# American Water Works Company, Inc.: Form 10-Q for the period ended Jun 30, 2016

- Company: [American Water Works Company, Inc.](/companies/awk.md) (CIK 1410636)
- Form: 10-Q
- Filed: 2016-08-03
- Accepted by EDGAR: Aug 3, 2016, 16:33 ET
- Period: 2016-06-30
- Accession: 0001564590-16-022379
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/1410636/000156459016022379/awk-10q_20160630.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/1410636/000156459016022379/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2016-06-30.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Operating income | 3 months, 2016-04-01 to 2016-06-30 | $299.0m | us-gaap:OperatingIncomeLoss |
| Operating income | 6 months, 2016-01-01 to 2016-06-30 | $513.0m | us-gaap:OperatingIncomeLoss |
| Income tax | 3 months, 2016-04-01 to 2016-06-30 | $88.0m | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 6 months, 2016-01-01 to 2016-06-30 | $142.0m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2016-04-01 to 2016-06-30 | $137.0m | us-gaap:NetIncomeLoss |
| Net income | 6 months, 2016-01-01 to 2016-06-30 | $219.0m | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2016-04-01 to 2016-06-30 | $0.77 | us-gaap:EarningsPerShareDiluted |
| Diluted EPS | 6 months, 2016-01-01 to 2016-06-30 | $1.23 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2016-04-01 to 2016-06-30 | $0.77 | us-gaap:EarningsPerShareBasic |
| Basic EPS | 6 months, 2016-01-01 to 2016-06-30 | $1.23 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2016-04-01 to 2016-06-30 | 178,000,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 6 months, 2016-01-01 to 2016-06-30 | 178,000,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 6 months, 2016-01-01 to 2016-06-30 | $518.0m | us-gaap:NetCashProvidedByUsedInOperatingActivitiesContinuingOperations |
| Capital expenditure | 6 months, 2016-01-01 to 2016-06-30 | $597.0m | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Dividends paid | 6 months, 2016-01-01 to 2016-06-30 | $127.0m | us-gaap:PaymentsOfDividendsCommonStock |
| Share repurchases | 6 months, 2016-01-01 to 2016-06-30 | $65.0m | us-gaap:PaymentsForRepurchaseOfCommonStock |
| Cash and equivalents | at 2016-06-30 | $52.0m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2016-06-30 | $691.0m | us-gaap:AssetsCurrent |
| Total assets | at 2016-06-30 | $17.71bn | us-gaap:Assets |
| Current liabilities | at 2016-06-30 | $1.74bn | us-gaap:LiabilitiesCurrent |
| Long-term debt | at 2016-06-30 | $5.90bn | us-gaap:LongTermDebt |
| Short-term borrowings | at 2016-06-30 | $950.0m | us-gaap:ShortTermBorrowings |
| Shareholders' equity | at 2016-06-30 | $5.15bn | us-gaap:StockholdersEquity |

## Management's discussion and analysis

As filed, 44,001 characters.

*The following discussion should be read together with the unaudited consolidated financial statements and the notes thereto included elsewhere in this Form 10-Q. This discussion contains forward-looking statements that are based on management’s current expectations, estimates and projections about our business, operations and financial performance. The cautionary statements made in this Form 10-Q should be read as applying to all related forward-looking statements whenever they appear in this Form 10-Q. Our actual results may differ materially from those currently anticipated and expressed in such forward-looking statements as result of a number of factors, including those we discuss under “Forward Looking Statements,” Part II, Item 1A—Risk Factors, and elsewhere in this Form 10-Q.*

### General

American Water Works Company, Inc. (“American Water” or the “Company”) is the largest and most geographically diverse investor-owned publicly-traded water and wastewater utility company in the United States, 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 utilities are generally subject to economic regulation by state regulatory agencies in the states in which they operate. We report the financial results of our utilities in our Regulated Businesses segment. We also provide other services through businesses that are not subject to economic regulation by state regulatory agencies. We present the results of these businesses as our “Market-Based Businesses”. For further description of our businesses, see Part I, Item 1—Business in our Form 10-K.

You should read the following discussion in conjunction with our Consolidated Financial Statements and related Notes included elsewhere in this Form 10-Q and in our Form 10-K.

### Financial Results

In 2016, income attributable to common stockholders increased 9 cents and 10 cents per diluted share for the quarter and year-to-date, respectively. Both the quarter and year-to-date increases were primarily due to continued growth in our Regulated Businesses segment largely attributable to additional authorized revenue driven by investment growth and acquisitions.

See “Comparison of Consolidated Results of Operations” and “Segment Results of Operations” below for further discussion on the consolidated results of operations, as well as our business segments.

### Regulatory Matters

The table below provides rate authorizations by state, which became effective during the three and six months ended June 30, 2016. The table depicts annualized incremental revenues resulting from general rate cases, assuming a constant water sales volume, and infrastructure surcharge mechanisms that became effective during the periods:

*(In millions)*

| General rate cases by state: | For the Three Months Ended June 30, 2016 | For the Six Months Ended June 30, 2016 |
| --- | ---: | ---: |
| West Virginia (February 25) | $— | $18 |
| California (January 1) | — | 2 |
| Indiana (January 29) | — | 2 |
| **Total general rate cases** | $— | $22 |
| **Infrastructure surcharges by state:** |  |  |
| Pennsylvania (January 1 & April 1) | $2 | $13 |
| New Jersey (June 1) | 9 | 9 |
| Indiana (May 4) | 3 | 3 |
| Tennessee (March 15) | — | 2 |
| Illinois (January 1) | — | 1 |
| **Total infrastructure surcharges** | $14 | $28 |

22

On April 1, 2016, our Virginia subsidiary implemented interim rates under bond and subject to refund, resulting in additional annualized revenues of $9 million.

