# American Water Works Company, Inc.: Form 10-Q for the period ended Jun 30, 2014

- Company: [American Water Works Company, Inc.](/companies/awk.md) (CIK 1410636)
- Form: 10-Q
- Filed: 2014-08-06
- Accepted by EDGAR: Aug 6, 2014, 21:08 ET
- Period: 2014-06-30
- Accession: 0001564590-14-003227
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/1410636/000156459014003227/awk-10q_20140630.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/1410636/000156459014003227/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2014-06-30.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Revenue | 3 months, 2014-04-01 to 2014-06-30 | $759.2m | us-gaap:Revenues |
| Revenue | 6 months, 2014-01-01 to 2014-06-30 | $1.44bn | us-gaap:Revenues |
| Operating income | 3 months, 2014-04-01 to 2014-06-30 | $253.8m | us-gaap:OperatingIncomeLoss |
| Operating income | 6 months, 2014-01-01 to 2014-06-30 | $439.9m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2014-04-01 to 2014-06-30 | $73.7m | us-gaap:InterestExpense |
| Interest expense | 6 months, 2014-01-01 to 2014-06-30 | $147.2m | us-gaap:InterestExpense |
| Income tax | 3 months, 2014-04-01 to 2014-06-30 | $72.2m | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 6 months, 2014-01-01 to 2014-06-30 | $117.1m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2014-04-01 to 2014-06-30 | $109.3m | us-gaap:NetIncomeLoss |
| Net income | 6 months, 2014-01-01 to 2014-06-30 | $177.4m | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2014-04-01 to 2014-06-30 | $0.61 | us-gaap:EarningsPerShareDiluted |
| Diluted EPS | 6 months, 2014-01-01 to 2014-06-30 | $0.99 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2014-04-01 to 2014-06-30 | $0.61 | us-gaap:EarningsPerShareBasic |
| Basic EPS | 6 months, 2014-01-01 to 2014-06-30 | $0.99 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2014-04-01 to 2014-06-30 | 179,693,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 6 months, 2014-01-01 to 2014-06-30 | 179,512,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Capital expenditure | 3 months, 2014-04-01 to 2014-06-30 | $209.3m | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Capital expenditure | 6 months, 2014-01-01 to 2014-06-30 | $401.8m | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Dividends paid | 6 months, 2014-01-01 to 2014-06-30 | $105.4m | us-gaap:PaymentsOfDividendsCommonStock |
| Cash and equivalents | at 2014-06-30 | $32.1m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2014-06-30 | $707.6m | us-gaap:AssetsCurrent |
| Total assets | at 2014-06-30 | $15.43bn | us-gaap:Assets |
| Current liabilities | at 2014-06-30 | $1.23bn | us-gaap:LiabilitiesCurrent |
| Long-term debt | at 2014-06-30 | $5.22bn | us-gaap:LongTermDebtNoncurrent |
| Current portion of debt | at 2014-06-30 | $15.0m | us-gaap:LongTermDebtCurrent |
| Short-term borrowings | at 2014-06-30 | $702.4m | us-gaap:ShortTermBorrowings |
| Shareholders' equity | at 2014-06-30 | $4.87bn | us-gaap:StockholdersEquityIncludingPortionAttributableToNoncontrollingInterest |

## Management's discussion and analysis

As filed, 63,940 characters.

### FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q includes “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. All statements included in this Form 10-Q, other than statements of historical fact, may constitute forward-looking statements. Forward-looking statements can be identified by the use of words such as “may,” “should,” “will,” “could,” “estimates,” “predicts,” “potential,” “continue,” “anticipates,” “believes,” “plans,” “expects,” “future” and “intends” and similar expressions. Forward-looking statements may involve known and unknown risks, uncertainties and other factors that may cause the actual results or performance to differ from those projected in the forward-looking statements. These statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond our control and difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements. Factors that could cause or contribute to differences in results and outcomes from those in our forward-looking statements include, without limitation, those items discussed in the “Risk Factors” section or other sections in the Company’s annual report on Form 10-K (“Form 10-K”) for the year ended December 31, 2013 filed with the Securities and Exchange Commission (“SEC”). We undertake no obligation, other than as required by law, to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

### General

American Water Works Company, Inc. (herein referred to as “American Water” or the “Company”) is the largest investor-owned United States water and wastewater utility company, as measured both by operating revenue and population served. Our primary business involves the ownership of water and wastewater utilities that provide water and wastewater services to residential, commercial, industrial and other customers. Our Regulated Businesses that provide these services are generally subject to economic regulation by state regulatory agencies (“PUCs”) in the states in which they operate. We report the results of these businesses in our Regulated Businesses segment. We also provide services that are not subject to economic regulation by the PUCs. We report the results of these businesses in our Market-Based Operations segment. For further description of our businesses see Item 1, “Business,” in our Form 10-K for the year ended December 31, 2013.

You should read the following discussion in conjunction with our Consolidated Financial Statements and related Notes included elsewhere in this Quarterly Report on Form 10-Q and in our Form 10-K for the year ended December 31, 2013.

### Overview

*Financial Results.* For the three months ended June 30, 2014, we reported net income of $109.3 million, or diluted earnings per share (“EPS”) of $0.61, compared to $101.3 million, or diluted EPS of $0.57, for the comparable period in 2013. For the six months ended June 30, 2014, we reported net income of $177.4 million, or diluted EPS of $0.99 compared to $158.9 million, or diluted EPS of $0.89, for the comparable period in 2013

The primary factors contributing to the increase in net income for both the three and six months ended June 30, 2014 compared to the same periods in 2013 were favorable operating results from our Regulated Business segment despite higher costs resulting from the Freedom Industries chemical spill in West Virginia and higher customer uncollectible expense. Also contributing to the increase in net income for the year-to-date results was higher operating income from the Market-Based Operations segment and lower interest expense. For further details, see “Consolidated Results of Operations and Variances” and “Segment Results” below.

For 2014, our goals include actively addressing regulatory lag and promoting constructive regulatory frameworks, continuing to improve our regulated operation and maintenance (“O&M”) efficiency ratio, making efficient use of our capital and expanding both our Regulated Businesses segment through focused acquisitions and/or organic growth and our Market-Based Operations segment through core growth, expanding markets and new offerings. In addition, we will continue to focus on our customer service by achieving established customer satisfaction and service quality targets. Regarding environmental sustainability, we are committed to maximizing our protection of the environment, reducing our carbon and waste footprints and water lost through leakage.

In the second half of 2014, we expect to receive decisions on two general rate case proceedings, continue to file infrastructure surcharges either as part of our general rate case filings or in separate filings, and continue to pursue appropriate pass-through mechanisms for certain costs and forward-looking adjustments or mechanisms, including those that recognize declining usage.

The progress that we have made in the six months of 2014 with respect to certain of these objectives is described below.

*Promoting Constructive Regulatory Frameworks.* On April 1, 2014, the final $1.2 million of annualized revenues, previously approved by the New York State Public Service Commission in March of 2012, became effective. Also on April 1, 2014, additional annualized revenues of $0.2 million resulting from a New York infrastructure charge filing in January 2014 went into effect.

Effective April 15, 2014, additional annualized revenues of approximately $0.5 million attributable to alternative rate mechanisms including a Qualified Infrastructure Investment Program Rider, an Economic Development Investment Rider, a Safety and Environmental Compliance Rider and a Production Costs and Other Pass-through mechanism became effective for our Tennessee subsidiary.

