Northwestern Earnings 2019-12-31
NWE 10K Annual Report
| Balance Sheet | Income Statement | Cash Flow |
|---|---|---|
| Comparables ($MM TTM) | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| Ticker | M Cap | Assets | Liab | Rev | G Profit | Net Inc | EBITDA | EV | G Margin | EV/EBITDA | ROA |
| ALE | 4,391 | 5,176 | 2,972 | 1,444 | 1,249 | 196 | 461 | 5,727 | 86% | 12.4 | 4% |
| NWE | 3,734 | 5,720 | 3,710 | 1,244 | 928 | 215 | 448 | 5,881 | 75% | 13.1 | 4% |
| AVA | 2,936 | 5,878 | 3,994 | 1,366 | 0 | 197 | 386 | 4,620 | 0% | 12.0 | 3% |
| UTL | 911 | 1,279 | 533 | 450 | 0 | 44 | 54 | 1,302 | 0% | 24.1 | 3% |
| SPKE | 387 | 397 | 255 | 907 | 160 | 12 | 72 | 452 | 18% | 6.3 | 3% |
| VVPR | 19 | 73 | 51 | 14 | 2 | -1 | -1 | 19 | 12% | -12.9 | -2% |
| GNE | 0 | 148 | 59 | 297 | 71 | 17 | 33 | -40 | 24% | -1.2 | 12% |
| ENO | |||||||||||
| IPLDP | |||||||||||
| PCG | |||||||||||
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
(Mark One)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 | ||
For the fiscal year ended December 31, 2019
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: 1-10499
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |||
(Address of principal executive offices) | (Zip Code) | |||
Registrant’s telephone number, including area code: 605 -978-2900
Securities registered pursuant to Section 12(b) of the Act:
Title of each class | Trading Symbol(s) | Name of each exchange on which registered |
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No x
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for shorter period that the registrant was required to submit such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, 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 12b-2 of the Exchange Act.
x | Accelerated Filer | ☐ | Non-accelerated Filer | ☐ | Smaller Reporting Company | Emerging Growth Company | |||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. Yes o No o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No x
The aggregate market value of the voting and non-voting common stock held by nonaffiliates of the registrant was $3,639,448,000 computed using the last sales price of $72.15 per share of the registrant’s common stock on June 28, 2019, the last business day of the registrant’s most recently completed second fiscal quarter.
As of February 7, 2020, 50,478,630 shares of the registrant’s common stock, par value $0.01 per share, were outstanding.
Documents Incorporated by Reference
Certain sections of our Proxy Statement for the 2020 Annual Meeting of Shareholders
are incorporated by reference into Part III of this Form 10-K
INDEX | PAGE | |
Part I | ||
Item 4 | ||
Part II | ||
Part III | ||
Part IV | ||
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
On one or more occasions, we may make statements in this Annual Report on Form 10-K regarding our assumptions, projections, expectations, targets, intentions or beliefs about future events. All statements other than statements of historical facts, included or incorporated by reference in this Annual Report, relating to management's current expectations of future financial performance, continued growth, changes in economic conditions or capital markets and changes in customer usage patterns and preferences are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Words or phrases such as “anticipates," “may," “will," “should," “believes," “estimates," “expects," “intends," “plans," “predicts," “projects," “targets," “will likely result," “will continue" or similar expressions identify forward-looking statements. Forward-looking statements involve risks and uncertainties, which could cause actual results or outcomes to differ materially from those expressed. We caution that while we make such statements in good faith and believe such statements are based on reasonable assumptions, including without limitation, management's examination of historical operating trends, data contained in records and other data available from third parties, we cannot assure you that we will achieve our projections. Factors that may cause such differences include, but are not limited to:
• | adverse determinations by regulators, as well as potential adverse federal, state, or local legislation or regulation, including costs of compliance with existing and future environmental requirements, could have a material effect on our liquidity, results of operations and financial condition; |
• | changes in availability of trade credit, creditworthiness of counterparties, usage, commodity prices, fuel supply costs or availability due to higher demand, shortages, weather conditions, transportation problems or other developments, may reduce revenues or may increase operating costs, each of which could adversely affect our liquidity and results of operations; |
• | unscheduled generation outages or forced reductions in output, maintenance or repairs, which may reduce revenues and increase cost of sales or may require additional capital expenditures or other increased operating costs; and |
• | adverse changes in general economic and competitive conditions in the U.S. financial markets and in our service territories. |
We have attempted to identify, in context, certain of the factors that we believe may cause actual future experience and results to differ materially from our current expectation regarding the relevant matter or subject area. In addition to the items specifically discussed above, our business and results of operations are subject to the uncertainties described under the caption “Risk Factors” which is part of the disclosure included in Part I, Item 1A of this Annual Report on Form 10-K.
From time to time, oral or written forward-looking statements are also included in our reports on Forms 10-Q and 8-K, Proxy Statements on Schedule 14A, press releases, analyst and investor conference calls, and other communications released to the public. We believe that at the time made, the expectations reflected in all of these forward-looking statements are and will be reasonable. However, any or all of the forward-looking statements in this Annual Report on Form 10-K, our reports on Forms 10-Q and 8-K, our Proxy Statements on Schedule 14A and any other public statements that are made by us may prove to be incorrect. This may occur as a result of assumptions, which turn out to be inaccurate, or as a consequence of known or unknown risks and uncertainties. Many factors discussed in this Annual Report on Form 10-K, certain of which are beyond our control, will be important in determining our future performance. Consequently, actual results may differ materially from those that might be anticipated from forward-looking statements. In light of these and other uncertainties, you should not regard the inclusion of any of our forward-looking statements in this Annual Report on Form 10-K or other public communications as a representation by us that our plans and objectives will be achieved, and you should not place undue reliance on such forward-looking statements.
We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. However, your attention is directed to any further disclosures made on related subjects in our subsequent reports filed with the SEC on Forms 10-K, 10-Q and 8-K and Proxy Statements on Schedule 14A.
Unless the context requires otherwise, references to “we,” “us,” “our,” “NorthWestern Corporation,” “NorthWestern Energy,” and “NorthWestern” refer specifically to NorthWestern Corporation and its subsidiaries.
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GLOSSARY
Accounting Standards Codification (ASC) - The single source of authoritative nongovernmental GAAP, which supersedes all existing accounting standards.
Allowance for Funds Used During Construction (AFUDC) - A regulatory accounting convention that represents the estimated composite interest costs of debt and a return on equity funds used to finance construction. The allowance is capitalized in the property accounts and included in income.
Base-Load - The minimum amount of electric power or natural gas delivered or required over a given period of time at a steady rate. The minimum continuous load or demand in a power system over a given period of time usually is not temperature sensitive.
Base-Load Capacity - The generating equipment normally operated to serve loads on an around-the-clock basis.
Capacity - The amount represents the maximum output of electricity a generator can produce and is related to peak demand. We must maintain a level of available capacity sufficient to meet peak demand with a sufficient reserve.
COD - Commercial operating date.
Commercial Customers - Consists primarily of main street businesses, shopping malls, grocery stores, gas stations, bars and restaurants, professional offices, hospitals and medical offices, motels, and hotels.
Cushion Gas - The natural gas required in a gas storage reservoir to maintain a pressure sufficient to permit recovery of stored gas.
DGGS - The Dave Gates Generating Station at Mill Creek, a 150 MW natural gas fired facility.
Environmental Protection Agency (EPA) - A Federal agency charged with protecting the environment.
Federal Energy Regulatory Commission (FERC) - The Federal agency that has jurisdiction over interstate electricity sales, wholesale electric rates, hydroelectric licensing, natural gas transmission and related services pricing, oil pipeline rates and gas pipeline certification.
Franchise - A special privilege conferred by a unit of state or local government on an individual or corporation to occupy and use the public ways and streets for benefit to the public at large. Local distribution companies typically have franchises for utility service granted by state or local governments.
GAAP - Accounting principles generally accepted in the United States of America.
Hedging - Entering into transactions to manage various types of risk (e.g. commodity risk).
Industrial Customers - Consists primarily of manufacturing and processing businesses that turn raw materials into products.
Lignite Coal - The lowest rank of coal, often referred to as brown coal, used almost exclusively as fuel for steam-electric power generation. It has high inherent moisture content, sometimes as high as 45 percent. The heat content of lignite ranges from 9 to 17 million Btu per ton on a moist, mineral-matter-free basis.
Midcontinent Independent System Operator (MISO) - MISO is a nonprofit organization created in compliance with FERC as a regional transmission organization, to improve the flow of electricity in the regional marketplace and to enhance electric reliability. Additionally, MISO is responsible for managing the energy markets, managing transmission constraints, managing the day-ahead, real-time and financial transmission rights markets, and managing the ancillary market.
Midwest Reliability Organization (MRO) - MRO is one of eight regional electric reliability councils under NERC.
Montana Public Service Commission (MPSC) - The state agency that regulates public utilities doing business in Montana.
Nameplate Capacity - The intended full-load sustained output of a generating facility. Nameplate capacity is the number registered with authorities for classifying the power output of a power station usually expressed in megawatts (MW).
Nebraska Public Service Commission (NPSC) - The state agency that regulates public utilities doing business in Nebraska.
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Net Operating Loss (NOL) - The result when a company's allowable deductions exceed its taxable income within a tax period.
North American Electric Reliability Corporation (NERC) - NERC oversees eight regional reliability entities and encompasses all of the interconnected power systems of the contiguous United States. NERC's major responsibilities include developing standards for power system operation, monitoring and enforcing compliance with those standards, assessing resource adequacy, and providing educational and training resources as part of an accreditation program to ensure power system operators remain qualified and proficient.
Open Access - Non-discriminatory, fully equal access to transportation or transmission services offered by a pipeline or electric utility.
Open Access Transmission Tariff (OATT) -The OATT, which is established by the FERC, defines the terms and conditions of point-to-point and network integration transmission services offered by us, and requires that transmission owners provide open, non-discriminatory access on their transmission system to transmission customers.
Peak Load - A measure of the maximum amount of energy delivered at a point in time.
Qualifying Facility (QF) - As defined under the Public Utility Regulatory Policies Act of 1978 (PURPA), a QF sells power to a regulated utility at a price agreed to by the parties or determined by a public service commission that is intended to be equal to that which the utility would otherwise pay if it were to generate its own power or buy power from another source.
Reserve Margin - The difference between available capacity and peak demand used in system planning to ensure adequate power supply. A positive percentage indicates the electric system has excess capacity while a negative percentage indicates the electric system is unable to meet peak demand without using market resources.
Securities and Exchange Commission (SEC) - The U.S. agency charged with protecting investors, maintaining fair, orderly and efficient markets and facilitating capital formation.
South Dakota Public Utilities Commission (SDPUC) - The state agency that regulates public utilities doing business in South Dakota.
Southwest Power Pool (SPP) - A nonprofit organization created in compliance with FERC as a regional transmission organization to ensure reliable supplies of power, adequate transmission infrastructure, and a competitive wholesale electricity marketplace. SPP also serves as a regional electric reliability entity under NERC.
Tariffs - A collection of the rate schedules and service rules authorized by a federal or state commission. It lists the rates a regulated entity will charge to provide service to its customers as well as the terms and conditions that it will follow in providing service.
Tolling Contract - An arrangement whereby a party moves fuel to a power generator and receives kilowatt hours (kWh) in return for a pre-established fee.
Transmission - The flow of electricity from generating stations over high voltage lines to substations. The electricity then flows from the substations into a distribution network.
Western Area Power Administration (WAPA) - A federal power-marketing administration and electric transmission agency established by Congress.
Western Electricity Coordination Council (WECC) - WECC is one of eight regional electric reliability councils under NERC.
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Measurements:
Billion Cubic Feet (Bcf) - A unit used to measure large quantities of gas, approximately equal to 1 trillion Btu.
British Thermal Unit (Btu) - A basic unit used to measure natural gas; the amount of natural gas needed to raise the temperature of one pound of water by one degree Fahrenheit.