On April 29, 2016, we filed general rate cases in New York and Iowa requesting additional annualized revenue of $9 million and $5 million, respectively. On May 9, 2016, $2 million in additional annualized revenues of the $5 million requested in the Iowa rate case were put into effect as interim rates under bond and subject to refund.

On April 29, 2016, our West Virginia subsidiary filed for an infrastructure surcharge requesting additional annualized revenues of $3 million.

On July 1, 2016, our California subsidiary filed a general rate case requesting to increase revenues by $51 million over three years. This increase includes additional annualized revenue of $35 million, which is expected to become effective on January 1, 2018 as well as a step rate and attrition rate increase of $8 million in both 2019 and 2020.

On July 20, 2016, our Illinois subsidiary filed for an infrastructure surcharge requesting additional annualized revenues of $6, which became effective on August 1, 2016.

Following the close of the second quarter, additional annualized revenue of $6 million resulting from infrastructure surcharges in our Pennsylvania subsidiary became effective on July 1, 2016. Additional annualized revenue of $5 million resulting from a general rate case in our Missouri subsidiary became effective on July 20, 2016 for water services and July 22, 2016 for wastewater services.

As of August 3, 2016, including the filings discussed above, we are awaiting final general rate case orders in six states, requesting additional annualized revenue of $110 million. We are also awaiting approval from one state for additional annualized surcharges of $3 million. There is no assurance that all or any portion of these requests will be granted.

*Other Matters.* In June 2016, the Pennsylvania legislature eliminated the consolidated tax adjustments for ratemaking purposes. The new law now requires a calculation of the public utility’s federal income tax expense on a standalone basis—separate from any gains or losses of unregulated affiliates. In July 2016, new rules were issued associated with changes to the Qualified Infrastructure Plant (“QIP”) rules in Illinois. These new rules will expand the infrastructure program to include almost all capital improvements and modifies the cap on the QIP surcharge.

### Focusing on Central Themes

For 2016, our focus continues to be anchored on the five central themes noted in 2015: 1) Safety, 2) Customers, 3) People, 4) Growth and 5) Technology and Operational Efficiency. We will continue our focus on operating our business responsibly and managing our operating and capital costs in a manner that benefits our customers and produces long-term value for our stockholders. Additionally, we will continue our ongoing strategy that ensures a safe workplace for our employees, emphasizes public safety for our customers and communities, and leverages our human resources, processes and technology innovation to make our business more effective and efficient. The progress that we have made in the first six months of 2016 with respect to growth and improvement in our operational efficiency ratio is described below.

### Growth—Infrastructure improvements, acquisitions and strategic capital investments

During the first half of 2016, we made capital investments of approximately $552 million, focused in two key areas:

- $528 million of which the majority was in our Regulated Businesses primarily to improve infrastructure; and
- $24 million for acquisitions in our Regulated Businesses, which added approximately 7,600 water and wastewater customers.

For the full-year of 2016, our total capital investment, including acquisitions, is expected to be in the range of $1.4 billion to $1.5 billion, most of which is allocated to improving infrastructure in our Regulated Businesses. Included in this range is net capital investment by Pennsylvania-American Water Company in substantially all of the wastewater collection and treatment assets of Sewer Authority of the City of Scranton (“SSA”). The SSA currently serves approximately 31,000 wastewater customers in the City of Scranton and Dunmore Borough, Pennsylvania. We are working to close this acquisition by September 30, 2016.

On August 2, 2016, we agreed to acquire all of the capital stock of Shorelands Water Company (“Shorelands”) in exchange for an equivalent value of our common stock. The maximum number of shares of our common stock to be exchanged upon closing of this acquisition will be less than 500,000 and will be based upon the average price of our common stock. Shorelands currently provides water service to approximately 11,000 customers in Monmouth County, New Jersey. The closing of this acquisition is subject to the satisfaction of various conditions and compliance by the parties with certain covenants, including obtaining the approval of the New Jersey Board of Public Utilities. The Company is seeking to close the acquisition in the first quarter of 2017.

### Technology & Operational Efficiency—Continuing Improvement in Adjusted O&M Efficiency Ratio for our Regulated Businesses

We continued to improve on our adjusted O&M efficiency ratio (a non-GAAP measure). Our adjusted O&M efficiency ratio for the twelve months ended June 30, 2016 was 35.2%, compared to 35.9% for the twelve months ended June 30, 2015. The improvement in the 2016 O&M efficiency ratio over this period was attributable to an increase in 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 GAAP financial measure 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.

Our adjusted O&M efficiency ratio is defined as our regulated O&M expense divided by regulated operating revenues, where both O&M expense and operating revenues were adjusted to eliminate purchased water expenses. Additionally, from the O&M expenses, we excluded the allocable portion of non-O&M support services cost, 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 accompanying Consolidated Statement of Operations.

The following table provides the calculation and reconciliation that compares O&M and operating revenues, as determined in accordance with GAAP, and to those amounts utilized in the calculation of our adjusted O&M efficiency ratio for the twelve months ended June 30, 2016 as compared to the same period in 2015.