New rates, which were approved for our Iowa subsidiary’s general rate case in February 2014, became effective on April 18, 2014. Additional annualized revenues as a result of this rate increase amounted to approximately $3.8 million. The increase includes approximately $2.7 million of interim rates that were effective May 10, 2013.

On May 30, 2014, annualized revenues of $3.7 million resulting from infrastructure charges in our Missouri subsidiary became effective.

The table below provides further details of annualized revenues, assuming a constant volume, resulting from rate authorizations granted in 2014:

*(In millions)*

| For the three months ended State General Rate Cases | Annualized Rate Increases Granted June 30, 2014 | For the six months ended June 30, 2014 |
| --- | ---: | ---: |
| New York | $1.2 | $1.2 |
| Iowa | 3.8 | 3.8 |
| Total General Rate cases | $5.0 | $5.0 |
| Infrastructure charges |  |  |
| New York | $0.2 | $1.8 |
| New Jersey | — | 10.1 |
| Missouri | 3.7 | 3.7 |
| Illinois | — | 2.1 |
| Tennessee | 0.5 | 0.5 |
| Total Infrastructure charges | $4.4 | $18.2 |

On July 1, 2014, additional annualized revenue of $7.4 million resulting from infrastructure charges in our New Jersey subsidiary became effective.

In July 2014, a settlement with the Office of Ratepayer Advocates and other interveners was reached in our general rate case in California. The settlement, if approved, would provide $13.6 million in additional annualized revenues for 2015. The settlement also provides for escalation and attrition adjustments in 2016 and 2017 of $5.0 million and $6.3 million, respectively. The agreement is pending regulatory approval and is subject to change.

As of August 4, 2014, we are awaiting final orders for general rate cases in two states, including California, requesting additional annualized revenue of approximately $52.0 million. There is no assurance that all, or any portion, of these requested increases will be granted.

*Continuing Improvement in O&M Efficiency Ratio for our Regulated Businesses.* Our O&M efficiency ratio (a non-GAAP measure) is calculated on our Regulated Businesses’ operations and is defined as operation and maintenance expense divided by operating revenues where both O&M and operating revenues are adjusted to eliminate the impact of purchased water. We also exclude the allocable portion of non-O&M support services costs, mainly depreciation and general taxes that are reflected in the Regulated Businesses segment as O&M costs but for consolidated financial reporting purposes are categorized within other line items in the Statement of Operations. Our O&M efficiency ratio was 37.5% for the three months ended June 30, 2014, compared to 38.1% for the three months ended June 30, 2013. Our O&M efficiency ratio was 39.4% for the six months ended June 30, 2014, compared to 40.4% for the six months ended June 30, 2013. The change in our 2014 O&M efficiency ratio for both the three and six months ended June, 2014 was primarily attributable to the increase in our Regulated Businesses’ revenue.

We evaluate our operating performance using this measure because management believes it is a direct measure of the efficiency of our Regulated Businesses’ operations. This information is intended to enhance an investor’s overall understanding of our operating performance. The O&M efficiency ratio is not a measure defined under GAAP and may not be comparable to other companies’ operating measures and should not be used in place of the GAAP information provided elsewhere in this report. The following table provides a reconciliation that compares O&M and operating revenues, as determined in accordance with GAAP, to those amounts utilized in the calculation of our O&M efficiency ratio for the three and six months ended June 30, 2014 as compared to the same periods in 2013:

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

*(In thousands)*

|  | For the three months ended June 30, 2014 | 2013 | For the six months ended June 30, 2014 | 2013 |
| --- | ---: | ---: | ---: | ---: |
| Total O&M | $342,974 | $323,320 | $672,249 | $635,523 |
| Less: |  |  |  |  |
| O&M—Market-Based Operations | 70,440 | 64,122 | 136,280 | 123,346 |
| O&M—Other | (11,587) | (13,093) | (25,979) | (29,056) |
| Total Regulated O&M | 284,121 | 272,291 | 561,948 | 541,233 |
| Less: |  |  |  |  |
| Regulated purchased water expense | 32,576 | 26,819 | 59,658 | 50,803 |
| Allocation of internal O&M | 9,544 | 8,590 | 19,536 | 18,144 |
| Adjusted Regulated O&M (a) | $242,001 | $236,882 | $482,754 | $472,286 |
| Total Operating Revenues | $759,159 | $724,265 | $1,441,105 | $1,360,402 |
| Less: |  |  |  |  |
| Operating revenues—Market-Based Operations | 85,403 | 80,755 | 164,201 | 148,091 |
| Operating revenues—Other | (4,345) | (4,387) | (8,841) | (8,823) |
| Total Regulated operating revenues | 678,101 | 647,897 | 1,285,745 | 1,221,134 |
| Less: Regulated purchased water expense\* | 32,576 | 26,819 | 59,658 | 50,803 |
| Adjusted Regulated operating revenues (b) | $645,525 | $621,078 | $1,226,087 | $1,170,331 |
| Regulated O&M efficiency ratio (a)/(b) | 37.5% | 38.1% | 39.4% | 40.4% |

\* Calculation assumes purchased water revenues are equal to purchased water expenses.

*Making Efficient Use of Capital.* We made capital investments of approximately $212.7 million and $387.9 million during the three months and six months ended June 30, 2014, respectively. Of this total year-to-date investment, approximately $383.6 million was for Company-funded capital improvements with the remaining $4.3 million for the acquisition of regulated water and/or wastewater systems. For the full-year of 2014, we continue to estimate our total capital plan to be up to $1.1 billion, with approximately $900 million to $1.0 billion allocated to upgrading our infrastructure and systems and $35 to $100 million for acquisitions and strategic investment purposes.

*Expanding Markets and Developing New Offerings.* During the six months ended June 30, 2014, our Regulated Businesses completed the purchase of four regulated water systems and one regulated water and wastewater system. These acquisitions added approximately 1,200 water customers and 370 wastewater customers to our regulated operations. Also, as previously announced, in January 2014, our Military Services Group within our Market-Based Operations segment was awarded a contract for ownership, operation and maintenance of the water and wastewater systems at Hill Air Force Base in Utah. Additionally, in the first half of 2014 our Homeowner Services Group (“HOS”) expanded its water and sewer line protection programs into Arkansas, Louisiana, Maine, Minnesota, Oklahoma, Vermont and Wyoming.

#### Other Matters.

*West Virginia Freedom Industries Chemical Spill.* As noted in the Form 10-K for the year ended December 31, 2013, on January 9, 2014, a chemical storage tank owned by Freedom Industries, Inc. leaked 4-methylcyclohexane methanol, or MCHM, and PPH/DiPHH, a mix of polyglycol ethers, into the Elk River near the West Virginia-American Water Company (“WVAWC”)

treatment plant in Charleston, West Virginia. As a result of this event, income before income taxes was reduced by $5.0 million and $10.9 million for the three and six months ended June 30, 2014, respectively.