Degree-Day - A measure of the coldness / warmness of the weather experienced, based on the extent to which the daily mean temperature falls below or above a reference temperature.
Dekatherm - A measurement of natural gas; ten therms or one million Btu.
Kilovolt (kV) - A unit of electrical power equal to one thousand volts.
Megawatt (MW) - A unit of electrical power equal to one million watts or one thousand kilowatts.
Megawatt Hour (MWH) - One million watt-hours of electric energy. A unit of electrical energy which equals one megawatt of power used for one hour.
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Part I |
ITEM 1. BUSINESS
OVERVIEW | ||||
NorthWestern Corporation, doing business as NorthWestern Energy, provides electricity and / or natural gas to approximately 734,800 customers in Montana, South Dakota and Nebraska. We have generated and distributed electricity in South Dakota and distributed natural gas in South Dakota and Nebraska since 1923 and have generated and distributed electricity and distributed natural gas in Montana since 2002.
We manage our businesses by the nature of services provided, and operate principally in three business segments: electric utility operations; natural gas utility operations; and all other, which primarily consists of unallocated corporate costs. Our electric utility operations include the generation, purchase, transmission and distribution of electricity, and our natural gas utility operations include the production, purchase, transmission, storage, and distribution of natural gas. Our customer base consists of a mix of residential, commercial, and diversified industrial customers.
Our electric utility operations include the generation, purchase, transmission, and distribution of electricity. Our natural gas utility operations include the production, purchase, transmission, storage, and distribution of natural gas. Our electric and natural gas utility operations are not dependent on a single customer, or even a few customers, and the loss of any one or even a few of our largest customers is not reasonably likely to have a material adverse effect on our financial condition. Our utility operations are seasonal and weather patterns can have a material impact on operating performance. Consumption of electricity is often greater in the summer and winter months for cooling and heating, respectively. Because natural gas is used primarily for residential and commercial heating, the demand for this product depends heavily upon weather patterns throughout our service territory, and a significant amount of natural gas revenues are recognized in the first and fourth quarters related to the heating season.
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NorthWestern Energy - Delivering a Bright Future
We provide essential energy infrastructure and valuable services that enrich lives and empower communities while serving as long-term partners to our customers and communities. We are working to deliver safe, reliable, and innovative energy solutions that create value for customers, communities, employees, and investors. This includes bridging our history as a regulated utility safely providing low-cost and reliable service with our future as a globally-aware company offering a broader array of services performed by highly-adaptable and skilled employees.
Environmental, Social and Governance
We are focused on meeting current energy infrastructure and service needs at a reasonable and fair cost for today’s customers while ensuring the ability to meet the needs of tomorrow’s customers. “Sustainability” requires meeting economic, societal, and environmental objectives. As a provider of essential infrastructure and service, a sustainable enterprise is vital to our customers and communities, as well as to our investors and employees. For a full description of our environmental, social, governance and sustainability activities, please see our reports at http://www.northwesternenergy.com.
We strive to balance legal requirements to provide cost-effective, reliable and stably priced energy with being good stewards of natural resources and a diligent focus on sustainability. We own a mix of clean and carbon-free energy resources balanced with traditional energy sources that help us deliver affordable and reliable electricity to our customers 24/7. We support cost-effective energy efficiency programs and low or carbon-free resources as part of our diverse supply portfolio. In 2019, approximately 58% of our retail needs originated from carbon-free resources.
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MONTANA ELECTRIC OPERATIONS | ||||
Our regulated electric utility business in Montana includes generation, transmission and distribution. Our service territory covers approximately 107,600 square miles, representing approximately 73% of Montana's land area. During 2019, we delivered electricity to approximately 379,400 customers in 208 communities and their surrounding rural areas, 11 rural electric cooperatives and, in Wyoming, to the Yellowstone National Park. In 2019, by category, residential, commercial, industrial, and other sales accounted for approximately 42%, 48%, 6%, and 4%, respectively, of our Montana retail electric utility revenue.
Electric Transmission Lines | ||
Miles of 500 kV | 497 | |
Miles of 230 kV | 956 | |
Miles of 161 kV | 1,192 | |
Miles of 115 kV and lower voltages | 4,164 | |
Total Miles of Electric Transmission Lines | 6,809 | |
Electric Distribution Lines | ||
Miles of overhead line | 13,070 | |
Miles of underground line | 4,902 | |
Total Miles of Electric Distribution Lines | 17,972 | |
Total Transmission and Distribution Substations | 391 | |
Transmission Services
In addition to delivering energy to distribution systems to serve customers, we also transmit electricity for nonregulated entities owning generation, and utilities, cooperatives, and power marketers serving the Montana electricity market. Our total control area peak demand was approximately 1,904 MWs on August 5, 2019, which set an all-time high for our balancing authority area over the record 2018 peak demand. Our control area average demand for 2019 was approximately 1,412 MWs per hour, with total energy delivered of more than 12.3 million MWHs.
Our transmission system is directly interconnected with Avista Corporation; Idaho Power Company; PacifiCorp; the Bonneville Power Administration; WAPA; and Montana Alberta Tie Ltd. Such interconnections, coupled with transmission line capacity made available under agreements with some of the above entities, permit the interchange, purchase, and sale of power among all major electric systems in the west interconnecting with the winter-peaking northern and summer-peaking southern regions of the western power system. We provide wholesale transmission service and firm and non-firm transmission services for eligible transmission customers. Our 500 kV transmission system, which is jointly owned, along with our 230 kV and 161 kV facilities, form the key assets of our Montana transmission system. Lower voltage systems provide for local area service needs.
Energy and Capacity Resources
The following charts depict the makeup of our current Montana portfolio. Hydro generation is by far our largest and most important resource, as it is reliable, dramatically lowers the portfolio's carbon intensity, and reduces economic risks associated with future carbon costs.
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Resource planning is an important function necessary to meet our customers' future energy needs and is used to guide resource acquisition activities. We filed our latest resource plan with the MPSC in August 2019. We have significant generation capacity deficits and negative reserve margins. In addition to our responsibility to meet peak demand, national reliability standards effective July 2016 increased the need for us to have greater dispatchable generation capacity available and be capable of increasing or decreasing output to address the irregular nature of intermittent generation such as wind or solar. Our generation portfolio is a balanced mix of energy and capacity resources having different operating characteristics and fuel sources designed to provide energy at the lowest possible cost to meet our obligation to serve retail customers while maintaining reliability. For a discussion of our current resource plan, the related competitive solicitation, and potential acquisition of an additional interest in Colstrip Unit 4, see the "Significant Trends and Regulation" section of Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Our annual retail electric supply load requirements average approximately 750 MWs, with a peak load of approximately 1,200 MWs, and are supplied by owned and contracted resources and market purchases with multiple counterparties. Owned generation resources supplied approximately 69% of our retail load requirements for 2019. We expect that approximately 65% of our retail obligations will be met by owned generation resources in 2020. In addition, QFs provide a total of 412 MWs of nameplate capacity, including 107 MWs from waste petroleum coke and waste coal, 272 MWs from wind, 16 MWs from hydro, and 17 MWs from solar projects, located in Montana. We have several other long and medium-term power purchase agreements including contracts for 135 MWs of wind generation and 21 MWs of seasonal base-load hydro supply. For 2020, including both owned and contracted resources, we have resources to provide over 90% of the energy requirements necessary to meet our forecasted retail load requirements. We do not receive all the Renewable Energy Credits (RECs) from our contracted electric supply resources. The owner of the RECs claims the renewable attributes of the energy, and our resource mix does not represent the actual energy delivered to our customers.
Commitment to Reduction in Carbon Intensity
Over 60% of the energy we produce in Montana comes from carbon-free sources, including hydro, wind and solar. This is more than two times better than the total U.S. electric power industry (28% carbon free). In December 2019, we announced a commitment to reduce the carbon intensity of our electric energy portfolio for Montana by 90 percent by 2045 as compared with our 2010 carbon intensity as a baseline.
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Generation Facilities
Details of these generating facilities are described in the following tables.
Hydro Facilities | COD | River Source | FERC License Expiration | Owned MW (1) |
Black Eagle | 1927 | Missouri | 2040 | 21 |
Cochrane | 1958 | Missouri | 2040 | 62 |
Hauser | 1911 | Missouri | 2040 | 18 |
Holter | 1918 | Missouri | 2040 | 53 |
Madison | 1906 | Madison | 2040 | 8 |
Morony | 1930 | Missouri | 2040 | 49 |
Mystic | 1925 | West Rosebud Creek | 2050 | 12 |
Rainbow | 1910/2013 | Missouri | 2040 | 64 |
Ryan | 1915 | Missouri | 2040 | 70 |
Thompson Falls | 1915/1995 | Clark Fork | 2025 | 94 |
Total | 451 | |||
(1) The Hebgen facility (0 MW net capacity) is excluded from the figures above. These are run-of-river dams except for Mystic, which is storage generation.
Other Facilities | Fuel Source | Ownership Interest | Maximum Capacity (MW) | |||
Colstrip Unit 4, located near Colstrip in southeastern Montana | Sub-bituminous coal | 30% | 222 | |||
DGGS, located near Anaconda, Montana | Natural Gas | 100% | 150 | |||
Spion Kop Wind, located in Judith Basin County in Montana | Wind | 100% | 40 | |||
Two Dot Wind, located in Wheatland County in Montana | Wind | 100% | 11 | |||
Colstrip Unit 4 provides base-load supply and is operated by Talen Montana, LLC (Talen). Talen has a 30% ownership interest in Colstrip Unit 3. We have a reciprocal sharing agreement with Talen regarding the operation of Colstrip Units 3 and 4,
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in which each party receives 15% of the respective combined output and is responsible for 15% of the respective operating and construction costs, regardless of whether a particular cost is specified to Colstrip Unit 3 or 4. However, each party is responsible for its own fuel-related costs. Colstrip Unit 4 is supplied with fuel from adjacent coal reserves under a coal supply agreement in effect through 2025.
Renewable portfolio standards (RPS) enacted in Montana currently require that 15% of our annual electric supply portfolio be derived from eligible sources, including resources such as wind, biomass, solar, and small hydroelectric. Eligible resources used to serve our load generate RECs. Any RECs in excess of the annual requirements for a given year are carried forward for up to two years to meet future RPS needs. While our hydro generation assets are not eligible resources under the RPS, any qualifying additions would be eligible. Given contracts under negotiation and our portfolio resources, we expect to meet the Montana RPS requirements through the 2040s. The penalty for not meeting the RPS is up to $10 per MWH for each REC short of the requirement.
Western Energy Imbalance Market
In November 2018, we announced our intent to enter the Western Energy Imbalance Market (EIM), operated by the California Independent System Operator (California ISO), in the spring of 2021. We studied the value and costs of the EIM for several years prior to the decision to participate in the Western EIM. Utilities in the western United States outside the California ISO have traditionally relied upon a combination of automated and manual dispatch within the hour to balance generation and load to maintain reliable supply. These utilities have limited capability to transact within the hour outside their balancing area. In contrast, energy imbalance markets use automated intra-hour economic dispatch of generation from committed resources to serve loads. The Western EIM is intended to reduce power supply costs to serve customers through more efficient dispatch of a larger and more diverse pool of resources, to integrate intermittent power more effectively, and to enhance reliability. Participation in the Western EIM is voluntary and available to all balancing authorities in the western United States.
SOUTH DAKOTA ELECTRIC OPERATIONS | ||||
Our South Dakota electric utility business operates as a vertically integrated generation, transmission and distribution utility. We have the exclusive right to serve an area in South Dakota comprised of 25 counties. We provide retail electricity to more than 63,800 customers in 110 communities in South Dakota. In 2019, by category, residential, commercial and other sales accounted for approximately 38%, 60%, and 2%, respectively, of our South Dakota retail electric utility revenue. During 2019, peak demand was 333 MWs with an average load of approximately 200 MWs.