*(In millions)*

|  | For the Twelve Months Ended June 30, 2016 | 2015 |
| --- | ---: | ---: |
| Total operation and maintenance expenses | $1,443 | $1,347 |
| Less: |  |  |
| Operation and maintenance expenses—Market-Based Businesses | 397 | 316 |
| Operation and maintenance expenses—Other | (43) | (55) |
| Total operation and maintenance expenses—Regulated Businesses | 1,089 | 1,086 |
| Less: |  |  |
| Regulated purchased water expenses | 116 | 119 |
| Allocation of non-operation and maintenance expenses | 32 | 39 |
| Impact of Freedom Industries chemical spill in West Virginia | — | 1 |
| Estimated impact of weather (mid-point of range) | — | (2) |
| Adjusted operation and maintenance expenses—Regulated Businesses (a) | $941 | $929 |
| Total operating revenues | $3,249 | $3,058 |
| Less: |  |  |
| Operating revenues—Market-Based Businesses | 476 | 385 |
| Operating revenues—Other | (18) | (18) |
| Total regulated operating revenues—Regulated Businesses | 2,791 | 2,691 |
| Less: |  |  |
| Regulated purchased water revenues\* | 116 | 119 |
| Plus: |  |  |
| Estimated impact of weather (mid-point of range) | — | 17 |
| Adjusted operating revenues—Regulated Businesses (b) | $2,675 | $2,589 |
| Adjusted operation and maintenance efficiency ratio—Regulated Businesses (a)/(b) | 35.2% | 35.9% |

\* Calculation assumes purchased water revenues approximate purchased water expenses.

### Consolidated Results of Operations

*(In millions)%%*

|  | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Operating revenues | $827 | $782 | $45 | 5.8 | $1,570 | $1,480 | $90 | 6.1 |
| Operating expenses: |  |  |  |  |  |  |  |  |
| Operation and maintenance | 351 | 336 | 15 | 4.5 | 699 | 660 | 39 | 5.9 |
| Depreciation and amortization | 115 | 109 | 6 | 5.5 | 231 | 216 | 15 | 6.9 |
| General taxes | 64 | 60 | 4 | 6.7 | 130 | 124 | 6 | 4.8 |
| Gain on asset dispositions and purchases | (2) | (1) | (1) | — | (3) | (2) | (1) | 50.0 |
| Total operating expenses, net | 528 | 504 | 24 | 4.8 | 1,057 | 998 | 59 | 5.9 |
| Operating income | 299 | 278 | 21 | 7.6 | 513 | 482 | 31 | 6.4 |
| Other income (expenses): |  |  |  |  |  |  |  |  |
| Interest, net | (81) | (76) | (5) | 6.6 | (161) | (151) | (10) | 6.6 |
| Other, net | 7 | 2 | 5 | 250.0 | 9 | 6 | 3 | 50.0 |
| Total other income (expenses) | (74) | (74) | — | — | (152) | (145) | (7) | 4.8 |
| Income from continuing operations before income taxes | 225 | 204 | 21 | 10.3 | 361 | 337 | 24 | 7.1 |
| Provision for income taxes | 88 | 81 | 7 | 8.6 | 142 | 134 | 8 | 6.0 |
| Net income attributable to common stockholders | $137 | $123 | $14 | 11.4 | $219 | $203 | $16 | 7.9 |

### Comparison of Consolidated Results of Operations

*Operating revenues.* For the three months ended June 30, 2016, operating revenues increased primarily due to a:

- $29 million increase in our Regulated Businesses segment due to authorized rate increases to fund investment growth, acquisitions and incremental revenues from surcharges and balancing accounts, partially offset by lower consumption when compared to the same period in 2015;
- $15 million increase in our Market-Based Businesses, with $11 million attributable to Keystone Clearwater Solutions, LLC (“Keystone”), our water management solutions subsidiary, which was acquired in the third quarter of 2015 and $4 million attributable to incremental revenue in our Homeowner Services Group..

For the six months ended June 30, 2016, operating revenues increased due to a:

- $48 million increase in our Regulated Businesses segment due to authorized rate increases to fund investment growth, acquisitions and incremental revenues from surcharges and balancing accounts, partially offset by lower consumption when compared to the same period in 2015; and
- $42 million increase in our Market-Based Businesses primarily from a $23 million increase from Keystone, which was acquired in the third quarter of 2015 and is included in our Market-Based Businesses and $19 million increase mainly due to incremental revenues from our Military Services and Homeowner Services Groups

*Operation and maintenance.* For the three months ended June 30, 2016, operation and maintenance expense increased primarily due to a:

- $14 million increase in our Market-Based Businesses with $8 million attributable to Keystone and the remaining $6 million due to incremental costs in our Homeowner Services Group corresponding with the increases in operating revenues; partially offset by
- $2 million of lower expenses in our Regulated Businesses due to continued improved efficiency and timing offset by an increase in medical and prescription drug group insurance costs of $5 million. We expect higher group insurance costs to continue for the remainder of 2016.

For the six months ended June 30, 2016, operation and maintenance expense increased primarily due to a:

- $39 million increase in our Market-Based Businesses with $20 million attributable to Keystone and the remaining $19 million primarily due to incremental costs in our Military Services Group and Homeowner Services Group corresponding with the increases in operating revenues discussed above; partially offset by a
- $6 million decrease in our Regulated Business segment principally due to lower uncollectible expense and maintenance services and supplies costs; partially offset by an increase in medical and prescription drug group insurance costs of $5 million.

*General Taxes.* For the three and six months ended June 30, 2016, general taxes increased primarily as a result of higher gross receipts taxes in our Regulated Businesses segment.