See Part II, Item 1, “Legal Proceedings” in this report for information regarding litigation and an investigation by the Public Service Commission of West Virginia relating to the Freedom Industries chemical spill. The Company and WVAWC believe that WVAWC has responded appropriately to, and has no responsibility for, the Freedom Industries chemical spill, and the Company, WVAWC and other Company-affiliated entities named in any of the lawsuits have valid, meritorious defenses to the lawsuits. The Company, WVAWC and the other Company affiliates intend to vigorously contest the lawsuits. Nevertheless, an adverse outcome in one or more of the lawsuits could have a material adverse effect on the Company's financial condition, results of operations, cash flows, liquidity and reputation. Moreover, WVAWC and the Company are unable to predict the outcome of the ongoing government investigations or any legislative initiatives that might affect water utility operations.

*Labor Dispute Regarding National Benefits Agreement.* In September 2010, the Company declared an “impasse” in negotiations of its national benefits agreement with most of the labor unions representing employees in the Regulated Businesses. The prior agreement expired on July 31, 2010; however, negotiations did not produce a new agreement. The Company implemented its last, best and final offer on January 1, 2011 to enable the Company to provide health care coverage for its employees in accordance with terms of the offer. The unions challenged the Company’s right to implement its last, best, and final offer. In this regard, following the filing by the Utility Workers Union of America of an unfair labor practice charge, the National Labor Relations Board (“NLRB”) issued a complaint against the Company in January 2012, claiming that the Company implemented the last, best and final offer without providing sufficient notice of the existence of a dispute with the Federal Mediation and Conciliation Service, a state mediation agency, and several state departments of labor, in violation of Section 8(d)(3) of the National Labor Relations Act (the “NLRA”) and, therefore, the Company failed and refused to bargain with the union in violation of Sections 8(a)(1) and 8(a)(5) of the NLRA. The Company asserted that it did, in fact, provide sufficient notice under the circumstances pertaining to the negotiations.

On October 16, 2012, the NLRB Administrative Law Judge hearing the matter ruled that, although the Company did provide sufficient notification to the Federal Mediation and Conciliation Service, it did not provide notice to the state agencies, in violation of Section 8(d)(3) of the NLRA and, consequently, the Company violated Sections 8(a)(1) and 8(a)(5) of the NLRA. The Administrative Law Judge ordered, among other things, that the Company cease and desist from implementing the terms of its last, best and final offer without complying with the requirements of Section 8(d)(3) of the NLRA and make whole all affected employees for losses suffered as a result of the Company’s implementation of its last, best and final offer.

In November 2012, the Company filed exceptions to the decision of the Administrative Law Judge in order to obtain a review by the full NRLB. The NLRB delegated its authority in the proceeding to a three member panel, which decided, on July 31, 2014, to affirm the Administrative Law Judge’s decision and order, subject to certain modifications, including the requirement that in addition to lump sum awards to make whole all affected employees for losses suffered as a result of the Company’s implementation of its last, best and final offer, the Company must compensate the affected employees for the adverse tax consequences, if any, of receiving the lump sum “make whole” payments.

On August 1, 2014, the Company filed an appeal of the NLRB’s ruling with the United States Court of Appeals for the Seventh Circuit.

The “make whole” order, if upheld on appeal, would require the Company to provide back pay plus interest, from January 1, 2011 through the date of the final determination, as well as any applicable tax reimbursement. Based on current assumptions, the Company estimates that the cash impact could be up to the range of $3.5 million to $4.5 million per year (exclusive of any additional tax compensation payments), with the total impact dependent on the length of time the issue remains unresolved.

### Consolidated Results of Operations and Changes from Prior Periods

|  | Three Months Ended June 30, 2014 | 2013 | Favorable (Unfavorable) Change | Six Months Ended June 30, 2014 | 2013 | Favorable (Unfavorable) Change |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Operating revenues | $759,159 | $724,265 | $34,894 | $1,441,105 | $1,360,402 | $80,703 |
| Operating expenses |  |  |  |  |  |  |
| Operation and maintenance | 342,974 | 323,320 | (19,654) | 672,249 | 635,523 | (36,726) |
| Depreciation and amortization | 105,862 | 101,366 | (4,496) | 211,940 | 201,015 | (10,925) |
| General taxes | 56,894 | 57,806 | 912 | 117,661 | 117,952 | 291 |
| (Gain) loss on asset dispositions and purchases | (345) | (114) | 231 | (615) | (208) | 407 |
| Total operating expenses, net | 505,385 | 482,378 | 23,007 | 1,001,235 | 954,282 | 46,953 |
| Operating income | 253,774 | 241,887 | 11,887 | 439,870 | 406,120 | 33,750 |
| Other income (expenses) |  |  |  |  |  |  |
| Interest, net | (73,668) | (77,757) | 4,089 | (147,228) | (155,871) | 8,643 |
| Allowance for other funds used during construction | 2,058 | 3,699 | (1,641) | 4,259 | 7,095 | (2,836) |
| Allowance for borrowed funds used during construction | 1,271 | 1,770 | (499) | 2,754 | 3,423 | (669) |
| Amortization of debt expense | (1,629) | (1,624) | (5) | (3,302) | (3,205) | (97) |
| Other, net | (317) | (256) | (61) | (1,858) | (1,032) | (826) |
| Total other income (expenses) | (72,285) | (74,168) | 1,883 | (145,375) | (149,590) | 4,215 |
| Income before income taxes | 181,489 | 167,719 | 13,770 | 294,495 | 256,530 | 37,965 |
| Provision for income taxes | 72,190 | 66,456 | (5,734) | 117,073 | 97,624 | (19,449) |
| Net income | $109,299 | $101,263 | $8,036 | $177,422 | $158,906 | $18,516 |
| Basic earnings per share | $0.61 | $0.57 |  | $0.99 | $0.89 |  |
| Diluted earnings per share | $0.61 | $0.57 |  | $0.99 | $0.89 |  |
| Average common shares outstanding during the period: |  |  |  |  |  |  |
| Basic | 178,863 | 177,716 |  | 178,702 | 177,522 |  |
| Diluted | 179,693 | 178,910 |  | 179,512 | 178,716 |  |

The following is a discussion of the consolidated results of operations for the three and six months ended June 30, 2014 compared to the three and six months ended June 30, 2013:

#### Three Months Ended June 30, 2014 Compared to Three Months Ended June 30, 2013

***Operating revenues.*** Consolidated operating revenues for the three months ended June 30, 2014 increased $34.9 million, or 4.8%, compared to the same period in 2013. The increase is the result of higher revenues in our Regulated Businesses segment of $30.2 million, which is mainly attributable to rate increases, incremental revenues from surcharges, amortization of balancing accounts and acquisitions. Also, contributing to the higher revenues was a $4.6 million increase in our Market-Based Operations segment primarily due to incremental revenue from our military contracts as a result of increased construction type projects at Forts Polk and Leavenworth as well as contract growth in our HOS. For further information, see the respective “Operating Revenues” discussions within the “Segment Results.”

***Operation and maintenance.*** Consolidated O&M for the three months ended June 30, 2014 increased by $19.7 million, or 6.1%, compared to the same period in 2013. The variance is primarily due to higher O&M costs in our Regulated Businesses segment of $11.8 million, principally due to increased production costs, uncollectible expense, maintenance and costs associated with the Freedom Industries chemical spill in West Virginia, partially offset by lower employee-related costs. Additionally, our Market-Based Operations segment O&M increased by $6.3 million mainly as a result of incremental cost related to increased activity in our military contracts, corresponding with the increased revenue. For further discussions on the changes in our Regulated and Market-Based segments’ O&M, see the respective “Operation and Maintenance” discussions within the “Segment Results.”

