

 

 

Basic

 

$

0.28 

 

$

0.29 

Diluted

 

$

0.28 

 

$

0.29 



 

 

 

 

 

 

Average common shares outstanding during the period:

 

 

 

 

 

 

Basic

 

 

177,479 

 

 

177,104 

Diluted

 

 

177,969 

 

 

177,819 



 

 

 

 

 

 

Cash dividends declared per common share

 

$

0.1913 

 

$

0.178 



 

 

 

 

 

 

See notes to consolidated financial statements beginning on page 8 of this report.



 

 

 

 

 

 

 



 

3


 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME 

(In thousands of dollars) 

(UNAUDITED)

  





 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Net income

 

$

49,072 

 

$

51,737 

 

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

Unrealized holding gain (loss) on investments, net of tax expense (benefit) of $31 and $(4) for the three months ended March 31, 2017 and 2016, respectively

 

 

58 

 

 

(6)

 

Reclassification of gain on sale of investment to net income, net of tax of $30 for the three months ended March 31, 2016 (1)

 

 

 -

 

 

(57)

 

Comprehensive income

 

$

49,130 

 

$

51,674 

 



 

 

 

 

 

 

 

(1) Amount of pre-tax gain of $87 reclassified from accumulated other comprehensive income to gain on sale of other assets on the consolidated statements of net income for the three months ended March 31, 2016.



 

 

 

 

 

 

 

See notes to consolidated financial statements beginning on page 8 of this report.

 

  



 

4


 

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AQUA AMERICA, INC. AND SUBSIDIARIES 

 

CONSOLIDATED STATEMENTS OF CAPITALIZATION 

(In thousands of dollars, except per share amounts) 

(UNAUDITED)







 

 

 

 

 

 

 



 

 

 

 

 

 



 

 

March 31,

 

December 31,



 

 

2017

 

2016

Stockholders' equity:

 

 

 

 

 

 

 

    Common stock, $.50 par value

 

 

$

90,283 

 

$

90,155 

    Capital in excess of par value

 

 

 

800,420 

 

 

797,513 

    Retained earnings

 

 

 

1,048,963 

 

 

1,032,844 

    Treasury stock, at cost

 

 

 

(73,166)

 

 

(71,113)

    Accumulated other comprehensive income

 

 

727 

 

 

669 

Total stockholders' equity

 

 

 

1,867,227 

 

 

1,850,068 



 

 

 

 

 

 

 

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

 

 

 

 

 

 

Interest Rate Range

Maturity Date Range

 

 

 

 

 

 

0.00% to  0.99%

2023 to 2033

 

 

4,612 

 

 

4,661 

1.00% to  1.99%

2019 to 2035

 

 

14,679 

 

 

15,539 

2.00% to  2.99%

2024 to 2031

 

 

19,813 

 

 

19,668 

3.00% to  3.99%

2019 to 2056

 

 

431,260 

 

 

381,944 

4.00% to  4.99%

2020 to 2054

 

 

439,408 

 

 

487,318 

5.00% to  5.99%

2017 to 2043

 

 

212,953 

 

 

213,078 

6.00% to  6.99%

2017 to 2036

 

 

52,990 

 

 

52,985 

7.00% to  7.99%

2022 to 2027

 

 

32,887 

 

 

33,066 

8.00% to  8.99%

2021 to 2025

 

 

6,453 

 

 

6,565 

9.00% to  9.99%

2018 to 2026

 

 

26,400 

 

 

26,400 

10.00% to 10.99%

2018

 

 

6,000 

 

 

6,000 



 

 

 

1,247,455 

 

 

1,247,224 



 

 

 

 

 

 

 

Notes payable to bank under revolving credit agreement, variable rate, due 2021

 

 

53,000 

 

 

25,000 

Unsecured notes payable:

 

 

 

 

 

 

 

Bank notes at 1.921% and 1.975% due 2017 and 2018

 

 

 

100,000 

 

 

100,000 

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

 

 

245,000 

 

 

245,000 

Notes ranging from 4.62% to 4.87%, due 2017 through 2024

 

 

133,600 

 

 