*Depreciation and amortization.* For the three and six months ended June 30, 2016, depreciation and amortization expense increased primarily as a result of additional utility plant placed in service and the acquisition of Keystone in the third quarter of 2015.

*Other income (expenses).* For the three months ended June 30, 2016, other expenses remained unchanged due to a $5 million increase in interest expense from the issuance of incremental long-term debt in the last six months of 2015, offset by proceeds from the settlement of a contract dispute in our Market-Based Businesses and a favorable outcome associated with the finalization of the Missouri rate case. For the six months ended June 30, 2016, other expenses increased primarily due to a $10 million increase in interest expense from the issuance of incremental long-term debt in the last six months of 2015, offset by the proceeds from the settlement dispute recognized in the second quarter.

### Segment Results of Operations

Our segments are determined based on how we assess our performance and allocate our resources. We evaluate the performance of our segments and allocate resources based on several factors, with the primary measure being net income attributable to common stockholders.

We conduct our business primarily through one reportable segment, our Regulated Businesses segment. We also operate businesses that provide a broad range of related and complementary water and wastewater services in non-regulated markets, which includes four operating segments that individually do not meet the criteria of a reportable segment. These four non-reportable segments are presented as our “Market-Based Businesses”.

### Regulated Businesses Segment

The following table summarizes certain financial information for our Regulated Businesses segment:

*(In millions)%%*

|  | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Operating revenues | $716 | $687 | $29 | 4.2 | $1,350 | $1,302 | $48 | 3.7 |
| Operation and maintenance | 269 | 271 | (2) | (0.7) | 531 | 537 | (6) | (1.1) |
| Total operating expenses, net | 434 | 428 | 6 | 1.4 | 864 | 852 | 12 | 1.4 |
| Net income attributable to common stockholders | 135 | 122 | 13 | 10.7 | 222 | 203 | 19 | 9.4 |

26

*Operating revenues.* The following tables and discussions provide explanations for variances related to the three components of operating revenues—water services revenues, wastewater services revenues and other revenues:

*(In millions)%%*

| Billed water services: | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Residential | $383 | $373 | $10 | 2.7 | $731 | $720 | $11 | 1.5 |
| Commercial | 139 | 135 | 4 | 3.0 | 264 | 258 | 6 | 2.3 |
| Industrial | 33 | 32 | 1 | 3.1 | 63 | 63 | — | — |
| Public and other | 83 | 83 | — | — | 159 | 159 | — | — |
| Other water revenues | 15 | 10 | 5 | 50.0 | 26 | 17 | 9 | 52.9 |
| Billed water services | 653 | 633 | 20 | 3.2 | 1,243 | 1,217 | 26 | 2.1 |
| Unbilled water services | 22 | 16 | 6 | 37.5 | 27 | 12 | 15 | 125.0 |
| Total water services revenues | 675 | 649 | 26 | 4.0 | 1,270 | 1,229 | 41 | 3.3 |
| Wastewater services revenues | 28 | 25 | 3 | 12.0 | 55 | 48 | 7 | 14.6 |
| Other revenues | 13 | 13 | — | — | 25 | 25 | — | — |
| Total operating revenues | $716 | $687 | $29 | 4.2 | $1,350 | $1,302 | $48 | 3.7 |

*(In millions)%%*

| Billed water services volumes: | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Residential | 40,936 | 41,725 | (789) | (1.9) | 77,345 | 79,379 | (2,034) | (2.6) |
| Commercial | 19,687 | 19,727 | (40) | (0.2) | 37,103 | 37,017 | 86 | 0.2 |
| Industrial | 9,541 | 9,573 | (32) | (0.3) | 18,181 | 18,570 | (389) | (2.1) |
| Public and other | 12,503 | 12,889 | (386) | (3.0) | 23,471 | 24,726 | (1,255) | (5.1) |
| Billed water services volumes | 82,667 | 83,914 | (1,247) | (1.5) | 156,100 | 159,692 | (3,592) | (2.2) |

For the three months ended June 30, 2016, operating revenues increased primarily due to a:

- $21 million increase from authorized rate increases, including infrastructure surcharges, primarily to fund investment growth in various states;
- $6 million incremental revenues from balancing accounts and surcharges;
- $5 million increase attributable to recent water and wastewater acquisitions and organic growth; partially offset by a
- $2 million decrease attributable to a decline in consumption in 2016 compared to the same period in 2015.

For the six months ended June 30, 2016, operating revenues increased primarily due to a:

- $37 million increase from authorized rate increases, including infrastructure surcharges, primarily to fund investment growth in various states;
- $10 million incremental revenues from balancing accounts and surcharges;
- $10 million increase attributable to recent water and wastewater acquisitions and organic growth; partially offset by a
- $9 million decrease attributable to a decline in consumption in 2016 compared to the same period in 2015.

*Operation and maintenance.* The following table and discussions provide a detailed explanation of the variances related to the major components of operation and maintenance.