***Depreciation and amortization.*** Depreciation and amortization expense increased by $4.5 million, or 4.4%, for the three months ended June 30, 2014, compared to the same period in the prior year principally as a result of additional utility plant placed in service, including our Customer Information and Enterprise Asset Management systems that went into service during the second and fourth quarters of 2013.

***Other income (expenses).*** Other expenses decreased by $1.9 million, or 2.5%, for the three months ended June 30, 2014, compared to the same period in the prior year. The change is primarily due to a reduction in interest expense resulting from interest savings as a result of our 2013 refinancings, offset by a reduction in AFUDC which is mainly attributable to our Customer Information and Enterprise Asset Management systems being placed into service in the second and fourth quarters of 2013.

***Provision for income taxes.*** Our consolidated provision for income taxes increased $5.7 million, or 8.6%, to $72.2 million for the three months ended June 30, 2014. The effective tax rates for the three months ended June 30, 2014 and 2013 were 39.8% and 39.6%, respectively.

#### Six Months Ended June 30, 2014 Compared to Six Months Ended June 30, 2013

***Operating revenues.*** Consolidated operating revenues for the six months ended June 30, 2014 increased $80.7 million, or 5.9%, compared to the same period in 2013. The increase is the result of higher revenues in our Regulated Businesses segment of $64.6 million, which is mainly attributable to rate increases, incremental revenues from surcharges and amortization of balancing accounts as well as increased usage. Also contributing to the higher revenues was a $16.1 million increase in our Market-Based Operations segment primarily due to incremental revenue from our military contracts as a result of increased construction type projects at Forts Belvoir, Polk and Leavenworth and contract growth in our HOS. For further information, see the respective “Operating Revenues” discussions within the “Segment Results.”

***Operation and maintenance.*** Consolidated O&M for the six months ended June 30, 2014 increased by $36.7 million, or 5.8%, compared to the same period in 2013. The variance is primarily due to higher O&M costs in our Regulated Businesses segment of $20.7 million, principally due to increased production costs, uncollectible expense, maintenance and costs associated with the Freedom Industries chemical spill in West Virginia, partially offset by lower employee-related costs. The variance in our Market-Based Operations segment of $12.9 million was mainly from incremental costs related to increased activity in our military contracts, corresponding with the increased revenue. For further discussions on the changes in our Regulated and Market-Based segments’ O&M, see the respective “Operation and Maintenance” discussions within the “Segment Results.”

***Depreciation and amortization.*** Depreciation and amortization expense increased by $10.9 million, or 5.4%, for the six months ended June 30, 2014, compared to the same period in the prior year principally as a result of additional utility plant placed in service, including our Customer Information and Enterprise Asset Management systems that went into service during the second and fourth quarters of 2013.

***Other income (expenses).*** Other expenses decreased by $4.2 million, or 2.8%, for the six months ended June 30, 2014, compared to the same period in the prior year. The change is primarily due to a reduction in interest expense resulting from interest savings as a result of our 2013 refinancings, offset by a reduction in AFUDC which is mainly attributable to our Customer Information and Enterprise Asset Management systems being placed into service in the second and fourth quarters of 2013.

***Provision for income taxes.*** Our consolidated provision for income taxes increased $19.4 million, or 19.9%, to $117.1 million for the six months ended June 30, 2014. The effective tax rates for the six months ended June 30, 2014 and 2013 were 39.8% and 38.1%, respectively. The 2013 rate included a $3.3 million tax benefit associated with a legal structure reorganization in our Market-Based Operations segment. This strategic restructuring allowed us to utilize state net operating loss carryforwards prior to their expiration.

### Segment Results

We have two operating segments that are also our reportable segments: the Regulated Businesses and the Market-Based Operations. We evaluate the performance of our segments and allocate resources based on several factors, with the primary measure being income before income taxes.

### Regulated Businesses Segment

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

*(In thousands)*

|  | For the three months ended June 30, 2014 | 2013 | Increase (Decrease) | For the six months ended June 30, 2014 | 2013 | Increase (Decrease) |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Operating revenues | $678,101 | $647,897 | $30,204 | $1,285,745 | $1,221,134 | $64,611 |
| Operation and maintenance expense | 284,121 | 272,291 | 11,830 | 561,948 | 541,233 | 20,715 |
| Operating expenses, net | 435,429 | 419,517 | 15,912 | 867,386 | 835,033 | 32,353 |
| Income before income taxes | 182,418 | 170,007 | 12,411 | 297,446 | 268,788 | 28,658 |

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

Operating revenues increased by $30.2 million, or 4.7%, for the three months ended June 30, 2014, as compared to the same period in 2013. The increase in revenues is principally due to incremental revenues of approximately $20.8 million attributable to rate increases from rate authorizations for a number of our operating companies; approximately $1.4 million resulting from higher consumption, $3.1 million due to increased surcharges and amortization of balancing accounts and approximately $3.5 million attributable to acquisitions, most of which occurred in the second half of 2013. The most significant contributor to the increase in revenues from acquisitions was Dale Service Corporation (“Dale”), which was acquired by our Virginia subsidiary in the fourth quarter of 2013.

Operating revenues increased by $64.6 million, or 5.3%, for the six months ended June 30, 2014, as compared to the same period in 2013. The increase in revenues is principally due to incremental revenues of approximately $40.6 million attributable to rate increases from rate authorizations for a number of our operating companies; $8.4 million due to increased surcharges and amortization of balancing accounts; approximately $7.2 million from higher consumption and $6.8 million as a result of 2013 acquisitions. The most significant contributor to the increase in revenues from acquisitions was Dale. The following table provides information regarding the Regulated Businesses’ for the periods indicated:

| Customer Class Water service | For the three months ended June 30, 2014 2013 Increase (Decrease) Percentage Operating Revenues (dollars in thousands) | 2014 2013 Increase (Decrease) Percentage Billed Water Sales Volume (gallons in millions) |
| --- | ---: | ---: |
| Residential | $364,906 $354,318 $10,588 3.0% | 41,705 42,463 (758) (1.8%) |
| Commercial | 130,617 128,908 1,709 1.3% | 19,092 19,418 (326) (1.7%) |
| Industrial | 31,419 28,817 2,602 9.0% | 9,591 8,271 1,320 16.0% |
| Public and other | 81,293 77,238 4,055 5.3% | 12,510 12,663 (153) (1.2%) |
| Other water revenues | 7,822 3,852 3,970 103.1% | — — — — |
| Billed water services | 616,057 593,133 22,924 3.9% | 82,898 82,815 83 0.1% |
| Unbilled water services | 23,246 23,545 (299) (1.3%) |  |
| Total water service revenues | 639,303 616,678 22,625 3.7% |  |
| Wastewater service revenues | 24,254 20,351 3,903 19.2% |  |
| Other revenues | 14,544 10,868 3,676 33.8% |  |
|  | $678,101 $647,897 $30,204 4.7% |  |
|  | **For the six months ended June 30,** |  |
|  | **2014** **2013** **Increase (Decrease)** **Percentage** | **2014** **2013** **Increase (Decrease)** **Percentage** |
|  | **Operating Revenues (dollars in thousands)** | **Billed Water Sales Volume (gallons in millions)** |
| **Customer Class** |  |  |
| Water service |  |  |
| Residential | $718,430 $680,460 $37,970 5.6% | 81,642 80,451 1,191 1.5% |
| Commercial | 260,436 242,982 17,454 7.2% | 38,081 36,340 1,741 4.8% |
| Industrial | 64,988 57,018 7,970 14.0% | 19,406 17,154 2,252 13.1% |
| Public and other | 165,259 151,191 14,068 9.3% | 25,919 24,290 1,629 6.7% |
| Other water revenues | 8,599 8,986 (387) (4.3%) | — — — — |
| Billed water services | 1,217,712 1,140,637 77,075 6.8% | 165,048 158,235 6,813 4.3% |
| Unbilled water services | (2,961) 18,085 (21,046) (116.4%) |  |
| Total water service revenues | 1,214,751 1,158,722 56,029 4.8% |  |
| Wastewater service revenues | 46,662 40,235 6,427 16.0% |  |
| Other revenues | 24,332 22,177 2,155 9.7% |  |
|  | $1,285,745 $1,221,134 $64,611 5.3% |  |