Electric Transmission Lines | ||
Miles of 345 kV | 25 | |
Miles of 230 kV | 18 | |
Miles of 115 kV and lower voltages | 1,194 | |
Total Miles of Electric Transmission Lines | 1,237 | |
Electric Distribution Lines | ||
Miles of overhead line | 1,633 | |
Miles of underground line | 659 | |
Total Miles of Electric Distribution Lines | 2,292 | |
Total Transmission and Distribution Substations | 128 | |
Our South Dakota system is interconnected with the transmission facilities of Otter Tail Power Company; Montana-Dakota Utilities Co.; Xcel Energy Inc.; and WAPA. We have emergency interconnections with the transmission facilities of East River Electric Cooperative, Inc. and West Central Electric Cooperative.
Energy and Capacity Resources
We have a resource plan that includes estimates of customer usage and programs to provide for the economic, reliable and timely supply of energy. We continue to update our load forecast to identify the future electric energy needs of our customers, and we evaluate additional generating capacity requirements on an ongoing basis. We submitted a plan to the SDPUC in 2018 to provide for the modernization of our fleet, which is focused on improving reliability and flexibility.
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We use market purchases and peaking generation to provide peak supply in excess of our base-load capacity. We are a member of the SPP. As a market participant in SPP, we buy and sell wholesale energy and reserves in both day-ahead and real-time markets through the operation of a single, consolidated SPP balancing authority. We and other SPP members submit into the SPP market both offers to sell our generation and bids to purchase power to serve our load. SPP optimizes next-day and real-time generation dispatch across the region and provides participants with greater access to economic energy. Marketing activities in SPP are handled for us by a third-party provider acting as our agent.
Our sources of energy by type during 2019 were as follows:
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Generation Facilities
Details of our generating facilities are described further in the following chart:
Generation Facilities | Fuel Source | Ownership Interest | Owned MW | |||
Big Stone Plant, located near Big Stone City in northeastern South Dakota | Sub-bituminous coal | 23.4% | 111 | |||
Coyote I Electric Generating Station, located near Beulah, North Dakota | Lignite coal | 10.0% | 43 | |||
Neal Electric Generating Unit No. 4, located near Sioux City, Iowa | Sub-bituminous coal | 8.7% | 56 | |||
Aberdeen Generating Units No. 1 and 2, located near Aberdeen, South Dakota | Natural gas | 100.0% | 73 | |||
Beethoven Wind Project, located near Tripp, South Dakota | Wind | 100.0% | 80 | |||
Miscellaneous combustion turbine units and small diesel units (used only during peak periods) | Combination of fuel oil and natural gas | 100.0% | 41 | |||
Total Capacity | 404 | |||||
Our electric supply portfolio includes facilities that we own jointly with unaffiliated parties. Each of the jointly owned plants is subject to a joint management structure, and we are not the operator of any of these plants. Based on our ownership interest, we are entitled to a proportionate share of the capacity of our jointly owned plants and are responsible for a proportionate share of the operating costs. Additional resources in our supply portfolio include several wholly owned peaking units and one wholly owned wind project. The Beethoven wind project is an 80 MW nameplate facility. Actual output varies as
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wind generation resources are highly dependent upon weather conditions. We also purchase the output of four wind projects, three of which are QFs, under power purchase agreements.
The fuel for our jointly owned base-load generating plants is provided through supply contracts of various lengths with several coal companies. Coyote is a mine-mouth generating facility. Neal #4 and Big Stone receive their fuel supply via rail. The average delivered cost by type of fuel burned varies between generation facilities due to differences in transportation costs and owner purchasing power for coal supply. Changes in our fuel costs are passed on to customers through the operation of the fuel adjustment clause in our South Dakota tariffs.
We are a transmission-owning member in the SPP. Each year, we review all new or modified South Dakota transmission assets and transfer functional control of assets that qualify under the SPP Tariff to the SPP. To date, we have transferred control of 339 line miles of 115 kV facilities and over 97 line miles of 69 kV facilities. All of our SPP controlled facilities reside in the Upper Missouri Zone (UMZ), which is also known as Zone 19 in the regional transmission organization. The Coyote, Big Stone, and Neal power plants, which we jointly own, are connected directly to the MISO system. Our ownership rights in the transmission lines from these plants to our distribution system allow us to move the power to our customers. Along with operating the transmission system, SPP also coordinates regional transmission planning for all of its members.
NATURAL GAS OPERATIONS | ||||
Montana
Our regulated natural gas utility business in Montana includes production, storage, transmission and distribution. During 2019, we distributed natural gas to approximately 201,500 customers in 118 Montana communities over a system that consists of approximately 4,810 miles of underground distribution pipelines. We also serve several smaller distribution companies that provide service to approximately 37,000 customers. We transmit natural gas in Montana from production receipt points and storage facilities to distribution points and other nonaffiliated transmission systems. We transported natural gas volumes of approximately 45.8 Bcf during the year ended December 31, 2019.
Miles of Natural Gas Transmission | 2,165 | |
Miles of Natural Gas Distribution | 4,810 | |
City Gate Stations | 149 | |
We have connections in Montana with four major, unaffiliated transmission systems: Williston Basin Interstate Pipeline, NOVA Gas Transmission Ltd., Colorado Interstate Gas, and Spur Energy. Twelve compressor sites provide more than 38,000 horsepower on the transmission line and an additional 15,000 horsepower at our storage fields, capable of moving more than 336,000 dekatherms per day. In addition, we own and operate two transmission pipelines through our subsidiaries, Canadian-Montana Pipe Line Corporation and Havre Pipeline Company, LLC.
Natural gas is used primarily for residential and commercial heating, and as fuel for two electric generating facilities. The demand for natural gas largely depends upon weather conditions. Our Montana retail natural gas supply requirements for the year ended December 31, 2019, were approximately 23.6 Bcf. Our Montana natural gas supply requirements for electric generation fuel for the year ended December 31, 2019, were approximately 4.1 Bcf. We have contracted with several major producers and marketers with varying contract durations to provide the anticipated supply to meet ongoing requirements. Our natural gas supply requirements are fulfilled through third-party fixed-term purchase contracts, short-term market purchases and owned production. Our portfolio approach to natural gas supply is intended to enable us to maintain a diversified supply of natural gas sufficient to meet our supply requirements. We benefit from direct access to suppliers in significant natural gas producing regions in the United States, primarily the Rocky Mountains (Colorado), Montana, and Alberta, Canada.
Owned Production and Storage - Since 2010, we have acquired gas production and gathering system assets as a part of an overall strategy to provide rate stability and customer value: as we own these assets, which are regulated, our customers are protected from potential price spikes in the market. As of December 31, 2019, these owned reserves totaled approximately 47.2 Bcf and are estimated to provide approximately 3.8 Bcf in 2020, or about 16 percent of our expected annual retail natural gas load in Montana. In addition, we own and operate three working natural gas storage fields in Montana with aggregate working gas capacity of approximately 17.85 Bcf and maximum aggregate daily deliverability of approximately 203,400 dekatherms.
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South Dakota and Nebraska
We provide natural gas to approximately 90,100 customers in 59 South Dakota communities and three Nebraska communities. In South Dakota, we also transport natural gas for nine gas-marketing firms and three large end-user accounts. In Nebraska, we transport natural gas for four gas-marketing firms and one end-user account. We delivered approximately 27.6 Bcf of third-party transportation volume on our South Dakota distribution system and approximately 3.6 Bcf of third-party transportation volume on our Nebraska distribution system during 2019.
Miles of Natural Gas Transmission | 55 | |
Miles of Natural Gas Distribution | 2,453 | |
Our South Dakota natural gas supply requirements for the year ended December 31, 2019, were approximately 6.9 Bcf. We contract with a third party under an asset management agreement to manage transportation and storage of supply to minimize cost and price volatility to our customers. In Nebraska, our natural gas supply requirements for the year ended December 31, 2019, were approximately 4.9 Bcf. We contract with a third party under an asset management agreement that includes pipeline capacity, supply, and asset optimization activities. To supplement firm gas supplies in South Dakota and Nebraska, we contract for firm natural gas storage services to meet the heating season and peak day requirements of our customers.
Municipal Natural Gas Franchise Agreements - We have municipal franchises to provide natural gas service in the communities we serve. The terms of the franchises vary by community. Our Montana franchises typically have a fixed 10-year term and continue for additional 10-year terms unless and until canceled, with 5 years notice. The maximum term permitted under Nebraska law for these franchises is 25 years while the maximum term permitted under South Dakota law is 20 years. Our policy generally is to seek renewal or extension of a franchise in the last year of its term. We continue to serve those customers while we obtain formal renewals. During the next five years, fifteen of our Montana franchises are scheduled to reach the end of their fixed term, which account for approximately 75,000 or 37 percent of our Montana natural gas customers. Five of our South Dakota franchises and two franchises in Nebraska, which account for approximately 41,300 or 46% of our South Dakota and Nebraska natural gas customers, are scheduled to reach the end of their fixed term during the next five years. We do not anticipate termination of any of these franchises.
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REGULATION | ||||
Base rates are the rates that are intended to allow us the opportunity to collect from our customers total revenues (revenue requirements) equal to our cost of providing delivery and rate-based supply services, plus a reasonable rate of return on invested capital. We have both electric and natural gas base rates and cost recovery clauses. We may ask the respective regulatory commission to increase base rates from time to time. Rate increases are normally granted based on historical data and those increases may not always keep pace with increasing costs. For more information on current regulatory matters, see Note 3 - Regulatory Matters, to the Consolidated Financial Statements.
The following is a summary of our rate base and authorized rates of return in each jurisdiction:
Jurisdiction and Service | Implementation Date | Authorized Rate Base (millions) (1) | Estimated Rate Base (millions) (2) | Authorized Overall Rate of Return | Authorized Return on Equity | Authorized Equity Level | ||||||
Montana electric delivery and production (3) | April 2019 | $2,030.1 | $2,407.3 | 6.92% | 9.65% | 49.38% | ||||||
Montana - Colstrip Unit 4 | April 2019 | 304.0 | 284.2 | 8.25% | 10.00% | 50% | ||||||
Montana natural gas delivery and production (4) | September 2017 | 430.2 | 474.8 | 6.96% | 9.55% | 46.79% | ||||||
Total Montana | $2,764.3 | $3,166.3 | ||||||||||
South Dakota electric (5) | December 2015 | $557.3 | $606.6 | 7.24% | n/a | n/a | ||||||
South Dakota natural gas (5) | December 2011 | 65.9 | 69.6 | 7.80% | n/a | n/a | ||||||
Total South Dakota | $623.2 | $676.2 | ||||||||||
Nebraska natural gas (5) | December 2007 | $24.3 | $31.2 | 8.49% | 10.40% | n/a | ||||||
$3,411.8 | $3,873.7 | |||||||||||
(1) Rate base reflects amounts on which we are authorized to earn a return.
(2) Rate base amounts are estimated as of December 31, 2019.
(3) The revenue requirement associated with the FERC regulated portion of Montana electric transmission and DGGS are included as revenue credits to our MPSC jurisdictional customers. Therefore, we do not separately reflect FERC authorized rate base or authorized returns.
(4) The Montana gas revenue requirement includes a stepdown which approximates annual depletion of our natural gas production assets included in rate base.
(5) For those items marked as "n/a," the respective settlement and/or order was not specific as to these terms.
MPSC Regulation
Our Montana operations are subject to the jurisdiction of the MPSC with respect to rates, terms and conditions of service, accounting records, electric service territorial issues and other aspects of our operations, including when we issue, assume, or guarantee securities in Montana, or when we create liens on our regulated Montana properties. We have an obligation to provide service to our customers with an opportunity to earn a regulated rate of return.