*(In millions)%%*

|  | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Production costs | $71 | $72 | $(1) | (1.4) | $134 | $136 | $(2) | (1.5) |
| Employee-related costs | 112 | 107 | 5 | 4.7 | 221 | 216 | 5 | 2.3 |
| Operating supplies and services | 49 | 49 | — | — | 99 | 95 | 4 | 4.2 |
| Maintenance materials and supplies | 15 | 17 | (2) | (11.8) | 30 | 36 | (6) | (16.7) |
| Customer billing and accounting | 10 | 14 | (4) | (28.6) | 24 | 29 | (5) | (17.2) |
| Other | 12 | 12 | — | — | 23 | 25 | (2) | (8.0) |
| Total | $269 | $271 | $(2) | (0.7) | $531 | $537 | $(6) | (1.1) |

For the three months ended June 30, 2016, operation and maintenance decreased primarily due to a:

- $4 million decrease in customer billing and accounting principally due to a reduction in uncollectible expense resulting from improvements in the aging of our receivables and increased collections in 2016 compared to the same period in 2015; and
- $2 million decrease in maintenance services and supplies primarily due to lower tank painting and paving costs, mainly due to timing; partially offset by a
- $5 million increase in employee related costs mainly due to higher medical and prescription drug group insurance costs. We expect higher group insurance costs to continue for the remainder of 2016.

For the six months ended June 30, 2016, operation and maintenance decreased primarily due to a:

- $6 million decrease in maintenance services and supplies primarily due to lower main breaks as a result of milder weather in 2016 compared to the same period in 2015;
- $5 million decrease in uncollectible expense primarily due to improvements in the aging of our receivables and increased collections in 2016, compared to the same period in 2015; partially offset by a
- $5 million increase in employee related costs mainly due to higher medical and prescription drug group insurance costs.

*Operating expenses, net.* For the three and six months ended June 30, 2016, operating expenses, net increased principally due to higher depreciation and amortization expense of $7 million and $15 million, respectively, partially offset by the decrease in operation and maintenance expense as explained above. The increase in depreciation and amortization expense is primarily due to additional utility plant placed in service.

### Market-Based Businesses

The following table summarizes certain financial information for our Market-Based Businesses:

*(In millions)%%*

|  | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Operating revenues | $115 | $100 | $15 | 15.0 | $229 | $187 | $42 | 22.5 |
| Operation and maintenance | 94 | 80 | 14 | 17.5 | 193 | 154 | 39 | 25.3 |
| Total operating expenses, net | 98 | 83 | 15 | 18.1 | 202 | 159 | 43 | 27.0 |
| Net income attributable to common stockholders | 13 | 12 | 1 | 8.3 | 19 | 19 | — | — |

28

*Operating revenues.* For the three months ended June 30, 2016, operating revenues increased primarily due to a:

- $11 million increase resulting from Keystone; and
- $3 million increase in our Homeowner Services Group revenues primarily due to contract growth and the expansion into new geographic areas. Increased revenue in the Military Services Group from the addition of a new base was fully offset by lower capital upgrades in the second quarter of 2016. We expect capital upgrades to be lower in 2016 compared to 2015, as a result higher project activity in 2015 and reduced military base budgets.

For the six months ended June 30, 2016, operating revenues increased primarily due to a:

- $23 million increase resulting from Keystone, which was acquired in the third quarter of 2015;
- $9 million increase in our Military Services Group revenues primarily due to higher capital upgrades during the first quarter of 2016 and the addition of Vandenberg Air Force Base in 2016; and
- $7 million increase in our Homeowner Services Group revenues primarily due to contract growth and the expansion into new geographic areas.

*Operation and maintenance.* The following table summarizes information regarding components of operation and maintenance:

*(In millions)%%*

|  | For the Three Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  | For the Six Months Ended June 30, 2016 | 2015 | Increase (Decrease) |  |
| --- | ---: | ---: | ---: | ---: | ---: | ---: | ---: | ---: |
| Production costs | $8 | $9 | $(1) | (11.1) | $17 | $18 | $(1) | (5.6) |
| Employee-related costs | 24 | 17 | 7 | 41.2 | 48 | 33 | 15 | 45.5 |
| Operating supplies and services | 43 | 40 | 3 | 7.5 | 90 | 73 | 17 | 23.3 |
| Maintenance materials and supplies | 17 | 13 | 4 | 30.8 | 33 | 27 | 6 | 22.2 |
| Other | 2 | 1 | 1 | 100.0 | 5 | 3 | 2 | 66.7 |
| Total | $94 | $80 | $14 | 17.5 | $193 | $154 | $39 | 25.3 |

For the three months ended June 30, 2016, operation and maintenance expense increased primarily due to a:

- $8 million increase resulting from Keystone, including $4 million in employee-related costs and $4 million in operating supplies and services; and
- $6 million increase mainly associated with higher employee-related costs in our Military Services Group from the addition of Vandenberg Air Force Base, offset by lower capital upgrades in the second quarter of 2016 compared to 2015, as well as contract growth in our Homeowner Services Group.

For the six months ended June 30, 2016, operation and maintenance expense increased primarily due to a:

- $20 million increase resulting from Keystone, including $9 million in employee-related costs and $9 million in operating supplies and services;
- $8 million increase in operating supplies and services primarily due to increased construction project activities in our Military Services Group mainly during the first quarter, as well as additional marketing expenses in Homeowner Services Group; and
- $6 million increase in employee-related costs primarily due to contract growth from the addition of the Vandenberg Air Force Base contract.

*Operating expenses, net.* This increase is principally due to the increase in operation and maintenance expense explained above as well as higher depreciation and amortization expense as a result of Keystone.

*Net income attributable to common stockholders.* In addition to the increases for operating income variances explained above, the three months and six months ended June 30, 2016 includes a $2 million favorable contract settlement dispute.

### Liquidity and Capital Resources

For a general overview of our sources and uses of capital resources, see the introductory discussion in Part II, Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources contained in our Form 10-K.

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, American Water Capital Corp. (“AWCC”) revolving credit facility. We regularly evaluate the capital markets and closely monitor the financial condition of the financial institutions with contractual commitments in our revolving credit facility.