*Water Services –* Water service operating revenues for the three months ended June 30, 2014 totaled $639.3 million, a $22.6 million increase, or 3.7%, over the same period of 2013. For the six months ended June 30, 2014, these revenues increased $56.0 million, or 4.8%, compared to the six months ended June 30, 2013. As described above, the increases for both the three and six months ended June 30, 2014 are primarily due to rate increases, higher consumption and incremental revenues associated with surcharges and amortization of balancing accounts. Also, it should be noted that the mix between billed revenues and unbilled revenues for the six months ended June 30, 2014, as compared to the same period in 2013, has changed. This change is principally the result of the implementation of our Customer Information System (“CIS”) as part of Phase II of our business transformation project. At December 31, 2013, unbilled revenues were significantly higher than historical levels due to billing delays in certain accounts. During the first quarter of 2014, we addressed a majority of these delayed billings. Therefore, as a result, the change in unbilled water revenue for the first six months of 2014, compared to the same period in 2013, has decreased by $21.0 million with a corresponding increase in billed revenues.

*Wastewater services –* Our subsidiaries provide wastewater services in ten states. Revenues from these services increased $3.9 million, or 19.2%, and $6.4 million, or 16.0%, for the three and six months ended June 30, 2014, respectively, compared to the same periods in 2013. The increase is primarily attributable to the Dale acquisition in the fourth quarter of 2013.

*Other revenues –* The increase in the other revenues for the three and six months ended June 30, 2014 is principally due to $2.4 million in insurance proceeds for business interruption as a result of Hurricane Sandy and an increase in late payment fees.

***Operation and maintenance expense.*** Operation and maintenance expense increased $11.8 million, or 4.3%, and $20.7 million, or 3.8%, for the three and six months ended June 30, 2014, respectively, compared to the same periods in 2013.

The following table provides information regarding operation and maintenance expense for the three and six months ended June 30, 2014 and 2013, by major expense category:

*(Dollars in thousands)*

|  | For the three months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage | For the six months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Production costs | $74,141 | $65,155 | $8,986 | 13.8% | $143,400 | $125,605 | $17,795 | 14.2% |
| Employee-related costs | 107,599 | 115,283 | (7,684) | (6.7%) | 214,780 | 228,484 | (13,704) | (6.0%) |
| Operating supplies and services | 53,991 | 55,423 | (1,432) | (2.6%) | 110,256 | 109,783 | 473 | 0.4% |
| Maintenance materials and supplies | 17,713 | 14,097 | 3,616 | 25.7% | 38,160 | 32,376 | 5,784 | 17.9% |
| Customer billing and accounting | 16,082 | 12,015 | 4,067 | 33.8% | 29,287 | 22,187 | 7,100 | 32.0% |
| Other | 14,595 | 10,318 | 4,277 | 41.5% | 26,065 | 22,798 | 3,267 | 14.3% |
| Total | $284,121 | $272,291 | $11,830 | 4.3% | $561,948 | $541,233 | $20,715 | 3.8% |

Production costs by major expense type were as follows:

*(Dollars in thousands)*

|  | For the three months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage | For the six months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Purchased Water | $32,576 | $26,819 | $5,757 | 21.5% | $59,658 | $50,803 | $8,855 | 17.4% |
| Fuel and Power | 21,217 | 20,259 | 958 | 4.7% | 45,135 | 40,237 | 4,898 | 12.2% |
| Chemicals | 12,127 | 11,330 | 797 | 7.0% | 22,795 | 21,934 | 861 | 3.9% |
| Waste Disposal | 8,221 | 6,747 | 1,474 | 21.8% | 15,812 | 12,631 | 3,181 | 25.2% |
| Total | $74,141 | $65,155 | $8,986 | 13.8% | $143,400 | $125,605 | $17,795 | 14.2% |

Production costs increased overall by $9.0 million, or 13.8%, and $17.8 million, or 14.2%, for the three and six months ended June 30, 2014, respectively, compared to the same periods in the prior year. The purchased water increases principally reflect increased prices in our California subsidiary. Fuel and power costs increased due to increased customer demand and higher supplier prices in several of our operating facilities as well as incremental costs as a result of the Dale acquisition in the fourth quarter of 2013. The increase in waste disposal costs for both the three and six month periods is principally due to an increase in the amount allowed by a cost recovery mechanism in one of our operating companies and the Dale acquisition. Also, contributing to the six month increase was incremental costs associated with the Freedom Industries chemical spill in West Virginia.

Employee-related costs, including salaries and wages, group insurance and pension expense, decreased $7.7 million, or 6.7%, and $13.7 million, or 6.0%, for the three and six months ended June 30, 2014, respectively, compared to the prior year periods. These employee-related costs represent approximately 38% and 42% of operation and maintenance expense for the three and six months ended June 30, 2014 and 2013, respectively.

The following table provides information with respect to components of employee-related costs for the three and six months ended June 30, 2014 and 2013:

*(Dollars in thousands)*

|  | For the three months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage | For the six months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Salaries and wages | $82,568 | $81,561 | $1,007 | 1.2% | $163,651 | $160,406 | $3,245 | 2.0% |
| Pensions | 6,800 | 12,257 | (5,457) | (44.5%) | 13,620 | 24,628 | (11,008) | (44.7%) |
| Group insurance | 13,765 | 16,803 | (3,038) | (18.1%) | 28,130 | 33,647 | (5,517) | (16.4%) |
| Other benefits | 4,466 | 4,662 | (196) | (4.2%) | 9,379 | 9,803 | (424) | (4.3%) |
| Total | $107,599 | $115,283 | $(7,684) | (6.7%) | $214,780 | $228,484 | $(13,704) | (6.0%) |

The overall decrease in employee-related costs for the three and six months ended June 30, 2014, compared to the same periods in 2013, was primarily due to a reduction in pension costs and postretirement benefit costs, which affects our group insurance expenses. These decreases are principally due to the change in assumptions used for the discount rate, which in turn results in decreased contributions. The decrease in contributions occurred principally at those of our regulated operating companies whose costs are recovered based on our funding policy, which is to fund at least the minimum amount required by the Employee Retirement Income Security Act of 1974. Partially offsetting these decreases was an increase in salaries and wages expense for the three and six months ended June 30, 2014, compared to the same periods in 2013. For the three month period, the increase is the result of severance-related costs and annual wage increases offset by higher capitalization rates as a result of increased capital projects. For the six month period, the increase is the result of severance-related costs, annual wage increases and increased overtime expense attributable to an increased number of main breaks as a result of the harsh winter weather conditions, offset by a reduction in incentive compensation due to a lower than expected payout for the 2013 incentive period as well as higher capitalization rates as a result of increased capital projects.