133,600 

Notes ranging from 5.20% to 5.95%, due 2017 through 2037

 

 

159,809 

 

 

159,809 

Total long-term debt

 

 

 

1,938,864 

 

 

1,910,633 



 

 

 

 

 

 

 

Current portion of long-term debt

 

 

 

119,296 

 

 

150,671 

Long-term debt, excluding current portion

 

 

1,819,568 

 

 

1,759,962 

Less:  debt issuance costs

 

 

 

22,057 

 

 

22,357 

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

 

 

1,797,511 

 

 

1,737,605 



 

 

 

 

 

 

 

Total capitalization

 

 

$

3,664,738 

 

$

3,587,673 



 

 

 

 

 

 

 

See notes to consolidated financial statements beginning on page 8 of this report.



 

 

 

 

 

 

 

 



 



 

5


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

 

CONSOLIDATED STATEMENT OF EQUITY 

(In thousands of dollars)

(UNAUDITED)





 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 



 

 

 

 

Capital in

 

 

 

 

 

 

 

Other

 

 

 



 

Common

 

Excess of

 

Retained

 

Treasury

 

Comprehensive

 

 

 



 

Stock

 

Par Value

 

Earnings

 

Stock

 

Income

 

Total

Balance at December 31, 2016

 

$

90,155 

 

$

797,513 

 

$

1,032,844 

 

$

(71,113)

 

$

669 

 

$

1,850,068 

Net income

 

 

 -

 

 

 -

 

 

49,072 

 

 

 -

 

 

 -

 

 

49,072 

Other comprehensive loss, net of income tax benefit of $31

 

 

 -

 

 

 -

 

 

 -

 

 

 -

 

 

58 

 

 

58 

Dividends

 

 

 -

 

 

 -

 

 

(33,945)

 

 

 -

 

 

 -

 

 

(33,945)

Sale of stock (11,898 shares)

 

 

 

 

354 

 

 

 -

 

 

 -

 

 

 -

 

 

360 

Repurchase of stock (66,036 shares)         

 

 

 -

 

 

 -

 

 

 -

 

 

(2,053)

 

 

 -

 

 

(2,053)

Equity compensation plan (156,359 shares)

 

 

79 

 

 

(79)

 

 

 -

 

 

 -

 

 

 -

 

 

 -

Exercise of stock options (86,511 shares)

 

 

43 

 

 

1,493 

 

 

 -

 

 

 -

 

 

 -

 

 

1,536 

Stock-based compensation

 

 

 -

 

 

1,345 

 

 

10 

 

 

 -

 

 

 -

 

 

1,355 

Cumulative effect of change in accounting principle - windfall tax benefit

 

 

 -

 

 

 -

 

 

982 

 

 

 -

 

 

 -

 

 

982 

Other  

 

 

 -

 

 

(206)

 

 

 -

 

 

 -

 

 

 -

 

 

(206)

Balance at March 31, 2017

 

$

90,283 

 

$

800,420 

 

$

1,048,963 

 

$

(73,166)

 

$

727 

 

$

1,867,227 



Refer to Note 15 - Recent Accounting Pronouncements for a discussion of the cumulative effect of change in accounting principle - windfall tax benefit

See notes to consolidated financial statements beginning on page 8 of this report.

 

  

 

 

6


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

 

CONSOLIDATED STATEMENTS OF CASH FLOW 

(In thousands of dollars) 

(UNAUDITED)



  



 

 

 

 

 

 



 

Three Months Ended



 

March 31,



 

2017

 

2016

Cash flows from operating activities:

 

 

 

 

 

 

Net income

 

$

49,072 

 

$

51,737 

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

 

 

 

 

 

 

Depreciation and amortization

 

 

34,026 

 

 

32,595 

Deferred income taxes

 

 

2,681 

 

 

1,436 

Provision for doubtful accounts

 

 

1,111 

 

 

817 

Stock-based compensation

 

 

1,312 

 

 

806 

Loss (gain) on sale of utility system and market-based business unit

 

 

278 

 

 

(1,215)

Gain on sale of other assets

 

 

(269)

 

 

(207)

Net change in receivables, inventory and prepayments

 