In order to meet our short-term liquidity needs, we, through AWCC, our wholly owned financing subsidiary, issue commercial paper, which is supported by our revolving credit facility. Effective as of March 22, 2016 and under the terms of the revolving credit agreement dated June 30, 2015, AWCC exercised its right to increase its borrowing capacity available under our revolving credit facility from an aggregate maximum of $1.25 billion to $1.75 billion. All other terms, conditions and covenants with respect to the existing facility remained unchanged. We incurred $1 million of issuance costs in connection with the increased lending commitments, which will be amortized over the remaining life of the credit facility. Also on March 22, 2016, AWCC increased the commercial paper program from $1.0 billion to $1.6 billion.

As of June 30, 2016, AWCC had no outstanding borrowings and $89 million of outstanding letters of credit under the revolving credit facility. As of June 30, 2016, AWCC had $1.66 billion available under the revolving credit facility to fulfill our short-term liquidity needs and to issue letters of credit, which supported $950 million in outstanding commercial paper. We believe that our ability to access the capital markets, our revolving credit facility and our cash flows from operations will generate sufficient cash to fund our short-term requirements. However, we can provide no assurances that the lenders will meet their existing commitments to AWCC under the credit facility 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.

On March 24, 2016, we entered into three forward starting swap agreements with an aggregate notional amount of $225 million to reduce interest rate exposure for a portion of the expected refinancing of our 6.085% fixed-rate long-term debt maturing in 2017. The forward starting swap agreements terminate in December 2017 and have an average fixed interest rate of 2.29%. During the three months ended June 30, 2016, the fair value of our forward starting swaps decreased by $16 million due to lower interest rates driven mainly by market uncertainties in the European Union. On July 1, 2016, we entered into another forward starting swap agreement on July 1, 2016 with a notional amount of $75 million at a 30-year fixed rate of 1.92% to reduce the average 30-year fixed rate on the total hedged notional amount of $300 million to 2.20%. Changes in the fair value of the forward starting swaps will be recognized in accumulated other comprehensive loss until the agreements terminate in December 2017.

### Cash Flows Provided by Operating Activities

Cash flows provided by 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. The following table provides a summary of the major items affecting cash flows provided by our operating activities:

*(In millions)*

|  | For the Six Months Ended June 30, 2016 | 2015 |
| --- | ---: | ---: |
| Net income | $219 | $203 |
| Add (less): |  |  |
| Non-cash activities (a) | 370 | 369 |
| Changes in working capital (b) | (43) | (128) |
| Pension and postretirement healthcare contributions | (28) | (26) |
| Net cash flows provided by operations | $518 | $418 |

(a) Includes depreciation and amortization, deferred income taxes and amortization of deferred investment tax credits, provision for losses on accounts receivable, gain on asset dispositions and purchases, pension and non-pension postretirement benefits expense and other non-cash, net. Details of each component can be found in the Consolidated Statements of Cash Flows.

(b) Changes in working capital include changes to receivables and unbilled revenues, accounts payable and accrued liabilities, and other current assets and liabilities, net.

For the first six months ended June 30, 2016, the increase in cash flows from operating activities, as compared to the same period in 2015, is primarily due to changes in working capital. The changes in working capital were principally driven by three components: a change in accounts receivable and unbilled revenues resulting from continuous improvement in our Regulated Businesses’ collection efforts, as well as increased collection of outstanding receivables in our Military Services Group in 2016; a change in accounts payable and accrued liabilities mainly associated with incremental accrued interest in 2016 partially offset by the timing of payments; and lastly, a change in other assets and liabilities, net as a result of a change in the book overdraft liability from the timing of accounts payable.

### Cash Flows Used in Investing Activities

The following table provides information regarding cash flows used in our investing activities:

*(In millions)*

|  | For the Six Months Ended June 30, 2016 | 2015 |
| --- | ---: | ---: |
| Capital expenditures | $(597) | $(479) |
| Acquisitions | (24) | (41) |
| Other investing activities, net (a) | (44) | (47) |
| Net cash flows used in investing activities | $(665) | $(567) |

(a) Includes removal costs from property, plant and equipment retirements, net, proceeds from sale of assets and net funds restricted.

For the six months ended June 30, 2016, net capital expenditures increased $118 million, or 25%, primarily due to continued investment across all infrastructure categories, mainly replacement and renewal of transmission and distribution infrastructure in our Regulated Businesses.

The decrease in cash utilized for acquisitions during the first six months of 2016 compared to the same period in 2015 is principally due to the timing of acquisitions. In the first half of 2016 we closed on ten acquisitions, including the purchase in January 2016 of all of the capital stock of Environmental Disposal Corporation, an investor-owned wastewater utility in New Jersey. In the first half of 2015 we closed on three acquisitions, including the Borough of Haddonfield, New Jersey’s water and wastewater systems and the City of Arnold, Missouri’s wastewater system.

We are moving forward with our plans to construct a new corporate headquarters to consolidate our support services and certain of our employees in our Market-Based Businesses within a single location. We have selected a site on Camden, New Jersey’s waterfront. We expect construction to occur in 2017 and 2018 and to move into the new headquarters in the latter half of 2018. The cost of construction is currently estimated to be up to $165 million, and is exclusive of any tax incentives that we may receive.