Operating supplies and services include expenses of office operation, legal and other professional services, transportation expenses, information systems and other office equipment rental charges. These costs decreased $1.4 million, or 2.6%, for the three months ended June 30, 2014 and increased $0.5 million, or 0.4%, for the six months ended June 30, 2014. The overall decrease for the three month period was primarily due to lower contracted services as 2013 included additional costs, mainly as a result of backfilling positions; the use of contractors for certain projects; and incremental costs attributable to the continued maturity of our Enterprise Resource Planning systems in conjunction with the implementation of our business transformation project. Partially offsetting the aforementioned favorability for the six month period was increased costs for our West Virginia subsidiary associated with the Freedom Industries chemical spill which occurred in January 2014.

Maintenance materials and supplies, which include preventive maintenance and emergency repair costs, increased $3.6 million, or 25.7%, for the three months ended June 30, 2014, compared to the same period in 2013, mainly due to increased tank painting in our New Jersey subsidiary and higher paving and backfilling expenses throughout our operating areas. The increase of $5.8 million, or 17.9%, for the six months ended June 30, 2014, compared to the same period in 2013, is primarily due to the increase in tank painting and increases in paving and backfilling, and other repair costs, most of which is from the higher than normal main breaks in the first quarter of 2014 due to the abnormally harsh winter weather conditions experienced throughout our operating areas.

Customer billing and accounting expenses, which include uncollectible accounts expense, postage and other customer related expenses, increased $4.1 million, or 33.8%, and $7.1 million or 32.0%, respectively, for the three and six months ended June 30, 2014, compared to the same periods in the prior year. These increases are primarily due to incremental uncollectible expense associated with an increase in customer accounts receivable attributable to the overall aging of receivables as well as rate increases. We believe the aging of our receivables is the result of temporary changes made in our collection process with the implementation of our new Customer Information System in 2013. Although we anticipate uncollectible expense will continue to be higher this year, we expect the impact will lesson as our collection activities return to historical levels.

Other operation and maintenance expense includes casualty and liability insurance premiums and regulatory costs. The increase in casualty and liability insurance for the three and six months ended June 30, 2014 was primarily due to an increase in our expected retroactive premiums, principally due to incremental claims associated with the Freedom Industries chemical spill in West Virginia, net of favorable forecasted experience for already existing claims. These retroactive premiums are based upon current facts and circumstances of the outstanding claims and are subject to change as the claims mature. The increase in insurance costs is partially offset by lower regulatory expenses in one of our operating subsidiaries compared to the same periods in the prior year.

***Operating expenses.*** The increase in operating expenses, for the three and six months ended June 30, 2014, is principally due to the increase in operation and maintenance expense explained above and higher depreciation and amortization expense of $4.7 million and $11.6 million for the three and six months ended June 30, 2014, respectively. The increase in depreciation and amortization is primarily due to additional utility plant placed in service, including our SAP Customer Information System and Enterprise Asset Management system.

### Market-Based Operations

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

*(In thousands)*

|  | For the three months ended June 30, 2014 | 2013 | Increase (Decrease) | For the six months ended June 30, 2014 | 2013 | Increase (Decrease) |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| Operating revenues | $85,403 | $80,755 | $4,648 | $164,201 | $148,091 | $16,110 |
| Operation and maintenance expense | 70,440 | 64,122 | 6,318 | 136,280 | 123,346 | 12,934 |
| Operating expenses, net | 73,033 | 67,321 | 5,712 | 141,845 | 129,702 | 12,143 |
| Income before income taxes | 12,968 | 14,207 | (1,239) | 23,599 | 19,878 | 3,721 |

***Operating revenues.*** Revenues for the three and six months ended June 30, 2014 increased $4.6 million and $16.1 million, respectively, compared to the same periods in 2013, as a result of incremental revenues in our Contract Operations Group (“ConOp”) and HOS lines of business. For the three and six months ended June 30, 2014, our ConOp’s revenue increased $2.3 million and $9.9 million, respectively. These increases are primarily related to additional revenues from capital project activities associated with our military contracts partially offset by price redeterminations received in 2013 for three of our military contracts totaling $2.3 million as well as a reduction in revenues attributable to terminated municipal and industrial operations and maintenance contracts. HOS revenues increased $3.8 million and $9.0 million for the three and six months ended June 30, 2014, respectively. This increase was principally the result of contract growth, mainly with our New York City contracts as well as expansion into other geographic areas, and price increases for certain existing customers.

***Operation and maintenance.*** Operation and maintenance expense increased $6.3 million, or 9.9%, and $12.9 million, or 10.5%, for the three and six months ended June 30, 2014, respectively.

The following table provides information regarding categories of operation and maintenance expense for the periods indicated:

*(Dollars in thousands)*

|  | For the three months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage | For the six months ended June 30, 2014 | 2013 | Increase (Decrease) | Percentage |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Production costs | $8,948 | $9,526 | $(578) | (6.1%) | $18,922 | $19,585 | $(663) | (3.4%) |
| Employee-related costs | 16,597 | 16,176 | 421 | 2.6% | 31,163 | 32,507 | (1,344) | (4.1%) |
| Operating supplies and services | 32,549 | 27,026 | 5,523 | 20.4% | 60,328 | 48,496 | 11,832 | 24.4% |
| Maintenance materials and supplies | 11,099 | 10,212 | 887 | 8.7% | 22,602 | 20,798 | 1,804 | 8.7% |
| Other | 1,247 | 1,182 | 65 | 5.5% | 3,265 | 1,960 | 1,305 | 66.6% |
| Total | $70,440 | $64,122 | $6,318 | 9.9% | $136,280 | $123,346 | $12,934 | 10.5% |

As noted in the table above, the primary factor contributing to the overall increase was an increase in operating supplies and services. This increase is mainly attributable to the increase in construction project activities for our military contracts and corresponds with the incremental revenues.

***Operating expense.*** The changes in operating expenses for the three and six months ended June 30, 2014, compared to the same period in 2013, are primarily due to the variances in the operation and maintenance expense explained above.

### Liquidity and Capital Resources

For a general overview of our sources and uses of capital resources, see the introductory discussion under “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources,” contained in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2013.

We rely on our revolving credit facility, the capital markets and our cash flows from operations to fulfill our short-term liquidity needs, to issue letters of credit and to support our commercial paper program. We fund liquidity needs for capital investment, working capital and other financial commitments through cash flows from operations, public and private debt offerings, commercial paper markets and, to the extent necessary, our revolving credit facility. We regularly evaluate the capital markets and closely monitor the financial condition of the financial institutions with contractual commitments in the revolving credit facility.