 

5,729 

 

 

5,680 

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

 

 

(4,519)

 

 

4,880 

Pension and other postretirement benefits contributions

 

 

(7,711)

 

 

(2,714)

Other

 

 

(507)

 

 

1,023 

Net cash flows from operating activities

 

 

81,203 

 

 

94,838 

Cash flows from investing activities:

 

 

 

 

 

 

Property, plant and equipment additions, including the debt component of allowance for funds used during construction of $721 and $580

 

 

(94,562)

 

 

(72,984)

Acquisitions of utility systems and other, net

 

 

(220)

 

 

(4,461)

Net proceeds from the sale of utility system and other assets

 

 

639 

 

 

2,853 

Other

 

 

(171)

 

 

(40)

Net cash flows used in investing activities

 

 

(94,314)

 

 

(74,632)

Cash flows from financing activities:

 

 

 

 

 

 

Customers' advances and contributions in aid of construction

 

 

1,585 

 

 

1,273 

Repayments of customers' advances

 

 

(511)

 

 

(349)

Net proceeds of short-term debt

 

 

21,197 

 

 

11,320 

Proceeds from long-term debt

 

 

117,879 

 

 

96,314 

Repayments of long-term debt

 

 

(89,666)

 

 

(80,341)

Change in cash overdraft position

 

 

(2,403)

 

 

(17,250)

Proceeds from issuing common stock

 

 

360 

 

 

332 

Proceeds from exercised stock options

 

 

1,536 

 

 

2,816 

Stock-based compensation windfall tax benefits

 

 

 -

 

 

979 

Repurchase of common stock

 

 

(2,053)

 

 

(2,827)

Dividends paid on common stock

 

 

(33,945)

 

 

(31,513)

Other

 

 

(206)

 

 

(208)

Net cash flows from (used in) financing activities

 

 

13,773 

 

 

(19,454)

Net change in cash and cash equivalents

 

 

662 

 

 

752 

Cash and cash equivalents at beginning of period

 

 

3,763 

 

 

3,229 

Cash and cash equivalents at end of period

 

$

4,425 

 

$

3,981 



Non-cash investing activities:

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

 

$

27,084 

 

$

19,052 

Non-cash customer advances and contributions in aid of construction

 

 

4,282 

 

 

5,425 



 

 

 

 

 

 

Refer to Note 3 - Acquisitions for a description of non-cash activities

 

 

 

 

 

 

See notes to consolidated financial statements beginning on page 8 of this report.

 



 

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Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 1 – Basis of Presentation 



The accompanying consolidated balance sheets and statements of capitalization of Aqua America, Inc. and subsidiaries (the “Company”) at March 31, 2017, the consolidated statements of net income and comprehensive income for the three months ended March 31, 2017 and 2016 the consolidated statements of cash flow for the three months ended March 31, 2017 and 2016, and the consolidated statement of equity for the three months ended March 31, 2017 are unaudited, but reflect all adjustments, consisting of only normal recurring accruals, which are, in the opinion of management, necessary to present a  fair statement of our consolidated financial position, consolidated changes in equity, consolidated results of operations, and consolidated cash flow for the periods presented.  Because they cover interim periods, the statements and related notes to the financial statements do not include all disclosures and notes normally provided in annual financial statements and, therefore, should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.  The results of operations for interim periods may not be indicative of the results that may be expected for the entire year.  The December 31, 2016 consolidated balance sheet data presented herein was derived from the Company’s December 31, 2016 audited consolidated financial statements, but does not include all disclosures and notes normally provided in annual financial statements.



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



There have been no changes to the summary of significant accounting policies previously identified in the Company’s Annual Report on Form 10-K for the year ended December 31, 2016.  