Electric Supply Tracker - In Montana, our electric supply costs recovery mechanism was revised effective July 1, 2017. The Power Cost and Credit Adjustment Mechanism (PCCAM) incorporates sharing of a portion of the business risk or benefit associated with the cost of power purchased and fuel used to generate electricity. Customer prices may be adjusted annually to absorb a portion of the difference between base revenues and actual costs for the annual tracking period. Annual filings are based on a July through June 12-month tracking period, and are subject to a review by the MPSC to determine if electric supply procurement activities are prudent. If the MPSC subsequently determines that a procurement activity was imprudent, then it may disallow recovery of such costs.
Natural Gas Supply Tracker - Rates for our Montana natural gas supply are set by the MPSC. Certain supply rates are adjusted on a monthly basis for volumes and costs during each July to June 12-month tracking period. Annually, supply rates are adjusted to include any differences in the previous tracking year's actual to estimated information for recovery during the subsequent tracking year. We submit annual natural gas tracker filings for the actual 12-month period ended June 30 and for the projected supply costs for the next 12-month period. The MPSC reviews such filings and makes its cost recovery determination based on whether or not our natural gas energy supply procurement activities were prudent. If the MPSC subsequently determines that a procurement activity was imprudent, then it may disallow such costs.
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Montana Property Tax Tracker - We file an annual property tax tracker (including other state/local taxes and fees) with the MPSC for an automatic rate adjustment, which reflects the incremental property taxes since our last base rate filing adjusted for the associated income tax benefit.
SDPUC Regulation
Our South Dakota operations are subject to SDPUC jurisdiction with respect to rates, terms and conditions of service, accounting records, electric service territorial issues and other aspects of our electric and natural gas operations. Our retail electric rates, approved by the SDPUC, provide several options for residential, commercial and industrial customers, including dual-fuel, interruptible, special all-electric heating, and other special rates. Our retail natural gas tariffs include gas transportation rates for transportation through our distribution systems by customers and natural gas marketers from the interstate pipelines at which our systems take delivery to the end-user. Such transporting customers nominate the amount of natural gas to be delivered daily. On a daily basis, we monitor usage for these customers and balance it against their respective supply agreements.
An electric adjustment clause provides for quarterly adjustment based on differences in the delivered cost of energy, delivered cost of fuel, ad valorem taxes paid and commission-approved fuel incentives. The adjustment goes into effect upon filing, and is deemed approved within 10 days after the information filing unless the SDPUC staff requests changes during that period. A purchased gas adjustment provision in our natural gas rate schedules permits the monthly adjustment of charges to customers to reflect increases or decreases in purchased gas, gas transportation and ad valorem taxes.
NPSC Regulation
Our Nebraska natural gas rates and terms and conditions of service for residential and smaller commercial customers are regulated by the NPSC. High volume customers are not subject to such regulation, but can file complaints if they allege discriminatory treatment. Under the Nebraska State Natural Gas Regulation Act, a regulated natural gas utility may propose a change in rates to its regulated customers, if it files an application for a rate increase with the NPSC and with the communities in which it serves customers. The utility may negotiate with those communities for a settlement with regard to the proposed rate change if the affected communities representing more than 50% of the affected ratepayers agree to direct negotiations, or it may proceed to have the NPSC review the filing and make a determination. Our tariffs have been approved by the NPSC, and the NPSC has adopted certain rules governing the terms and conditions of service of regulated natural gas utilities. Our retail natural gas tariffs provide residential, general service and commercial and industrial options, as well as firm and interruptible transportation service. A purchased gas adjustment clause provides for adjustments based on changes in gas supply and interstate pipeline transportation costs.
FERC Regulation
We are subject to FERC's jurisdiction and regulations with respect to rates for electric transmission service in interstate commerce and electricity sold at wholesale rates, hydro licensing and operations, the issuance of certain securities, incurrence of certain long-term debt, and compliance with mandatory reliability regulations, among other things. Under FERC's open access transmission policy promulgated in Order No. 888, as owners of transmission facilities, we are required to provide open access to our transmission facilities under filed tariffs at cost-based rates. In addition, we are required to comply with FERC's Standards of Conduct for Transmission Providers.
Our Montana wholesale transmission customers, such as cooperatives, industrial customers, and other customers that have third party commodity supply providers, are served under our OATT, which is on file with FERC. The OATT defines the terms, conditions and rates of our Montana transmission service, including ancillary services. Our South Dakota transmission operations are in the SPP and transmission service is provided under the SPP OATT.
Our natural gas transportation pipelines are generally not subject to FERC's jurisdiction, although we are subject to state regulation. We conduct limited interstate transportation in Montana and South Dakota that is subject to FERC jurisdiction, and FERC has allowed the MPSC and SDPUC to set the rates for this interstate service. We have capacity agreements in South Dakota and Nebraska with interstate pipelines that are also subject to FERC jurisdiction.
Our hydroelectric generating facilities are licensed by the FERC. In connection with the relicensing of these generating facilities, applicable law permits the FERC to issue a new license to the existing licensee or to a new licensee, and alternatively allows the U.S. government to take over the facility. If the existing licensee is not relicensed, it is compensated for its net
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investment in the facility, not to exceed the fair value of the property taken, plus reasonable severance damages to other property affected by the lack of relicensing.
Reliability Standards - We must comply with the standards and requirements that apply to the NERC functions for which we have registered in both the MRO for our South Dakota operations and the WECC for our Montana operations. WECC and the MRO have responsibility for monitoring and enforcing compliance with the FERC approved mandatory reliability standards within their respective regions. Additional reliability standards continue to be developed and will be adopted in the future. We expect that the existing reliability standards will change often as a result of modifications, guidance and clarification following industry implementation and ongoing audits and enforcement.
ENVIRONMENTAL | ||||
The operation of electric generating, transmission and distribution facilities, and gas gathering, storage, transportation and distribution facilities, along with the development (involving site selection, environmental assessments, and permitting) and construction of these assets, are subject to extensive federal, state, and local environmental and land use laws and regulations. Our activities involve compliance with diverse laws and regulations that address emissions and impacts to the environment, including air and water, protection of natural resources and wildlife. We monitor federal, state, and local environmental initiatives to determine potential impacts on our financial results. As new laws or regulations are issued, we assess their applicability and implement the necessary modifications to our facilities or their operation to maintain ongoing compliance.
We strive to comply with all environmental regulations applicable to our operations. However, it is not possible to determine when or to what extent additional facilities or modifications of existing or planned facilities will be required as a result of changes to environmental regulations, interpretations or enforcement policies or, what effect future laws or regulations may have on our operations. The EPA is in the process of proposing and finalizing a number of environmental regulations that will directly affect the electric industry over the coming years. These initiatives cover all sources - air, water and waste. For more information on environmental regulations and contingencies and related capital expenditures, see Note 18 - Commitments and Contingencies, to the Consolidated Financial Statements.
CORPORATE INFORMATION AND WEBSITE | ||||
We were incorporated in Delaware in November 1923. Our Internet address is http://www.northwesternenergy.com. Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments, along with our annual report to shareholders and other information related to us, are available, free of charge, on our Internet website as soon as reasonably practicable after we electronically file those documents with, or otherwise furnish them to, the SEC. This information is available in print to any shareholder who requests it. Requests should be directed to: Investor Relations, NorthWestern Corporation, 3010 W. 69th Street, Sioux Falls, South Dakota 57108 and our telephone number is (605) 978-2900. References to our website in this report are provided as a convenience and do not constitute, and should not be viewed as, an incorporation by reference of the information contained on, or available through, the website. Therefore, such information should not be considered part of this report.
EMPLOYEES | ||||
As of December 31, 2019, we had 1,533 employees. Of these, 1,220 employees were in Montana and 313 were in South Dakota or Nebraska. Of our Montana employees, 469 were covered by seven collective bargaining agreements involving five unions. Six of these agreements were renegotiated in 2016 and will expire in 2020. One of these agreements was renegotiated in 2017 and will expire in 2021. One additional memorandum of understanding, representing six employees, was negotiated and completed during March 2019. Of our South Dakota and Nebraska employees, 181 are covered by a collective bargaining agreement renegotiated in 2019 that expires at the end of 2021. We consider our relations with employees to be good.
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INFORMATION ABOUT OUR EXECUTIVE OFFICERS | ||||
Executive Officer | Current Title and Prior Employment | Age on Feb. 7, 2020 | ||
Robert C. Rowe | President, Chief Executive Officer and Director since August 2008. Prior to joining NorthWestern, Mr. Rowe was a co-founder and senior partner at Balhoff, Rowe & Williams, LLC, a specialized national professional services firm providing financial and regulatory advice to clients in the telecommunications and energy industries (January 2005-August, 2008); and served as Chairman and Commissioner of the Montana Public Service Commission (1993–2004). | 64 | ||
Brian B. Bird | Chief Financial Officer since December 2003. Prior to joining NorthWestern, Mr. Bird was Chief Financial Officer and Principal of Insight Energy, Inc., a Chicago-based independent power generation development company (2002-2003). Previously, he was Vice President and Treasurer of NRG Energy, Inc., in Minneapolis, MN (1997-2002). Mr. Bird serves on the board of directors of a NorthWestern subsidiary. | 57 | ||
Michael R. Cashell | Vice President - Transmission since May 2011; formerly Chief Transmission Officer since November 2007; formerly Director Transmission Marketing and Business Planning since 2003. Mr. Cashell serves on the board of directors of a NorthWestern subsidiary. | 57 | ||
Heather H. Grahame | Vice President - General Counsel and Regulatory and Federal Government Affairs since January 2018; formerly Vice President and General Counsel since August 2010. Prior to joining NorthWestern, Ms. Grahame was a partner in the law firm of Dorsey & Whitney, LLP, where she co-chaired its Telecommunications practice (1999-2010). | 64 | ||
John D. Hines | Vice President - Supply and Montana Government Affairs since January 2018; formerly Vice President - Supply since May 2011; formerly Chief Energy Supply Officer since January 2008; formerly Director - Energy Supply Planning since 2006. Previously, Mr. Hines served as the Montana representative to the Northwest Power and Conservation Council (2003-2006). | 61 | ||
Crystal D. Lail | Vice President and Controller since October 2015; formerly Assistant Controller since February 2008 and, prior to that an SEC Reporting Manager. Prior to joining NorthWestern, Ms. Lail was an auditor for KPMG LLP. | 41 | ||
Curtis T. Pohl | Vice President - Distribution since May 2011; formerly Vice President-Retail Operations since September 2005; Vice President-Distribution Operations since August 2003; formerly Vice President-South Dakota/Nebraska Operations since June 2002; formerly Vice President-Engineering and Construction since June 1999. Mr. Pohl serves on the board of directors of a NorthWestern subsidiary. | 55 | ||
Bobbi L. Schroeppel | Vice President, Customer Care, Communications and Human Resources since May 2009, formerly Vice President-Customer Care and Communications since September 2005; formerly Vice President-Customer Care since June 2002; formerly Director-Staff Activities and Corporate Strategy since August 2001; formerly Director-Corporate Strategy since June 2000. | 51 | ||
Officers are elected annually by, and hold office at the pleasure of the Board of Directors (Board), and do not serve a “term of office” as such.
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ITEM 1A. RISK FACTORS
You should carefully consider the risk factors described below, as well as all other information available to you, before making an investment in our common stock or other securities.
Regulatory, Legislative and Legal Risks | ||||
Our profitability is dependent on our ability to recover the costs of providing energy and utility services to our customers and earn a return on our capital investment in our utility operations. We are subject to potential unfavorable state and federal regulatory outcomes. To the extent our incurred costs are deemed imprudent by the applicable regulatory commissions or certain regulatory mechanisms are not available, we may not recover some of our costs, which could adversely impact our results of operations and liquidity.
We provide service at rates established by several regulatory commissions. Rates are generally set through a process called a rate review (or rate case) in which the utility commission analyzes our costs incurred during a historical test year and decides whether they may be included in our rates. Rate reviews can be highly contested proceedings. There is no guarantee that the costs we seek to recover in future rates will be allowed. There is also typically a significant lag between the time we incur a cost and recover that cost in rates.