In order to meet our short-term liquidity needs, we, through AWCC, our financing subsidiary, issue commercial paper, which is supported by the revolving credit facility. The revolving credit facility is also used, to a limited extent, to support our issuance of letters of credit and, from time to time, for direct borrowings. As of June 30, 2014, AWCC had no outstanding borrowings and $40.0 million of outstanding letters of credit under the revolving credit facility. As of June 30, 2014, AWCC had $1.2 billion available under the credit facility that we can use to fulfill our short-term liquidity needs, to issue letters of credit and support our $702.4 million outstanding commercial paper. We can provide no assurances that our lenders will meet their existing commitments or that we will be able to access the commercial paper or loan markets in the future on terms acceptable to us or at all.

### Cash Flows from Operating Activities

Cash flows from operating activities primarily result from the sale of water and wastewater services and, due to the seasonality of demand, are generally greater during the third quarter of each fiscal year. Cash flows from operating activities for the six months ended June 30, 2014 were $450.6 million compared to $290.2 million for the six months ended June 30, 2013.

The following table provides a summary of the major items affecting our cash flows from operating activities for the six months ended June 30, 2014 and 2013:

*(In thousands)*

|  | Six Months Ended June 30, 2014 | 2013 |
| --- | ---: | ---: |
| Net income | $177,422 | $158,906 |
| Add (subtract): |  |  |
| Non-cash activities (1) | 371,045 | 329,592 |
| Changes in working capital (2) | (76,419) | (138,808) |
| Pension and postretirement healthcare contributions | (21,433) | (59,493) |
| Net cash flows provided by operations | $450,615 | $290,197 |

(1) Includes depreciation and amortization, provision for deferred income taxes, amortization of deferred investment tax credits, provision for losses on accounts receivable, allowance for other funds used during construction, (gain) loss on asset dispositions and purchases, pension and non-pension postretirement benefits expense, stock-based compensation expense and other non-cash items. Details of each component can be found in the Consolidated Statements of Cash Flows.

(2) Changes in working capital include changes to receivables and unbilled utility revenue, taxes receivable including income taxes, other current assets, accounts payable, taxes accrued (including income taxes), interest accrued, change in book overdraft and other current liabilities.

Our working capital needs are primarily limited to funding the increase in our customer accounts receivable and unbilled revenues which is mainly associated with the revenue increase as a result of rate increases in our Regulated Businesses segment. We address this timing issue through the aforementioned liquidity funding mechanisms. Our cash collections for our Regulated Businesses’ accounts receivable, some of which were unbilled as December 31, 2013, showed improvement during the first half of 2014 compared to the second half of 2013. In the second half of 2013, the rate of cash collections, particularly in those states in which we implemented CIS in the second quarter of 2013, were slower than historical payment patterns. We believe this degradation in cash collections to be a result of certain process decisions, made as part of the CIS implementation, including the manual validation of bills prior to mailing to customers and decreased collection efforts. Therefore, we believe this situation to be only temporary in nature. Although cash collections increased during the first and second quarters of 2014, there are no assurances that the rate of cash collections will continue or be consistent with previous historical collection patterns.

The increase in cash flows from operating activities during the six months ended June 30, 2014 as compared to the same period in 2013 reflects higher net income adjusted for non-cash activities, changes in working capital and a reduction in pension and postretirement benefit contributions. The increase in working capital for the six months ended June 30, 2014 compared to the same period in the prior year is principally the result of increased processing of payments, accounts payable and accrued expenses in the first quarter of 2013, which was attributed to delays in payment of vendor invoices in the latter portion of 2012 as a result of the implementation of Phase I of our business transformation project.

### Cash Flows from Investing Activities

The following table provides information regarding cash flows used in investing activities for the periods indicated:

*(In thousands)*

|  | Six Months Ended June 30, 2014 | 2013 |
| --- | ---: | ---: |
| Net capital expenditures | $(401,781) | $(429,830) |
| Proceeds from sale of assets and securities | 665 | 580 |
| Acquisitions | (2,869) | (4,602) |
| Other investing activities, net (1) | (34,189) | (25,535) |
| Net cash flows used in investing activities | $(438,174) | $(459,387) |

(1) Includes removal costs from property, plant and equipment retirements, net and net funds released.

Cash flows used in investing activities for the six months ended June 30, 2014 was $438.1 million compared to $459.4 million for the six months ended June 30, 2013, reflecting decreased net capital expenditures. Net capital expenditures in 2013 included capital spending for our business transformation project which did not recur in 2014.

### Cash Flows from Financing Activities

Our financing activities, primarily focused on funding construction expenditures, include the issuance of long-term and short-term debt, primarily through AWCC. We intend to access the capital markets on a regular basis, subject to market conditions. In addition, new infrastructure may be financed with customer advances (net of refunds) and contributions in aid of construction (net of refunds).

As previously noted, AWCC is a wholly-owned finance subsidiary of American Water Works Company, Inc. (the “parent company”). Based on the needs of our regulated subsidiaries and the parent company, AWCC borrows in the capital markets and then, through intercompany loans, provides proceeds of those borrowings to the regulated subsidiaries and the parent company. The regulated subsidiaries and the parent company are obligated to pay to AWCC their respective portion of principal and interest in the amount required to enable AWCC to meet its debt service obligations. Because the parent company borrowings are not a source of capital for the Company’s regulated subsidiaries, the Company is not able to recover the interest charges on parent company debt through regulated water and wastewater rates.

We intend to utilize commercial paper for short-term liquidity, as commercial paper borrowings have historically been a more flexible and lower cost option. However, if necessary, we utilize our credit facility to complement our borrowings in the commercial paper market. In the event of disruptions in the money market sector of the debt capital markets, borrowings under our revolving credit facility may be more efficient and a lower cost alternative to commercial paper.

The following table provides information on long-term debt that was issued during the first six months of 2014:

| Company | Type | Rate | Maturity | Amount |
| --- | --- | --- | --- | ---: |
| Other subsidiaries (1) | Private activity bonds and government funded debt—fixed rate | 0.00%-5.00% | 2033 | $9,977 |

(1) Proceeds from the above issuance, which were initially kept in Trust, were received from New Jersey Environmental Infrastructure Trust and will be used to fund certain specific projects. The proceeds are held in trust pending our certification that we have incurred qualifying expenditures. These issuances have been presented as non-cash in the accompanying Consolidated Statements of Cash Flows. Subsequent releases of the funds will be reflected as the release of restricted funds in the cash flows from investing activities section of the Consolidated Statements of Cash Flows.

In addition to the above issuance, we also assumed $1.7 million of debt as a result of an acquisition.

The following long-term debt was retired through sinking fund provisions or payment at maturity during the first six months of 2014:

| Company | Type | Interest Rate | Maturity | Amount |
| --- | --- | ---: | --- | ---: |
| American Water Capital Corp. | Senior notes—fixed rate | 6.00% | 2039 | $9 |
| Other subsidiaries (1) | Private activity bonds and government funded debt—fixed rate | 0.00%-5.25% | 2014-2041 | 4,217 |
| Other subsidiaries | Mandatorily redeemable preferred stock | 8.49% | 2036 | 1,200 |
| Other subsidiaries | Capital lease payments |  |  | 14 |
| Total retirements and redemptions |  |  |  | $5,440 |

(1) Includes $0.9 million of non-cash defeasance via the use of restricted funds.

From time to time, and as market conditions warrant, we may engage in additional long-term debt retirements via tender offers, open market repurchases or other transactions.

### Credit Facilities and Short-Term Debt

Short-term debt balance, consisting of commercial paper, net of discount, amounted to $702.4 million at June 30, 2014.