 

Note 2 – Goodwill 



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

 





 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 



 

Regulated

 

 

 

 

 

 



 

Segment

 

Other

 

Consolidated

Balance at December 31, 2016

 

$

37,367 

 

$

4,841 

 

$

42,208 

Goodwill acquired

 

 

72 

 

 

 -

 

 

72 

Reclassification to utility plant acquisition adjustment

 

 

(14)

 

 

 -

 

 

(14)

Balance at March 31, 2017

 

$

37,425 

 

$

4,841 

 

$

42,266 



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

8


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 







  

Note 3 – Acquisitions 



Pursuant to our strategy to grow through acquisitions, in January 2016, the Company acquired Superior Water Company, Inc., which provides public water service to approximately 3,900 customers in portions of Berks, Chester, and Montgomery counties in Pennsylvania.  The total purchase price for the utility system was $16,750, which consisted of the issuance of 439,943 shares of the Company’s common stock and $3,905 in cash.  The purchase price allocation for this acquisition consisted primarily of acquired property, plant and equipment of $25,167, contributions in aid of construction of $16,565, and goodwill of $8,622.  Additionally, during 2016, the Company completed nine acquisitions of water and wastewater utility systems in various states.  The total purchase price of these utility systems consisted of $1,721 in cash, and there was no goodwill recorded.  The pro forma effect of the businesses acquired is not material either individually or collectively to the Company’s results of operations.        

 

Note 4  –  Assets Held for Sale



In the first quarter of 2017, the Company decided to market for sale a water system that serves approximately 265 customers in one of the states where we operate.  As of March 31, 2017, this water system is reported as assets held for sale in the Company’s consolidated balance sheet.



In the second quarter of 2016, the Company decided to market for sale two business units that are reported within the Company’s market-based subsidiary, Aqua Resources.  One business unit installed and tested devices that prevent the contamination of potable water and repaired water and wastewater systems, for which the sale was completed in January 2017.  The other business unit repairs and performs maintenance on water and wastewater systems and as of March 31, 207, this business unit is reported as assets held for sale in the Company’s consolidated balance sheet.







]

Note 5  –  Capitalization 



In January 2017, Aqua Pennsylvania issued $50,000 of first mortgage bonds, of which $10,000 is due in 2042 and $40,000 is due in 2044 with interest rates of 3.65% and 3.69%, respectively. The proceeds from these bonds were used to repay existing indebtedness and for general corporate purposes.

 

Note 6  –  Fair Value of Financial Instruments 

 

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



·

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

 

9


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

·

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

 

·

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



The asset’s or liability’s fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement.  Valuation techniques used need to maximize the use of observable inputs and minimize the use of unobservable inputs.  There have been no changes in the valuation techniques used to measure fair value, or asset or liability transfers between the levels of the fair value hierarchy for the quarter ended March 31, 2017



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



The fair value of loans payable is determined based on its carrying amount and utilizing Level 1 methods and assumptions.    As of March 31, 2017 and December 31, 2016, the carrying amount of the Company’s loans payable was $27,732 and $6,535, respectively, which equates to their estimated fair value.  The fair value of cash and cash equivalents, which is comprised of a money market fund, is determined based on the net asset value per unit utilizing Level 2 methods and assumptions.  As of March 31, 2017 and December 31, 2016, the carrying amounts of the Company's cash and cash equivalents was $4,425 and $3,763, respectively, which equates to their fair value.



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



 

 

 

 

 

 



 

 

 

 

 

 



 

March 31,

 

December 31,



 

2017

 

2016

Carrying Amount

 

$

1,938,864 

 

$

1,910,633 

Estimated Fair Value

 

 

2,009,788 

 

 

2,018,933 

 



The fair value of long-term debt has been determined by discounting the future cash flows using current market interest rates for similar financial instruments of the same duration utilizing Level 2 methods and assumptions.  The Company’s customers’ advances for construction have a carrying value of $90,391 as of March 31, 2017, and $91,843 as of December 31, 2016.  Their relative fair values cannot be accurately estimated because future refund payments depend on several variables, including new customer connections, customer consumption levels, and future rate increases.  Portions of these non-interest bearing instruments are payable annually through 2027 and amounts not paid by the respective contract expiration dates become non-refundable.  The fair value of these amounts would, however, be less than their carrying value due to the non-interest bearing feature.