In addition to rate cases, our cost tracking mechanisms are a significant component of how we recover our costs. Trackers can also be highly contested dockets and, as with a rate case, there is no guarantee that the regulatory commission will approve our request to recover costs. Our PCCAM docket for the July 1, 2018 to June 30, 2019 time period includes replacement power costs procured during an intermittent outage at Colstrip Unit 4 in 2018. In addition, in May 2019, the statute changed removing the previously established "deadband" of +/- $4.1 million from base costs and removing QF costs from the 90% / 10% sharing calculation. A hearing in this docket is scheduled for May 2020, and there can be no assurance that the MPSC will allow recovery of costs consistent with our filing, which could have a material adverse effect on our financial results.
Rate regulation is premised on providing an opportunity to earn a reasonable rate of return on invested capital. In a continued low interest rate environment there has been pressure pushing down return on equity. There also can be no assurance that the applicable regulatory commission will judge all of our costs to have been prudently incurred or that the regulatory process in which rates are determined will always result in rates that will produce full recovery of such costs. In addition, each regulatory commission sets rates based in part upon their acceptance of an allocated share of total utility costs. When commissions adopt different methods to calculate inter-jurisdictional cost allocations, some costs may not be recovered. For instance, our Montana electric utility is regulated by the MPSC and the FERC. Differing schedules and regulatory practices between the MPSC and FERC expose us to the risk that we may not recover our costs due to timing of filings and issues such as cost allocation methodologies. Thus, the rates we are allowed to charge may or may not match our costs at any given time. Adverse regulatory rulings could have an adverse impact on our results of operations and materially affect our ability to meet our financial obligations, including debt payments and the payment of dividends on our common stock.
In May 2019, we submitted a filing with the FERC related to our Montana transmission assets. The revenue collected from FERC-jurisdictional customers associated with our Montana FERC assets is reflected in our Montana MPSC-jurisdictional rates as a credit to retail customers. If the FERC determines our request is not supported and/or decreases overall electric rates, or the MPSC-jurisdictional electric rates are not updated consistent with the FERC decision, it could have a material adverse effect on our operating and financial results.
We are subject to changing federal and state laws and regulations. Congress and state legislatures may enact legislation that adversely affects our operations and financial results.
We are subject to regulations under a wide variety of U.S. federal and state regulations and policies. Regulation affects almost every aspect of our business. Changes to federal and state laws and regulations are continuous and ongoing. Congress may implement new federal laws that could adversely and materially affect us. There can be no assurance that laws, regulations and policies will not be changed in ways that result in significant impacts to our business. We cannot predict future changes in laws and regulations, how they will be implemented and interpreted, or the ultimate effect that this changing environment will have on us. Any changes may have a material adverse effect on our financial condition, results of operations, and cash flows.
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We are subject to extensive and changing environmental laws and regulations, including legislative and regulatory responses to climate change, with which compliance may be difficult and costly.
We are subject to extensive laws and regulations imposed by federal, state, and local government authorities in the ordinary course of operations with regard to public policy on climate change, the environment, including environmental laws and regulations relating to air and water quality, protection of natural resources, migratory birds and other wildlife, solid waste disposal, coal ash and other environmental considerations. We are also subject to new interpretations of those laws and regulations. We believe that we are in compliance with environmental regulatory requirements; however, possible future developments, such as more stringent environmental laws and regulations, the timing of future enforcement proceedings that may be taken by environmental authorities, and judicial opinions regarding those laws and regulations, could affect our costs and the manner in which we conduct our business and could require us to make substantial additional capital expenditures or abandon certain projects.
On June 19, 2019, EPA finalized the Affordable Clean Energy Rule (ACE). ACE repeals the 2015 Clean Power Plan (CPP) in regulating greenhouse gas (GHG) emissions from coal-fired plants. Under the ACE, states must establish unit-specific standards. Although the United States has not adopted federal GHG legislation, as GHG regulations are implemented, it could result in additional compliance costs that could affect our future results of operations and financial position if such costs are not recovered through regulated rates. Complying with the CO2 emission performance standards, and with other future environmental rules, may make it economically impractical to continue operating all or a portion of our jointly owned facilities or for individual owners to participate in their proportionate ownership of the coal-fired generating units. This could lead to significant impacts to customer rates for recovery of plant improvements and / or closure related costs and costs to procure replacement power. In addition, these changes could impact system reliability due to changes in generation sources.
Many of these environmental laws and regulations provide for substantial civil and criminal fines for noncompliance which, if imposed, could result in material costs or liabilities. In addition, there is a risk of environmental damages claims from private parties or government entities. We may be required to make significant expenditures in connection with the investigation and remediation of alleged or actual spills, personal injury or property damage claims, and the repair, upgrade or expansion of our facilities to meet future requirements and obligations under environmental laws.
To the extent that costs exceed our estimated environmental liabilities, or we are not successful in recovering remediation costs or costs to comply with the proposed or any future changes in rules or regulations, our results of operations and financial position could be adversely affected.
Early closure of our owned and jointly owned electric generating facilities due to environmental risks, litigation or public policy changes could have a material adverse impact on our results of operations and liquidity.
While our electric supply portfolio is over 58% carbon-free, it includes coal-fired resources and environmental advocacy groups, certain investors and other third parties oppose the operation of certain facilities, expressing concerns about the environmental and climate-related impacts from fossil fuels. These efforts may increase in scope and frequency depending on a number of variables, including the course of Federal and State environmental regulation and the financial resources devoted to these opposition activities. These risks include litigation originated by third parties against us due to GHG or other emissions or coal combustion residuals disposal and storage; activist shareholder proposals; and increased activism before our regulators. We cannot predict the effect that any such opposition may have on our ability to operate and recover the costs of our generating facilities. In addition, defense costs associated with litigation can be significant and an adverse outcome could require substantial capital expenditures and could possibly require payment of substantial penalties or damages. Such payments or expenditures could affect results of operations, financial condition or cash flows if such costs are not recovered through regulated rates.
Early closure of our generation facilities due to economic conditions, environmental regulations and / or litigation could result in regulatory impairments or increased cost of operations. We are obligated to pay for the costs of closure of our share of generation facilities, including our share of the costs of reclamation of some of the mines that supply coal to the coal-fired power plants. Likewise, other owners or participants are responsible for their shares of the decommissioning and reclamation obligations. If recovery of our remaining investment in such facilities and the costs associated with early closure, including decommissioning, remediation, reclamation, and restoration are not recovered from customers, it could have a material adverse impact on our results of operations.
Colstrip - As part of the settlement of litigation brought by the Sierra Club and the Montana Environmental Information Center against the owners and operator of Colstrip, the owners of Units 1 and 2 agreed to shut down those units no later than July 2022. In January 2020, the owners of Units 1 and 2 closed those two units. We do not have ownership in Units 1 and 2,
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and decisions regarding these units, including their shut down, were made by their respective owners. The six owners of Units 3 and 4 currently share the operating costs pursuant to the terms of an operating agreement among them. Costs of facilities in common with all four units are shared among the owners of all four units. With the closure of Units 1 and 2, we anticipate incurring some additional operating costs with respect to our interest in Unit 4 and expect to experience a negative impact on our transmission revenue due to reduced amounts of energy transmitted across our transmission lines. We expect to incorporate this reduction in our next general electric rate filing, resulting in lower revenue credits to certain customers.
In addition, the remaining depreciable life of our investment in Colstrip Unit 4 is through 2042. Our recovery of costs associated with the shut-down of the facility prior to the end of the depreciable life would be subject to MPSC approval. Two of the other joint owners have entered into settlements with regulators and a third has filed a petition with its regulators to accelerate the recovery of their investment in Colstrip Units 3 and 4 by using a depreciable life through 2027. In May 2019, the Washington state legislature enacted a statute mandating Washington electric utilities to “eliminate coal-fired resources from [their] allocation of electricity” on or before December 31, 2025. The same three owners, which had earlier set and requested a depreciable life through 2027, are subject to this Washington statute and its 2025 deadline. One of those owners announced in October 2019 its intent to retire its shares of Units 3 and 4 in 2027.
In addition, we have joint ownership in and operate the associated 500 kV transmission system. The closure of generation at Colstrip may impact the operation of this 500 kV system, and the joint owners may have differing needs with regard to ongoing operation of this system. The 500 kV transmission system is an integral, essential part of our overall transmission system in Montana in order to maintain reliability, regardless of the status of the generation facilities.
Increased risks of regulatory penalties could negatively impact our business.
We must comply with established reliability standards and requirements including Critical Infrastructure Protection (CIP) Reliability Standards, which apply to NERC functions. NERC reliability standards protect the nations' bulk power system against potential disruptions from cyber and physical security breaches. The FERC, NERC, or a regional reliability organization may assess penalties against any responsible entity that violates their rules, regulations or standards. Penalties for the most severe violations can reach as high as approximately $1.2 million per violation, per day. If a serious reliability incident or other incidence of noncompliance did occur, it could have a material adverse effect on our operating and financial results.
Additionally, the Pipeline and Hazardous Materials Safety Administration, Occupational Safety and Health Administration and other federal agencies have penalty authority. In the event of serious incidents, these agencies have become more active in pursuing penalties. Some states have the authority to impose substantial penalties. If a serious reliability or safety incident did occur, it could have a material effect on our results of operations, financial condition or cash flows.
Federally mandated purchases of power from QFs, and integration of power generated from those projects in our system, may increase costs to our customers and decrease system reliability, limit our ability to make generation investments and adversely affect our business.
We are generally obligated under federal law to purchase power from certain QF projects, regardless of current load demand, availability of lower cost generation resources, transmission availability or market prices. These resources are primarily intermittent, non-dispatchable generation whose prices may be in excess of market prices during times of lower customer demand, and may not be able to generate electricity during peak times. These resources typically do not meet the requirements set forth in our supply plans for resource procurement. These requirements to purchase supply inconsistent with customer need may have several impacts, including increasing the likelihood and frequency that we will be required to reduce output from owned generation resources and that we will need to upgrade or build additional transmission facilities to serve QF projects. Either of these results would increase costs to customers. Further, balancing load and power generation on our system is challenging, and we expect that operational costs will increase as a result of integration of these intermittent, non-dispatchable generation projects. If we are unable to timely recover those costs through our PCCAM or otherwise, those increased costs may negatively affect our liquidity, results of operations and financial condition.
In addition, requirements to procure power from these sources could impact our ability to make generation investments depending upon the number and size of QF contracts we ultimately enter into. The cost to procure power from these QFs may not be a cost effective resource for customers, or the type of generation resource needed, resulting in increased supply costs that are inconsistent with resource plans developed based on a lowest cost and least risk basis while placing upward pressure on overall customer bills. This may impact our investment plans and financial condition. Finally, the requirement to procure power from these QF sources may impact our transmission system and require additional transmission facilities to be developed in order to integrate these resources, which also can impact overall customer bills.
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Operational Risks | ||||
Our electric and natural gas operations involve numerous activities that may result in accidents, fires, system outages and other operating risks and costs that are unique to our industry.
Inherent in our electric transmission and distribution and natural gas transportation and distribution operations are a variety of hazards and operating risks, such as breakdown or failure of equipment or processes, interruptions in fuel supply, labor disputes, operator error, and catastrophic events such as fires, electric contacts, leaks, explosions, floods and intentional acts of destruction. These risks could cause a loss of human life, facility shutdown or significant damage to property, loss of customer load, environmental pollution, impairment of our operations, and substantial financial losses to us and others. For our natural gas lines located near populated areas, including residential areas, commercial business centers, industrial sites and other public gathering areas, the level of potential damages resulting from these risks could be significant.