The following table provides information as of June 30, 2014 regarding letters of credit sub-limits under our revolving credit facility and available funds under the revolving credit facility, as well as outstanding amounts of commercial paper and borrowings under our revolving credit facility.

*(In thousands)*

|  | Credit Facility Commitment | Available Credit Facility Capacity | Letter of Credit Sub-limit | Available Letter of Credit Capacity | Outstanding Commercial Paper (Net of Discount) | Credit Line Borrowings |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| June 30, 2014 | $1,250,000 | $1,210,035 | $150,000 | $110,035 | $702,438 | $— |

The weighted-average interest rate on short-term borrowings for the three months ended June 30, 2014 and 2013 was approximately 0.29% and 0.35%, respectively, and 0.31% and 0.38% for the six months ended June 30, 2014 and 2013, respectively.

### Capital Structure

The following table provides information regarding our capital structure for the periods presented:

|  | At June 30, 2014 | At December 31, 2013 |
| --- | ---: | ---: |
| Total common stockholders' equity | 45% | 45% |
| Long-term debt and redeemable preferred stock at redemption value | 48% | 49% |
| Short-term debt and current portion of long-term debt | 7% | 6% |
|  | 100% | 100% |

### Debt Covenants

Our debt agreements contain financial and non-financial covenants. To the extent that we are not in compliance, we, or our subsidiaries, may be restricted in the ability to pay dividends, issue new debt or access our revolving credit facility. For two of our smaller operating companies, we have informed our counterparties that we will provide only unaudited financial information at the subsidiary level, which resulted in technical non-compliance with certain of their reporting requirements. We do not believe this change will materially impact us. Our failure to comply with restrictive covenants under our credit facility could accelerate repayment obligations. Our long-term debt indentures contain a number of covenants that, among other things, limit the Company from issuing debt secured by the Company’s assets, subject to certain exceptions.

Certain long-term notes and the revolving credit facility require us to maintain a ratio of consolidated debt to consolidated capitalization (as defined in the relevant documents) of not more than 0.70 to 1.00. As of June 30, 2014, our ratio was 0.55 to 1.00 and therefore we were in compliance with the covenant.

### Security Ratings

Our access to the capital markets, including the commercial paper market, and respective financing costs in those markets, is directly affected by securities ratings of the entity that is accessing the capital markets. We primarily access the capital markets, including the commercial paper market, through AWCC. However, we have also issued debt through our regulated subsidiaries, primarily in the form of tax exempt securities or borrowings under state revolving funds, to lower our overall cost of debt.

On June 2, 2014, Standard & Poor’s Rating Service (“S&P”), revised its rating outlook to positive from stable and affirmed its corporate credit rating of A- on AWCC and American Water and of A2 on AWCC’s short term rating. The following table shows the Company’s securities ratings as of June 30, 2014:

| Securities | Moody’s Investors Service | Standard & Poor’s Ratings Service |
| --- | --- | --- |
| Senior unsecured debt | Baa1 | A‑ |
| Commercial paper | P2 | A2 |

A security rating is not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time by the assigning rating agency, and each rating should be evaluated independently of any other rating. Security ratings are highly dependent upon our ability to generate cash flows in an amount sufficient to service our debt and meet our investment plans. We can provide no assurances that our ability to generate cash flows is sufficient to maintain our existing ratings. None of our borrowings are subject to default or prepayment as a result of the downgrading of these security ratings, although such a downgrading could increase fees and interest charges under our credit facility.

As part of the normal course of business, we routinely enter into contracts for the purchase and sale of water, energy, fuels and other services. These contracts either contain express provisions or otherwise permit us and our counterparties to demand adequate assurance of future performance when there are reasonable grounds for doing so. In accordance with the contracts and applicable contract law, if we are downgraded by a credit rating agency, especially if such downgrade is to a level below investment grade, it is possible that a counterparty would attempt to reference such a downgrade as a basis for making a demand for adequate assurance of future performance, which could include a demand that we provide collateral to secure our obligations. We do not expect that our posting of collateral would have a material adverse impact on our results of operations, financial position or cash flows.

### Dividends

Our board of directors’ practice has been to distribute to our shareholders a portion of our net cash provided by operating activities as regular quarterly dividends, rather than retaining that cash for other purposes. Since the dividends on our common stock are not cumulative, only declared dividends will be paid.

On March 3, 2014, we made a cash dividend payment of $0.28 per share to all shareholders of record as of February 3, 2014. On June 2, 2014 we made a quarterly cash dividend payment of $0.31 per share to all shareholders of record as of May 12, 2014.

To permit our shareholders to take advantage of 2012 tax rates, the cash dividend payment that would have historically been paid in March 2013 was paid in December 2012. On June 3, 2013, we made a cash dividend payment of $0.28 per share to all shareholders of record as of May 24, 2013.

On July 30, 2014 our board of directors declared a quarterly cash dividend payment of $0.31 per share payable on September 2, 2014 to all shareholders of record as of August 11, 2014.

### Market Risk

There have been no significant changes to our market risk since December 31, 2013. For a discussion of our exposure to market risk, refer to Part II, Item 7A. “Quantitative and Qualitative Disclosures about Market Risk,” contained in our Form 10-K for the year ended December 31, 2013.

### Application of Critical Accounting Policies and Estimates

Our financial condition, results of operations and cash flows are impacted by the methods, assumptions and estimates used in the application of critical accounting policies. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Critical Accounting Policies and Estimates,” in our Form 10-K for the year ended December 31, 2013 for a discussion of our critical accounting policies.

### Recent Accounting Pronouncements

See Part I, Item 1 – Financial Statements (Unaudited) – Note 2 – New Accounting Pronouncements in this Quarterly Report on Form 10-Q for a discussion of new accounting standards recently adopted or pending adoption.

## Market risk

As filed, 283 characters.

We are subject to market risks in the normal course of business, including changes in interest rates and equity prices. For further discussion of market risks see “Market Risk” in Part I, Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations.

## Controls and procedures

As filed, 1,990 characters.

### Evaluation of Disclosure Controls and Procedures

American Water Works Company, Inc. maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its reports filed or submitted under the Securities Exchange Act of 1934 (“the Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to management, including the Chief Executive Officer and the Chief Financial Officer, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.

Our management, including the Chief Executive Officer and the Chief Financial Officer, conducted an evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) of the Exchange Act) as of June 30, 2014 pursuant to 15d-15(e) under the Exchange Act.

Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of June 30, 2014, our disclosure controls and procedures were effective at a reasonable level of assurance. Our disclosure controls and procedures are designed to provide reasonable assurance that the information required to be disclosed by us in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

### Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting that occurred during the three months ended June 30, 2014, that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

## Risk factors

As filed, 472 characters.

In addition to the other information set forth in this report, you should carefully consider the factors discussed in the “Risk Factors” in the Company’s Form 10-K for the year ended December 31, 2013, and our other public filings, which could materially affect our business, financial condition or future results. There have been no material changes from risk factors previously disclosed in “Risk Factors” in the Company’s Form 10-K for the year ended December 31, 2013.

Filed Aug 6, 2014.
Source: SEC EDGAR, the filing index for accession 0001564590-14-003227. Last ingested by Listed: Nov 6, 2026, 17:16 ET. No prices; not investment advice.