 

10


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 7  –  Net Income per Common Share 

 

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





 

 

 

 

 



 

 

 

 

 



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Average common shares outstanding during the period for basic computation

 

177,479 

 

177,104 

 

Dilutive effect of employee stock-based compensation

 

490 

 

715 

 

Average common shares outstanding during the period for diluted computation

 

177,969 

 

177,819 

 



 

 

 

 

 



For the three months ended March 31, 2017 and 2016, all of the Company’s employee stock options were included in the calculations of diluted net income per share as the calculated cost to exercise the stock options was less than the average market price of the Company’s common stock during these periods.

 

Note 8  –  Stock-based Compensation 

 

Under the Company’s 2009 Omnibus Equity Compensation Plan, as amended as of February 27, 2014 (the “2009 Plan”), as approved by the Company’s shareholders to replace the 2004 Equity Compensation Plan (the “2004 Plan”), stock options, stock units, stock awards, stock appreciation rights, dividend equivalents, and other stock-based awards may be granted to employees, non-employee directors, and consultants and advisors.  The 2009 Plan authorizes 6,250,000 shares for issuance under the plan.  A maximum of 3,125,000 shares under the 2009 Plan may be issued pursuant to stock awards, stock units and other stock-based awards, subject to adjustment as provided in the 2009 Plan.  During any calendar year, no individual may be granted (i) stock options and stock appreciation rights under the 2009 Plan for more than 500,000 shares of Company stock in the aggregate or (ii) stock awards, stock units or other stock-based awards under the 2009 Plan for more than 500,000 shares of Company stock in the aggregate, subject to adjustment as provided in the 2009 Plan.  Awards to employees and consultants under the 2009 Plan are made by a committee of the Board of Directors of the Company, except that with respect to awards to the Chief Executive Officer, the committee recommends those awards for approval by the non-employee directors of the Board of Directors.  In the case of awards to non-employee directors, the Board of Directors makes such awards.  At March 31, 2017,  3,734,084 shares were still available for issuance under the 2009 Plan.  No further grants may be made under the 2004 Plan.  

 

11


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

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





 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Stock-based compensation within operations and maintenance expenses

 

$

870 

 

$

525 

 

Income tax benefit

 

 

353 

 

 

209 

 

 

The following table summarizes the PSU transactions for the three months ended March 31, 2017:   





 

 

 

 

 

 



 

 

 

 

 

 



 

 

Number

 

Weighted



 

 

of

 

Average



 

 

Share Units

 

Fair Value

Nonvested share units at beginning of period

 

 

476,896 

 

$

27.96 

Granted

 

 

125,679 

 

 

30.79 

Performance criteria adjustment

 

 

(58,533)

 

 

27.78 

Forfeited

 

 

(10,046)

 

 

27.68 

Share units vested in prior period and issued in current period

 

 

32,400 

 

 

25.31 

Share units issued

 

 

(125,999)

 

 

36.37 

Nonvested share units at end of period

 

 

440,397 

 

$

26.20 



 

 

 

 

 

 

 

 

 

A portion of the fair value of PSUs was estimated at the grant date based on the probability of satisfying the market-based conditions using the Monte Carlo valuation method, which assesses probabilities of various outcomes of market conditions.  The other portion of the fair value of the PSUs is based on the fair market value of the Company’s stock at the grant date, regardless of whether the market-based condition is satisfied.  The per unit weighted-average fair value at the date of grant for PSUs granted during the three months ended March 31, 2017 and 2016 was $30.79 and $28.89, respectively.  The fair value of each PSU grant is amortized monthly into compensation expense on a straight-line basis over their respective vesting periods, generally 36 months.  The accrual of compensation costs is based on our estimate of the final expected value of the award, and is adjusted as required for the portion based on the performance-based condition.  The Company assumes that forfeitures will be minimal, and recognizes forfeitures as they occur, which results in a reduction in compensation expense.  As the payout of the PSUs includes dividend equivalents, no separate dividend yield assumption is required in calculating the fair value of the PSUs.  The recording of compensation expense for PSUs has no impact on net cash flows.   