For our electric distribution and transmission system, hazard trees located inside or outside our lines' rights of way pose risks. Hazard trees are those trees that are structurally unsound and could fall into our lines if the trees failed. We are facing challenges to address these trees. The risk of fires is exacerbated in forested areas where beetle infestations have caused a significant increase in the quantity of standing dead and dying timber, increasing the risk that such trees may fall from either inside or outside our right-of-way into a power line igniting a fire. Fires alleged to have been caused by our system could expose us to significant damage claims on theories such as strict liability, negligence, gross negligence, trespass, inverse condemnation, and others.
For our electric generating facilities, operational risks include facility shutdowns due to breakdown or failure of equipment or processes, interruptions in fuel supply, labor disputes, operator error, catastrophic events such as fires, explosions, floods, and intentional acts of destruction or other similar occurrences affecting the electric generating facilities; and operational changes necessitated by environmental legislation, litigation or regulation. The loss of a major electric generating facility would require us to find other sources of supply or ancillary services, if available, and expose us to higher purchased power costs and potential litigation which may not be recovered from customers.
We maintain insurance against some, but not all, of these risks and losses. The occurrence of any of these events not fully covered by insurance could have a material adverse effect on our financial position and results of operations.
Cyber and physical attacks, threats of terrorism and catastrophic events that could result from terrorism, or individuals and/or groups attempting to disrupt our business, or the businesses of third parties, may affect our operations in unpredictable ways and could adversely affect our liquidity and results of operations. Failure to maintain the security of personally identifiable information could adversely affect us.
Business Operations - We are subject to the potentially adverse operating and financial effects of terrorist acts and threats, as well as cyber (such as hacking and viruses), physical security breaches and other disruptive activities of individuals or groups, and theft of our critical infrastructure information. Our generation, transmission and distribution facilities are deemed critical infrastructure and provide the framework for our service infrastructure. Cyber crime, which includes the use of malware, computer viruses, and other means for disruption or unauthorized access has increased in frequency, scope, and potential impact in recent years. Our assets and the information technology systems on which they depend could be direct targets of, or indirectly affected by, cyber attacks and other disruptive activities, including those that impact third party facilities that are interconnected to us. Any significant interruption of these assets or systems could prevent us from fulfilling our critical business functions including delivering energy to our customers, and sensitive, confidential and other data could be compromised.
Security threats continue to evolve and adapt. We and our third-party vendors have been subject to, and will likely continue to be subject to, attempts to gain unauthorized access to systems, or confidential data, or to disrupt operations. None of these attempts has individually or in aggregate resulted in a security incident with a material impact on our financial condition or results of operations. Despite implementation of security and control measures, there can be no assurance that we will be able to prevent the unauthorized access of our systems and data, or the disruption of our operations, either of which could have a material impact.
These events, and governmental actions in response, could result in a material decrease in revenues and significant additional costs to repair and insure assets, and could adversely affect our operations by contributing to the disruption of supplies and markets for electricity, natural gas, oil and other fuels. These events could also impair our ability to raise capital by contributing to financial instability and reduced economic activity.
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Personally Identifiable Information - Our information systems and those of our third-party vendors contain confidential information, including information about customers and employees. Customers, shareholders, and employees expect that we will adequately protect their personal information. The regulatory environment surrounding information security and privacy is increasingly demanding. A data breach involving theft, improper disclosure, or other unauthorized access to or acquisition of confidential information could subject us to penalties for violation of applicable privacy laws, claims by third parties, and enforcement actions by government agencies. It could also reduce the value of proprietary information, and harm our reputation.
Weather and weather patterns, including normal seasonal and quarterly fluctuations of weather, as well as extreme weather events that might be associated with climate change, could adversely affect our results of operations and liquidity.
Our electric and natural gas utility business is seasonal, and weather patterns can have a material impact on our financial performance. Demand for electricity and natural gas is often greater in the summer and winter months associated with cooling and heating. Because natural gas is heavily used for residential and commercial heating, the demand for this product depends heavily upon weather patterns throughout our market areas, and a significant amount of natural gas revenues are recognized in the first and fourth quarters related to the heating season. Accordingly, our operations have historically generated less revenue and income when weather conditions are milder in the winter and cooler in the summer. Unusually mild winters or cool summers could adversely affect our results of operations and financial position. In addition, exceptionally hot summer weather or unusually cold winter weather could add significantly to working capital needs to fund higher than normal supply purchases to meet customer demand for electricity and natural gas. Our sensitivity to weather volatility is significant due to the absence of regulatory mechanisms, such as those authorizing revenue decoupling, lost margin recovery, and other innovative rate designs.
Severe weather impacts, including but not limited to, blizzards, thunderstorms, high winds, microbursts, fires, tornadoes and snow or ice storms can disrupt energy generation, transmission and distribution. We derive a significant portion of our energy supply from hydroelectric facilities, and the availability of water can significantly affect operations. Higher temperatures may decrease the Montana snowpack and impact the timing of run-off and may require us to purchase replacement power. Dry conditions also increase the threat of fires, which could threaten our communities and electric distribution and transmission lines and facilities. In addition, fires alleged to have been caused by our system could expose us to substantial property damage and other claims. Any damage caused as a result of fires could negatively impact our financial condition, results of operations or cash flows.
There is also a concern that the physical risks of climate change could include changes in weather conditions, such as changes in the amount or type of precipitation and extreme weather events. Climate change and the costs that may be associated with its impacts have the potential to affect our business in many ways, including increasing the cost incurred in providing electricity and natural gas, impacting the demand for and consumption of electricity and natural gas (due to change in both costs and weather patterns), and affecting the economic health of the regions in which we operate. Extreme weather conditions creating high energy demand on our own and/or other systems may raise market prices as we buy short-term energy to serve our own system. To the extent the frequency of extreme weather events increase, this could increase our cost of providing service. In addition, we may not recover all costs related to mitigating these physical and financial risks.
Our electric and natural gas portfolios rely significantly on market purchases. Prices for electric power and natural gas are often unpredictable as they are subject to market volatility and general market disruption. This exposure adversely affects our ability to manage our operational requirements and costs, which ultimately could adversely affect our results of operations and liquidity.
We are obligated to supply power to retail customers and certain wholesale customers and procure natural gas to supply fuel for our natural gas fired generation. Our need to acquire flexible energy supply and capacity in the market to meet our electric and natural gas load serving obligations exposes us to certain risks. In Montana, approximately 46% of our peak electric requirements are served through market purchases. We experienced a new, all-time system peak on the Montana electric system in February 2019, further exacerbating our electric generation capacity and gas transmission deficiency. In addition, a significant number of base-load generation facilities, which may also serve to meet peak requirements, in the region are being retired or are scheduled to be retired in the next five to ten years. A decrease in the region’s electric capacity may impair the reliability of the grid, particularly during peak demand periods. In addition, our natural gas system serves both retail customers and the needs of natural gas fired electric generation. The natural gas system has capacity constraints that expose us to risks to be able to deliver natural gas during periods of peak demand.
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There can be no assurance that there will be available counterparties to contract with to serve our customers' needs, or that these counterparties will fulfill their obligations to us. The suppliers under these agreements may experience financial or operational problems that inhibit their ability to fulfill their obligations to us.
Commodity pricing is an inherent risk component of our business operations and our financial results. Even though rate regulation is premised on full recovery of prudently incurred costs and a reasonable rate of return on invested capital, there can be no assurance that our costs are recoverable as discussed above. The prevailing market prices for electricity may fluctuate substantially over relatively short periods of time, potentially adversely impacting our results of operations, financial condition and cash flows due to our need for market purchases and the sharing component of the Montana PCCAM.
Fluctuations in actual weather conditions, generation availability, transmission constraints, and generation reserve margins may all have an impact on market prices for energy and capacity and the electricity consumption of our customers on a given day. Extreme weather conditions may force us to purchase electricity in the short-term market on days when weather is unexpectedly severe, and the pricing for market energy may be significantly higher on such days than the cost of electricity in our existing generation and contracts. Unusually mild weather conditions could leave us with excess power which may be sold in the market at a loss if the market price is lower than the cost of electricity in our existing contracts.
Our revenues, results of operations and financial condition are impacted by customer growth and usage in our service territories and may fluctuate with current economic conditions or response to price increases. We are also impacted by market conditions outside of our service territories related to demand for transmission capacity and wholesale electric pricing.
Our revenues, results of operations and financial condition are impacted by customer growth and usage, which can be impacted by a number of factors, including the voluntary reduction of consumption of electricity and natural gas by our customers in response to increases in prices and demand-side management programs, economic conditions impacting decreases in their disposable income, and the use of distributed generation resources or other emerging technologies for electricity. Advances in distributed generation technologies that produce power, including fuel cells, micro-turbines, wind turbines and solar cells, may reduce the cost of alternative methods of producing power to a level competitive with central power station electric production. Customer-owned generation itself reduces the amount of electricity purchased from utilities and may have the effect of inappropriately increasing rates generally and increasing rates for customers who do not own generation, unless retail rates are designed to collect distribution grid costs across all customers in a manner that reflects the benefit from their use. Such developments could affect the price of energy, could affect energy deliveries as customer-owned generation becomes more cost-effective, could require further improvements to our distribution systems to address changing load demands and could make portions of our electric system power supply and transmission and/or distribution facilities obsolete prior to the end of their useful lives. Such technologies could also result in further declines in commodity prices or demand for delivered energy.
Decreasing use per customer (driven, for example, by appliance and lighting efficiency) and the availability of cost-effective distributed generation, put downward pressure on load growth. Our resource plan includes an expected load growth assumption of 0.8 percent annually, which reflects low customer and usage increases, offset in part by these load reduction measures. Reductions in usage, attributable to various factors could materially affect our results of operations, financial position, and cash flows through, among other things, reduced operating revenues, increased operating and maintenance expenses, and increased capital expenditures, as well as potential asset impairment charges or accelerated depreciation and decommissioning expenses over shortened remaining asset useful lives.
Demand for our Montana transmission capacity fluctuates with regional demand, fuel prices and weather related conditions. The levels of wholesale sales depend on the wholesale market price, market participants, transmission availability, the availability of generation, and the development of the Western EIM and our expected participation, among other factors. Declines in wholesale market price, availability of generation, transmission constraints in the wholesale markets, or low wholesale demand could reduce wholesale sales. These events could adversely affect our results of operations, financial position and cash flows.
Liquidity and Financial Risks | ||||
Our plans for future expansion through the acquisition of assets including natural gas reserves, capital improvements to existing assets, generation investments, and transmission grid expansion involve substantial risks.
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Acquisitions include a number of risks, including but not limited to, regulatory approval, regulatory conditions, additional costs, the assumption of material liabilities, the diversion of management’s attention from daily operations to the integration of the acquisition, difficulties in assimilation and retention of employees, and securing adequate capital to support the transaction. The regulatory process in which rates are determined may not result in rates that produce full recovery of our investments, or a reasonable rate of return. Uncertainties also exist in assessing the value, risks, profitability, and liabilities associated with certain businesses or assets and there is a possibility that anticipated operating and financial synergies expected to result from an acquisition do not develop. The failure to successfully integrate future acquisitions that we may choose to undertake could have an adverse effect on our financial condition and results of operations.
Our business strategy also includes significant investment in capital improvements and additions to modernize existing infrastructure, generation investments and transmission capacity expansion. The completion of generation and natural gas investments and transmission projects are subject to many construction and development risks, including, but not limited to, risks related to permitting, financing, regulatory recovery, escalating costs of materials and labor, meeting construction budgets and schedules, and environmental compliance. In addition, these capital projects may require a significant amount of capital expenditures. We cannot provide certainty that adequate external financing will be available to support such projects. Additionally, borrowings incurred to finance construction may adversely impact our leverage, which could increase our cost of capital.
We must meet certain credit quality standards. If we are unable to maintain investment grade credit ratings, our liquidity, access to capital and operations could be materially adversely affected.