### Cash Flows Provided by Financing Activities

The following table provides information regarding cash flows provided by our financing activities:

*(In millions)*

|  | For the Six Months Ended June 30, 2016 | 2015 |
| --- | ---: | ---: |
| Proceeds from long-term debt | $2 | $8 |
| Repayments of long-term debt | (13) | (6) |
| Net proceeds from short-term borrowings | 321 | 371 |
| Dividends paid | (127) | (117) |
| Anti-dilutive stock repurchases | (65) | (13) |
| Other financing activities, net (a) | 36 | 28 |
| Net cash flows provided by financing activities | $154 | $271 |

(a) Includes proceeds from issuance of common stock under various employee stock plans and our dividend reinvestment plan, advances and contributions for construction, net of refunds, debt issuance costs and tax benefits realized from equity compensation.

The decrease in proceeds from short-term borrowings in 2016 was primarily due to incremental short-term borrowings in 2015 in anticipation of the Keystone acquisition, which occurred in July 2015.

The following long-term debt was issued during the six months ended June 30, 2016:

| Company | Type | Rate | Maturity | Amount |
| --- | --- | ---: | --- | ---: |
| Other American Water subsidiaries | Private activity bonds and government funded debt—fixed rate | 1.36% | 2026 | $2 |

The following long-term debt was retired through sinking fund provisions, optional redemptions or payment at maturity during the six months ended June 30, 2016:

| Company | Type | Rate | Maturity | Amount (In millions) |
| --- | --- | --- | --- | ---: |
| AWCC (a) | Private activity bonds and government funded debt—fixed rate | 1.79%-2.90% | 2021-2031 | $1 |
| Other American Water subsidiaries | Private activity bonds and government funded debt—fixed rate | 0.00%-5.30% | 2016-2041 | 11 |
| Other American Water subsidiaries | Mandatorily redeemable preferred stock | 8.49% | 2036 | 1 |
| Total retirements and redemptions |  |  |  | $13 |

(a) AWCC, which is a wholly owned subsidiary of the Company, has a support agreement with the Company that, under certain circumstances, is the functional equivalent of a guarantee. This indebtedness is considered “debt” for purposes of this support agreement.

### Credit Facilities and Short-Term Debt

The following table summarizes information as of June 30, 2016 regarding the Company’s aggregate credit facility commitments, letter of credit sub-limits and available funds under those revolving credit facilities, as well as outstanding amounts of commercial paper and outstanding borrowings under the respective facilities:

*(In millions)*

|  | Credit Facilities Commitment (a) | Available Credit Facility Capacity (a) | Letter of Credit Sub-limit | Available Letter of Credit Capacity | Outstanding Commercial Paper | Credit Line Borrowing (a) |
| --- | ---: | ---: | ---: | ---: | ---: | ---: |
| June 30, 2016 | $1,766 | $1,677 | $150 | $61 | $950 | $— |

(a) Includes amounts related to Keystone’s revolving credit facility. The total commitment under the revolving credit facility was $16 million, all of which was available as of June 30, 2016.

The weighted-average interest rate on short-term borrowings for the three months ended June 30, 2016 and 2015 was approximately 0.76% and 0.54%, respectively. The weighted-average interest rate on short-term borrowings for the six months ended June 30, 2016 and 2015 was approximately 0.75% and 0.51%, respectively.

### Capital Structure

The following table provides certain information regarding our capital structure as of each of the dates set forth below:

|  | June 30, 2016 | December 31, 2015 |
| --- | ---: | ---: |
| Total common stockholders' equity | 42.9% | 43.5% |
| Long-term debt and redeemable preferred stock at redemption value | 48.8% | 50.6% |
| Short-term debt and current portion of long-term debt | 8.3% | 5.9% |
|  | 100% | 100% |

### Debt Covenants

Our debt agreements contain financial and non-financial covenants. To the extent that we are not in compliance with these covenants, such an event may create an event of default under the debt agreement and 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 previously informed our counterparties that we will provide only unaudited financial information at the subsidiary level, which has resulted in technical non-compliance with certain of their reporting requirements under debt agreements with respect to $8 million of outstanding debt. We do not believe this event has had or will have a material impact on us. Our long-term debt indentures also 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. Our failure to comply with any of these covenants could accelerate repayment obligations.

Certain long-term notes and the AWCC 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, 2016, our ratio was 0.57 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, may be directly affected by our securities ratings. We primarily access the debt 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.

The following table presents the Company’s securities ratings as of June 30, 2016:

| Securities | Moody's Investors Service | Standard & Poor's Ratings Service |
| --- | --- | --- |
| Senior unsecured debt | A3 | A |
| Commercial paper | P-2 | A-1 |

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 a downgrading of these security ratings, although such a downgrading could increase fees and interest charges under our credit facility.

### Dividends

On June 1, 2016, we paid a cash dividend of $0.375 per share to the Company’s stockholders of record as of May 9, 2016.

On July 29, 2016 our Board of Directors declared a quarterly cash dividend payment of $0.375 per share payable on September 1, 2016 to stockholders of record as of August 8, 2016. Future dividends, declared at the discretion of the Board of Directors, will be dependent upon future earnings, cash flows, financial and legal requirements and other factors.

### 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 Part II, Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Estimates in our Form 10-K for a discussion of our critical accounting policies.

### Recent Accounting Pronouncements

See Note 2—New Accounting Pronouncements to the Notes to Consolidated Financial Statements included in Part I, Item 1—Consolidated Financial Statements of this Quarterly Report on Form 10-Q for a description of new accounting standards recently adopted or pending adoption.

## Market risk

As filed, 899 characters.

We are subject to market risks in the normal course of business, including changes in interest rates and equity prices. 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. Except as described below, there have been no significant changes to our exposure to market risk since December 31, 2015.