12


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

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



 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Stock-based compensation within operations and maintenance expenses

 

$

281 

 

$

168 

 

Income tax benefit

 

 

116 

 

 

69 

 

 



The following table summarizes the RSU transactions for the three months ended March 31, 2017





 

 

 

 

 

 



 

 

 

 

 

 



 

 

Number

 

Weighted



 

 

of

 

Average



 

 

Stock Units

 

Fair Value

Nonvested stock units at beginning of period

 

 

109,273 

 

$

28.48 

Granted

 

 

41,293 

 

 

30.37 

Stock units vested and issued

 

 

(26,279)

 

 

26.12 

Forfeited

 

 

(1,541)

 

 

30.57 

Nonvested stock units at end of period

 

 

122,746 

 

$

29.59 

 



The per unit weighted-average fair value at the date of grant for RSUs granted during the three months ended March 31, 2017 and 2016 was $30.37 and $32.04, respectively.   



13


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

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



 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Stock-based compensation within operations and maintenance expenses

 

 

30 

 

 

 -

 

Income tax benefit

 

$

92 

 

$

216 

 



 

 

 

 

 

 

 

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





 



2017

Expected term (years)

5.45 

Risk-free interest rate

2.01% 

Expected volatility

17.7% 

Dividend yield

2.51% 

Grant date fair value per option

$       4.07



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



For the three months ended March 31, 2016, there were no compensation costs for stock-based compensation related to stock options, as the previous stock option grant that occurred in 2010 became fully amortized in 2013.  Additionally, there were no stock options granted during the three months ended March 31, 2016



14


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

The following table summarizes stock option transactions for the three months ended March 31, 2017:



 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 



 

 

 

Weighted

 

Weighted

 

 

 



 

 

 

Average

 

Average

 

Aggregate



 

 

 

Exercise

 

Remaining

 

Intrinsic



 

Shares

 

Price

 

Life (years)

 

Value

Outstanding at beginning of period

 

427,335 

 

$

15.55 

 

 

 

 

 

Granted

 

120,473 

 

 

30.47 

 

 

 

 

 

Forfeited

 

(121)

 

 

30.47 

 

 

 

 

 

Expired / Cancelled

 

(2,812)

 

 

14.26 

 

 

 

 

 

Exercised

 

(86,511)

 

 

17.76 

 

 

 

 

 

Outstanding and exercisable at end of period

 

458,364 

 

$

19.06 

 

4.0 

 

$

5,999 

 



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









 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Stock-based compensation within operations and maintenance expenses

 

$

131 

 

$

112 

 

Income tax benefit

 

 

54 

 

 

47 

 



The following table summarizes stock award transactions for the three months ended March 31, 2017:







 

 

 

 

 



 

 

 

 

 



 

Number

 

Weighted



 

of

 

Average



 

Stock Awards

 

Fair Value

Nonvested stock awards at beginning of period

 

 -

 

$

 -

Granted

 

4,081 

 

 

32.15 

Vested

 

(4,081)

 

 

32.15 

Nonvested stock awards at end of period

 

 -

 

$

 -



The per unit weighted-average fair value at the date of grant for stock awards granted during the three months ended March 31, 2017 and 2016 was $32.15 and $31.94, respectively.

 

15


 

Table of Contents

AQUA AMERICA, INC. AND SUBSIDIARIES 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

(In thousands of dollars, except per share amounts)

(UNAUDITED)

 

Note 9  –  Pension Plans and Other Postretirement Benefits   

 

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



 

 

 

 

 

 

 



 

 

 

 

 

 

 



 

Pension Benefits



 

Three Months Ended

 



 

March 31,

 



 

2017

 

2016

 

Service cost

 

$

794 

 

$

826 

 

Interest cost

 

 

3,108 

 

 

3,285 

 

Expected return on plan assets

 

 

(4,270)

 

 

(4,266)

 

Amortization of prior service cost

 

 

145 

 

 

145 

 

Amortization of actuarial loss

 

 

2,001 

 

 

1,760 

 

Settlement charge

 

 

 -

 

 

3,028 

 

Special termination benefit charge

 

 

 -

 

 

302 

 

Net periodic benefit cost

 

$

1,778 

 

$

5,080 

 



 

 

 

 

 

 

 



 

Other



 

Postretirement Benefits



 

 

Three Months Ended