A downgrade of our credit ratings to less than investment grade could adversely affect our liquidity. Certain of our credit agreements and other credit arrangements with counterparties require us to provide collateral in the form of letters of credit or cash to support our obligations if we fall below investment grade. Also, a downgrade below investment grade could hinder our ability to raise capital on favorable terms and would increase our borrowing costs. Higher interest rates on borrowings with variable interest rates could also have an adverse effect on our results of operations.
Poor investment performance of plan assets of our defined benefit pension and postretirement benefit plans, in addition to other factors impacting these costs, could unfavorably impact our results of operations and liquidity.
Our costs for providing defined benefit retirement and postretirement benefit plans are dependent upon a number of factors. Assumptions related to future costs, return on investments and interest rates have a significant impact on our funding requirements related to these plans. These estimates and assumptions may change based on economic conditions, actual stock market performance and changes in governmental regulations. Without sustained growth in the plan assets over time and depending upon interest rate changes as well as other factors noted above, the costs of such plans reflected in our results of operations and financial position and cash funding obligations may change significantly from projections.
Our obligation to include a minimum annual quantity of power in our Montana electric supply portfolio at an agreed upon price per MWH could expose us to material commodity price risk if certain QFs under contract with us do not perform during a time of high commodity prices, as we are required to make up the difference. In addition, we are subject to price escalation risk with one of the largest QF contracts.
As part of a stipulation in 2002 with the MPSC and other parties, we agreed to include a minimum annual quantity of power in our Montana electric supply portfolio at an agreed upon price per MWH through June 2029. This obligation is reflected in the electric QF liability, which reflects the unrecoverable costs associated with these specific QF contracts per the stipulation. The annual minimum energy requirement is achievable under normal operations of these facilities, including normal periods of planned and forced outages. However, to the extent the supplied power for any year does not reach the minimum quantity set forth in the settlement, we are obligated to purchase the difference from other sources. The anticipated source for any shortfall is the wholesale market, which would subject us to commodity price risk if the cost of replacement power is higher than contracted rates.
In addition, we are subject to price escalation risk with one of the largest contracts included in the electric QF liability due to variable contract terms. In recording the electric QF liability, we estimated an annual escalation rate of three percent over the remaining term of the contract (through June 2024). To the extent the annual escalation rate exceeds three percent, our results of operations, cash flows and financial position could be adversely affected.
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ITEM 1B. UNRESOLVED STAFF COMMENTS
None
ITEM 2. PROPERTIES
Our material properties include electric generating facilities, electric transmission and distribution lines, and natural gas production, transmission and distribution lines, which are described in Item 1 under Electric Operations and Natural Gas Operations. Substantially all of our Montana electric and natural gas assets are subject to the lien of our Montana First Mortgage Bond indenture. Substantially all of our South Dakota and Nebraska electric and natural gas assets are subject to the lien of our South Dakota Mortgage Bond indenture.
ITEM 3. LEGAL PROCEEDINGS
We discuss details of our legal proceedings in Note 18 - Commitments and Contingencies, to the Consolidated Financial Statements. Some of this information is about costs or potential costs that may be material to our financial results.
ITEM 4. MINE SAFETY DISCLOSURES
None
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Part II |
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock, which is traded under the ticker symbol NWE, is listed on the New York Stock Exchange (NYSE). As of February 7, 2020, there were approximately 1,128 common stockholders of record.
Dividends
We pay dividends on our common stock after our Board declares them. The Board reviews the dividend quarterly and establishes the dividend rate based upon such factors as our earnings, financial condition, capital requirements, debt covenant requirements and/or other relevant conditions. Although we expect to continue to declare and pay cash dividends with a targeted long-term dividend payout ratio of 60 - 70 percent of earnings per share, we cannot assure that dividends will be paid in the future or that, if paid, the dividends will be paid in the same amount as during 2019.
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ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data has been derived from our Consolidated Financial Statements and should be read in conjunction with the Consolidated Financial Statements and notes thereto, with Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, and with other financial data included elsewhere in this report. The historical results are not necessarily indicative of results to be expected for any future period.
FIVE-YEAR FINANCIAL SUMMARY | ||||
Year Ended December 31, | |||||||||||||||||||
2019 | 2018 | 2017 | 2016 | 2015 | |||||||||||||||
Financial Results (in thousands, except per share data) | |||||||||||||||||||
Operating revenues | $ | 1,257,910 | $ | 1,192,009 | $ | 1,305,652 | $ | 1,257,247 | $ | 1,214,299 | |||||||||
Net income | 202,120 | 196,960 | 162,703 | 164,172 | 151,209 | ||||||||||||||
Basic earnings per share | $ | 4.01 | $ | 3.94 | $ | 3.35 | $ | 3.40 | $ | 3.20 | |||||||||
Diluted earnings per share | 3.98 | 3.92 | 3.34 | 3.39 | 3.17 | ||||||||||||||
Dividends declared per common share | 2.30 | 2.20 | 2.10 | 2.00 | 1.92 | ||||||||||||||
Financial Position | |||||||||||||||||||
Total assets | $ | 5,910,702 | $ | 5,644,376 | $ | 5,420,917 | $ | 5,499,321 | $ | 5,264,695 | |||||||||
Total debt, including finance leases and short-term borrowings | 2,253,196 | 2,124,558 | 2,137,318 | 2,120,474 | 2,026,219 | ||||||||||||||
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following includes a discussion of our results of operations and cash flows for the year ended December 31, 2019 compared to the year ended December 31, 2018, on both a consolidated basis and on a segment basis. For a discussion of our financial results and cash flows for the year ended December 31, 2018 compared with the year ended December 31, 2017, see Management's Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2018.
This should be read in conjunction with Item 6. Selected Financial Data and our Consolidated Financial Statements and related notes contained elsewhere in this Annual Report on Form 10-K. For additional information related to our segments, see Note 20 - Segment and Related Information, to the Consolidated Financial Statements, which is included in Item 8 herein. For information regarding our revenues, net income and assets, see our Consolidated Financial Statements included in Item 8.
OVERVIEW | ||||
NorthWestern Corporation, doing business as NorthWestern Energy, provides electricity and/or natural gas to approximately 734,800 customers in Montana, South Dakota and Nebraska. As you read this discussion and analysis, refer to our Consolidated Statements of Income, which present the results of our operations for 2019, 2018 and 2017. Following is a discussion of our strategy and significant trends.
We are working to deliver safe, reliable and innovative energy solutions that create value for customers, communities, employees and investors. This includes bridging our history as a regulated utility safely providing low-cost and reliable service with our future as a globally-aware company offering a broader array of services performed by highly-adaptable and skilled employees. We seek to deliver value to our customers by providing high reliability and customer service, and an environmentally sustainable generation mix at an affordable price. We are focused on delivering long-term shareholder value by continuing to invest in our system including:
• | Infrastructure investment focused on a stronger and smarter grid to improve the customer experience, while enhancing grid reliability and safety. This includes automation in distribution and substations that enables the use of changing technology. |
• | Integrating supply resources that balance reliability, cost, capacity, and sustainability considerations with more predictable long-term commodity prices. |
• | Continually improving our operating efficiency. Financial discipline is essential to earning our authorized return on invested capital and maintaining a strong balance sheet, stable cash flows, and quality credit ratings. |
We expect to pursue these investment opportunities and manage our business in a manner that allows us to be flexible in adjusting to changing economic conditions by adjusting the timing and scale of the projects.
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HOW WE PERFORMED IN 2019 COMPARED TO OUR 2018 RESULTS | ||||
Year Ended December 31, 2019 vs. 2018 | |||||||||||
Income Before Income Taxes | Income Tax Benefit (Expense) | Net Income | |||||||||
(in millions) | |||||||||||
Year ended December 31, 2018 | $ | 178.3 | $ | 18.7 | $ | 197.0 | |||||
Items increasing (decreasing) net income: | |||||||||||
Higher revenue absent the 2018 impacts of the Tax Cuts and Jobs Act | 22.1 | (5.6 | ) | 16.5 | |||||||
Higher electric and natural gas retail volumes | 17.3 | (4.6 | ) | 12.7 | |||||||
Higher Montana electric retail rates | 4.4 | (1.1 | ) | 3.3 | |||||||
Income tax benefit | — | 3.0 | 3.0 | ||||||||
Higher Montana electric supply cost recovery | 3.9 | (1.0 | ) | 2.9 | |||||||
Lower depreciation and depletion | 1.6 | (0.4 | ) | 1.2 | |||||||
Electric QF liability adjustment | (20.9 | ) | 5.3 | (15.6 | ) | ||||||
Higher operating, general, and administrative expenses | (17.3 | ) | 4.4 | (12.9 | ) | ||||||
Lower Montana electric transmission revenue | (5.6 | ) | 1.4 | (4.2 | ) | ||||||
Lower Montana gas production rates | (1.5 | ) | 0.6 | (0.9 | ) | ||||||
Other | (0.1 | ) | (0.8 | ) | (0.9 | ) | |||||
Year ended December 31, 2019 | $ | 182.2 | $ | 19.9 | $ | 202.1 | |||||
Change in Net Income | $ | 5.1 | |||||||||
Consolidated net income in 2019 was $202.1 million as compared with $197.0 million in 2018. This increase was primarily due to a reduction in revenue in 2018 due to the impact of the Tax Cuts and Jobs Act regulatory settlements, higher volumes due to colder winter weather and customer growth, and a larger income tax benefit in 2019. These improvements were partly offset by the adjustment of our electric QF liability and higher operating expenses.
SIGNIFICANT TRENDS AND REGULATION | ||||
Electric Resource Planning - Montana
In August 2019, we issued our final 2019 Electricity Supply Resource Procurement Plan (Montana Resource Plan) that included responses to public comments. The Montana Resource Plan supports the goal of developing resources that will address the changing energy landscape in Montana to meet our customers' electric energy needs in a reliable and affordable manner.
We are currently 630 MW short of our peak needs, which we procure in the market. We forecast that our energy portfolio will be 725 MW short by 2025, considering expiring contracts and a modest increase in customer demand. Based on our customers' future energy resource needs as identified in the Montana Resource Plan, we issued an all-source competitive solicitation request in February 2020 for up to 280 MWs of peaking and flexible capacity to be available for commercial operation in early 2023. An independent evaluator is being used to administer the solicitation process and evaluate proposals, with the successful project(s) selected by the first quarter of 2021. We expect the process will be repeated in subsequent years to provide a resource-adequate energy and capacity portfolio by 2025.
The proposed solicitation process will allow us to consider a wide variety of resource options. These options include power purchase agreements and owned energy resources comprised of different structures, terms and technologies that are cost-effective resources. The staged approach is designed to allow for incremental steps through time with opportunities for different resource type of new technologies while also building a reliable portfolio to meet local and regional conditions and minimizing customer impacts.
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Proposed Colstrip Unit 4 Capacity Acquisition - In February 2020, we filed an application for pre-approval with the MPSC to acquire Puget Sound Energy’s 25% interest, 185 megawatts of generation, in Colstrip Unit 4 for one dollar. In addition, we are seeking approval to sell 90 megawatts to Puget Sound Energy for roughly 5 years at a price indexed to hourly prices at the Mid-Columbia power hub, with a price floor reflecting the recovery of fixed operating and maintenance costs and variable generation costs. Our proposal includes zero net effect on customer bills while setting aside the benefits from the transaction - estimated to be $4 million annually - to address environmental compliance, remediation and decommissioning costs associated with our existing 222 MWs of ownership. Puget Sound Energy remains responsible for its presale 25% ownership share of all costs for remediation of existing environmental conditions and decommissioning regardless of the proposed acquisition or when Colstrip Unit 4 is retired. We expect the MPSC to establish a procedural schedule in this docket in the first quarter of 2020. If this capacity acquisition is approved, this will reduce our need for capacity identified above in our resource plan by 170 MW, which is the accredited capacity.