On March 24, 2016, we entered into three forward starting swap agreements with an aggregate notional amount of $225 million to reduce interest rate exposure on debt expected to be issued in 2017. The forward starting swap agreements terminate in December 2017 and have an average fixed rate of 2.29%. A hypothetical one basis point change in the forward starting swap rates would have resulted in a $1 million increase or decrease on our pre-tax earnings for the six months ended June 30, 2016.

## Controls and procedures

As filed, 1,678 characters.

### Evaluation of Disclosure Controls and Procedures

American Water maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in its reports filed or submitted under 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) and 15d-15(e) of the Exchange Act) as of June 30, 2016.

Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of June 30, 2016, our disclosure controls and procedures were effective at a reasonable level of assurance.

### Changes in Internal Control over Financial Reporting

We concluded that there have been no changes in our internal control over financial reporting that occurred during the three months ended June 30, 2016, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) of the Exchange Act).

## Risk factors

As filed, 5,980 characters.

In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, Item 1A—Risk Factors in our Form 10-K, and in our other public filings, which could materially affect our business, financial condition or future results. Other than as set forth below, there have been no material changes from risk factors previously disclosed in Part I, Item 1A—Risk Factors in our Form 10-K.

On April 1, 2016, we experienced a non-cybersecurity-related firmware failure of an information technology storage device utilized for our core business functions. Our water and wastewater systems were not impacted by this event. We implemented our disaster recovery activities and were able to utilize all financial systems and established internal control procedures for the quarter and month ended March 31, 2016. The foregoing should be read in conjunction with the risk factor set forth in Part I, Item 1A—Risk Factors in our Form 10-K entitled “We rely on technology to facilitate the management of our business and customer and supplier relationships, and a disruption of these systems could adversely affect our business.”

The following risk factor contained in our Form 10-K is hereby amended and restated in its entirety, as follows:

***Contamination of our sources of water or water service provided to our customers could result in service limitations and interruptions and exposure to substances not typically found in potable water supplies, and could subject us and our subsidiaries to reduction in usage and other responsive obligations, government enforcement actions, damage to our reputation and private litigation.***

The water supplies that flow into our treatment plants or are delivered through our distribution system, or the water service that is provided to our customers, are subject to contamination, including, by among other items, contamination from naturally-occurring compounds, chemicals in groundwater systems, pollution resulting from man-made sources (such as perchlorate, methyl tertiary butyl ether, lead and other materials, chemical spills or other accidents that result in contaminants entering the water source), and possible terrorist attacks. If one of our water supplies or the water service provided to our customers is contaminated, depending on the nature of the contamination, we may have to take responsive actions that could include, among other things (1) continuing limited use of the water supply under a “Do Not Use” protective order that enables continuation of basic sanitation and essential fire protection, or (2) interrupting the use of that water supply. If service is disrupted, our financial condition, results of operations, cash flows, liquidity and reputation may be adversely affected. In addition, we may incur significant costs in order to treat the contaminated source through expansion of our current treatment facilities, or development of new treatment methods. We may be unable to recover costs associated with treating or decontaminating water supplies through rates, or recovery of these costs may not occur in a timely manner. Moreover, we could be subject to claims for damages arising from government enforcement actions or toxic tort or other lawsuits arising out of interruption of service or human exposure to hazardous substances in our drinking water and water supplies.

In this regard, on January 9, 2014, a chemical storage tank owned by Freedom Industries, Inc. leaked two substances into the Elk River near the WVAWC treatment plant intake in Charleston, West Virginia. WVAWC has and may continue to incur significant costs in responding to this incident and may not be able to recover such costs through rates or from insurers. Even if recovery is possible, it may not occur in a timely manner. Government investigations relating to the Freedom Industries spill have been initiated, state laws have been enacted, state and federal legislatures are considering changes to existing laws or rules associated with new laws, and there are 69 currently pending lawsuits against WVAWC and, in a few cases, against us or our affiliates. While American Water and WVAWC believe that WVAWC has responded appropriately to, and has no responsibility for, the Freedom Industries spill, and American Water and WVAWC believe they and other affiliates have valid, meritorious defenses to the lawsuits, WVAWC will incur defense costs that may not be recoverable. Moreover, an adverse outcome in one or more of the lawsuits could have a material adverse effect on our financial condition, results of operations, cash flows, liquidity and reputation. WVAWC and American Water are unable to predict the outcome of the ongoing government investigations or any legislative initiatives that might affect water utility operations. See Item 3—Legal Proceedings and our subsequent quarterly reports for additional information regarding this matter.

Since we engage in the business of providing water service to our customers, contamination of the water supply, or the water service provided to our customers, can result in substantial injury or damage to our customers, employees or others and we could be exposed to substantial claims and litigation. Such claims could relate to, among other things, personal injury, loss of life, business interruption, property damage, pollution, and environmental damage and may be brought by our customers or third parties. Litigation and regulatory proceedings are subject to inherent uncertainties and unfavorable rulings can and do occur. Negative impacts to our reputation may occur even if we are not liable for any contamination or other environmental damage or the consequences arising out of human exposure to contamination or hazardous substances in the water or water supplies. Pending or future claims against us could have a material adverse impact on our business, financial condition, results of operations and cash flows.

Filed Aug 3, 2016.
Source: SEC EDGAR, the filing index for accession 0001564590-16-022379. Last ingested by Listed: Nov 6, 2026, 17:16 ET. No prices; not investment advice.