We also entered into an agreement with Puget Sound Energy to acquire an additional 95 MW interest in the 500 kV Colstrip Transmission System for net book value at the time of the sale. The net book value is expected to range between $2.5 million to $3.8 million. After the roughly 5-year purchase power agreement with Puget Sound Energy, we will have the option to acquire another 90 MW interest in the 500 kV Colstrip Transmission System for net book value at that time. These transmission acquisitions are conditioned upon approval and closing of the Unit 4 acquisition.
Recovery of the additional rate base from these transactions, if completed, will be subject to review in the next Montana general electric rate case.
Electric Resource Planning - South Dakota
In April 2019, we issued a request for proposals for 60 MW of flexible capacity resources to begin serving South Dakota customers by the end of 2021. As a result of a competitive solicitation process, we expect to own a natural gas fired reciprocating internal combustion engines at Huron, South Dakota. Dependent upon selection of manufacturer, we anticipate 55 - 60 MW to be online by late 2021 at a total investment of approximately $80 million. The selected proposal is subject to the execution of construction contracts and obtaining the applicable environmental and construction related permits.
We anticipate financing this project with a combination of cash flow from operations, first mortgage bonds and equity issuances. Based on current expectations, any equity issuance would be late 2020 or early 2021 and would be sized to maintain and protect current credit ratings.
Montana General Electric Rate Case
In December 2019, the MPSC issued a final order approving our electric rate case settlement for rates effective April 1, 2019, resulting in an annual increase to electric revenue of approximately $6.5 million (based upon a 9.65% return on equity (ROE) and rate base and capital structure as filed) and an annual decrease in depreciation expense of approximately $9.3 million. Various parties have filed petitions for reconsideration of parts of that December 2019 order, and we expect the MPSC to issue an order on these requests during the first quarter of 2020.
FERC Filing - In May 2019, we submitted a filing with the FERC for our Montana transmission assets. The revenue requirement associated with our Montana FERC assets is reflected in our Montana MPSC-jurisdictional rates as a credit to retail customers. We expect to submit a compliance filing with the MPSC upon resolution of our Montana FERC case adjusting the proposed credit in our Montana retail rates.
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SIGNIFICANT INFRASTRUCTURE INVESTMENTS AND INITIATIVES | ||||
Our estimated capital expenditures for the next five years, including our electric and natural gas transmission and distribution infrastructure investment plan, are as follows (in millions):
Electric Supply Resource Plans - Our energy resource plans discussed above identify portfolio resource requirements including potential investments. As a result of a competitive solicitation process in South Dakota, we have included $80 million of capital in our projections above for 55-60 MW of capacity additions at a brownfield site near Huron, South Dakota expected to be in service by late 2021.
We have not included any potential generation capital related to our Montana competitive solicitation in the projections above. We anticipate that owned assets to address energy and capacity needs in Montana could increase the capital forecast presented above in excess of $200 million over the next five years.
Natural Gas Production Assets - We own natural gas production and gathering system assets in Montana as a part of an overall strategy to provide rate stability and customer value through the addition of regulated assets that are not subject to market forces. Our estimated capital expenditure requirements above do not include estimates for incremental natural gas reserve acquisitions, or other investment opportunities that may arise.
Distribution and Transmission Modernization and Maintenance - As part of our commitment to maintain high level reliability and system performance, we continue to evaluate the condition of our distribution and transmission assets to address aging infrastructure through our asset management process. The primary goals of our infrastructure investment are to reverse the trend in aging infrastructure, maintain reliability, proactively manage safety, build capacity into the system, and prepare our network for the adoption of new technologies. We are taking a proactive and pragmatic approach to replace these assets while also evaluating the implementation of additional technologies to prepare the overall system for smart grid applications.
•We installed approximately $32 million of Automated Metering Infrastructure (AMI) in our South Dakota and Nebraska jurisdictions from 2016 to 2019, which is reflected in our property, plant and equipment. In 2020 through 2022, we expect to install AMI in Montana at a cost ranging from approximately $100 to $105 million, which is reflected in the five year capital forecast above.
•Hazard trees are those trees that are structurally unsound and could fall into our lines if the trees failed. Hazard trees may be located inside or outside our electric transmission and distribution lines' rights of way and pose
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risks to our system including disruption of service, property damage, loss of life, and/or fires. We worked with third parties, including the U.S. Forest Service, to develop a plan to remove these hazard trees and began work in 2018. The work related to this initiative is reflected in operating expenses in the Consolidated Income Statements. During 2019 and 2018, we incurred approximately $7.5 million and $3.3 million, respectively, in costs, which is incremental to costs for vegetation management within our rights of way. We expect to continue the program over the next several years with anticipated 2020 costs ranging from approximately $4 million to $5 million, with cumulative operating expense for the program exceeding $20 million.
RESULTS OF OPERATIONS | ||||
Our consolidated results include the results of our divisions and subsidiaries constituting each of our business segments. The overall consolidated discussion is followed by a detailed discussion of gross margin by segment.
Non-GAAP Financial Measure
The following discussion includes financial information prepared in accordance with GAAP, as well as another financial measure, Gross Margin, that is considered a “non-GAAP financial measure.” Generally, a non-GAAP financial measure is a numerical measure of a company’s financial performance, financial position or cash flows that excludes (or includes) amounts that are included in (or excluded from) the most directly comparable measure calculated and presented in accordance with GAAP. We define Gross Margin as Revenues less Cost of Sales as presented in our Consolidated Statements of Income. The following discussion includes a reconciliation of Gross Margin to Operating Revenues, the most directly comparable GAAP measure.
Management believes that Gross Margin provides a useful measure for investors and other financial statement users to analyze our financial performance in that it excludes the effect on total revenues caused by volatility in energy costs and associated regulatory mechanisms. This information is intended to enhance an investor's overall understanding of results. Under our various state regulatory mechanisms, as detailed below, our supply costs are generally collected from customers. In addition, Gross Margin is used by us to determine whether we are collecting the appropriate amount of energy costs from customers to allow recovery of operating costs, as well as to analyze how changes in loads (due to weather, economic or other conditions), rates and other factors impact our results of operations. Our Gross Margin measure may not be comparable to that of other companies' presentations or more useful than the GAAP information provided elsewhere in this report.
Factors Affecting Results of Operations
Our revenues may fluctuate substantially with changes in supply costs, which are generally collected in rates from customers. In addition, various regulatory agencies approve the prices for electric and natural gas utility service within their respective jurisdictions and regulate our ability to recover costs from customers.
Revenues are also impacted by customer growth and usage, the latter of which is primarily affected by weather. Very cold winters increase demand for natural gas and to a lesser extent, electricity, while warmer than normal summers increase demand for electricity, especially among our residential and commercial customers. We measure this effect using degree-days, which is the difference between the average daily actual temperature and a baseline temperature of 65 degrees. Heating degree-days result when the average daily temperature is less than the baseline. Cooling degree-days result when the average daily temperature is greater than the baseline. The statistical weather information in our regulated segments represents a comparison of this data.
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OVERALL CONSOLIDATED RESULTS | ||||
Year Ended December 31, 2019 Compared with Year Ended December 31, 2018
Consolidated net income in 2019 was $202.1 million as compared with $197.0 million in 2018, an increase of $5.1 million. As described in more detail below, this increase was primarily due to a reduction in revenue in 2018 due to the impact of the Tax Cuts and Jobs Act regulatory settlements, higher volumes due to colder winter weather and customer growth, and a larger income tax benefit in 2019. These improvements were partly offset by the adjustment of our electric QF liability and higher operating expenses.
Consolidated operating revenues in 2019 were $1,257.9 million as compared with $1,192.0 million, an increase of $65.9 million. This increase was primarily due to a reduction in revenue in 2018 due to the impact of the Tax Cuts and Jobs Act regulatory settlements, higher supply costs being collected in rates, and increased volumes due to colder winter weather and customer growth. Consolidated gross margin in 2019 was $939.9 million as compared with $919.1 million in 2018, an increase of $20.8 million, or 2.3%.
Electric | Natural Gas | Total | |||||||||||||||||||||
2019 | 2018 | 2019 | 2018 | 2019 | 2018 | ||||||||||||||||||
(in millions) | |||||||||||||||||||||||
Reconciliation of gross margin to operating revenue: | |||||||||||||||||||||||
Operating Revenues | $ | 981.2 | $ | 921.1 | $ | 276.7 | $ | 270.9 | $ | 1,257.9 | $ | 1,192.0 | |||||||||||
Cost of Sales | 239.6 | 194.6 | 78.4 | 78.3 | 318.0 | 272.9 | |||||||||||||||||
Gross Margin(1) | $ | 741.6 | $ | 726.5 | $ | 198.3 | $ | 192.6 | $ | 939.9 | $ | 919.1 | |||||||||||
(1) Non-GAAP financial measure. See "Non-GAAP Financial Measure" above.
Year Ended December 31, | ||||||||||||||
2019 | 2018 | Change | % Change | |||||||||||
(in millions) | ||||||||||||||
Gross Margin | ||||||||||||||
Electric | $ | 741.6 | $ | 726.5 | $ | 15.1 | 2.1 | % | ||||||
Natural Gas | 198.3 | 192.6 | 5.7 | 3.0 | ||||||||||
Total Gross Margin(1) | $ | 939.9 | $ | 919.1 | $ | 20.8 | 2.3 | % | ||||||
(1) Non-GAAP financial measure. See "Non-GAAP Financial Measure" above.
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Primary components of the change in gross margin include the following (in millions):
Gross Margin 2019 vs. 2018 | |||
Gross Margin Items Impacting Net Income | |||
Tax Cuts and Jobs Act impact | $ | 22.1 | |
Electric and natural gas retail volumes | 17.3 | ||
Montana electric retail rates | 4.4 | ||
Montana electric supply cost recovery | 3.9 | ||
Electric QF liability adjustment | (20.9 | ) | |
Electric transmission | (5.6 | ) | |
Montana natural gas production rates | (1.5 | ) | |
Other | 0.5 | ||
Change in Gross Margin Impacting Net Income | 20.2 | ||
Gross Margin Items Offset Within Net Income | |||
Property taxes recovered in trackers | 3.0 | ||
Production tax credits flowed-through trackers | (1.7 | ) | |
Operating expenses recovered in trackers | (0.7 | ) | |
Change in Items Offset Within Net Income | 0.6 | ||
Increase in Consolidated Gross Margin(1) | $ | 20.8 | |
(1) Non-GAAP financial measure. See "Non-GAAP Financial Measure" above.
Consolidated gross margin for items impacting net income increased $20.2 million, due to the following:
• | A reduction in revenue in 2018 due to the impact of the Tax Cuts and Jobs Act; |
• | An increase in electric and gas retail volumes due primarily to colder winter weather and customer growth; |
• | An increase in Montana electric revenue recognized consistent with the order in our electric rate case, effective April 1, 2019, as discussed above; and |
• | The recovery of Montana electric supply costs due to changes in the associated statute, partly offset by higher supply costs in 2019 as compared with 2018. |
These increases were partly offset by the following items:
• | The adjustment of our electric QF liability (unrecoverable costs associated with PURPA contracts as a part of a 2002 stipulation with the MPSC and other parties) as compared with 2018 due to the combination of: |
▪ | A lower periodic adjustment of approximately $14.2 million due to price escalation, which was less than previously estimated; and |
• | A lower impact of the adjustment to actual output and pricing for the contract year resulting in approximately $6.7 million in higher supply costs for these QF contracts due primarily to outages at two facilities in 2018. |
• | Lower demand to transmit energy across our transmission lines due to market conditions and pricing; and |
• | A decrease in Montana natural gas rates associated with the annual step down for our Montana gas production assets. |
The change in consolidated gross margin also includes the following items that had no impact on net income:
• | An increase in revenues for property taxes included in trackers, offset by increased property tax expense; |
• | A decrease in revenue due to the increase in production tax credit benefits passed through to customers in our tracker mechanisms, which are offset by decreased income tax expense; and |
• | A decrease in revenues for operating costs included in trackers, offset by a decrease in associa |