How do unpaid bills affect utilities’ finances? Is customer debt similar to debt incurred investing in infrastructure, such as building new facilities? These are inquiries the EFC received a few weeks ago, related to recent news that Western Pennsylvania gas and electric utilities have hundreds of millions in outstanding, unpaid bills.
Unpaid Bills are Considered Assets
Contrary to what you might think, customer debt does not show up in a utility’s financial statements in the same way other things do that we describe as “debt.” In fact, unpaid bills are NOT treated similarly to debt at all, and instead are considered an asset, since the utility expects that some of this money owed will be paid to them eventually. Customer debt therefore appears on a utility’s balance sheet as accounts receivable, an asset and not a liability. (If you are interested in learning more about how to evaluate the liabilities that a utility carries, head over to our blog post about utility debt risk.)
Financial Statement Sleuthing 101
Given all that, let’s say you want to get to the bottom of what’s going on with a utility’s unpaid bills. Going back to Western Pennsylvania, it turns out that the main electric delivery company in Pittsburgh is Duquesne Light, so we could try to start by looking at Duquesne Light’s financial statements. Unfortunately, it turns out that Duquesne used to be a public company, but it is now owned by Macquarie Group, an Australian company. Unfortunately, while the Macquarie Group’s statements are public,the company is so big that it’s difficult to filter out anything specific to Duquesne.
So, it is not possible to look closely at Duquesne’s financial statements. Continuing on with our sleuth work, we could try looking at a different, stand-alone utility whose statements are public to just get a sense of how customer debt is treated. Duke Energy here in North Carolina is a good example. I started by looking on Duke’s investor relations page, where there are handy links to a variety of documents. It’s tempting to click on the company’s 2014 Annual Report (the most recent report), but resist that temptation! Annual reports are excellent for pictures of smiling people and small children, but we’re looking for the hard numbers. Therefore, skip the glossy pictures and go straight to Duke Energy’s 2014 Form 10-K. This is where to start any time we want to learn more about a company’s finances.
A few quick tips on how to wade through a 10-K, which in Duke Energy’s case runs to an actually-rather-short 275 pages:
If you know what you’re looking for:
- The very first step is to skip anything in the beginning pages and go straight to the table of contents. Is what you’re looking for clearly listed there? Go straight to it.
- If you’re looking for something specific not listed in the table of contents but there a unique word or two to describe it, use the Find function to search the document for those terms (only use this technique if your search terms yield fewer than 20 results or so).
If you don’t know what you’re looking for:
- Start with Item 1: “Business”. What does this company do? How do they make money?
- Move on to Item 1A: “Risk Factors”. This section contains a fascinating litany of all the various things that might impact the utility’s financial results, by affecting operations or in other ways.
- Take a look at the “Financial Statements” section. This is not to be confused with the less comprehensive, lightweight “Selected Financial Data” section! In Duke Energy’s 10-K, the Financial Statements Section has parts for the entire corporation as well as for each business unit. If you’re interested in a specific business unit, look at the statements for that one, otherwise, start by looking at the statements for the entire company (“Duke Energy Corporation”).
- Whichever set of Financial Statements you’re looking at, start with the Consolidated Balance Sheets and the Consolidated Statement of Cash Flows. Branch out to other statements if needed after that.
In this case, I knew I was looking for information about unpaid customer bills, but a search of the 10-K for “unpaid” didn’t bring anything up. A further search for “unbilled,” however, brought up several hits and led me to this section on page 123:
Revenue Recognition and Unbilled Revenue
Revenues on sales of electricity and gas are recognized when service is provided or the product is delivered. Unbilled revenues are recognized by applying customer billing rates to the estimated volumes of energy delivered but not yet billed. Unbilled revenues can vary significantly from period to period as a result of seasonality, weather, customer usage patterns, customer mix, average price in effect for customer classes and meter reading schedules. Unbilled revenues are included within Receivables and Restricted receivables of variable interest entities on the Consolidated Balance Sheets…. Additionally, Duke Energy Ohio and Duke Energy Indiana sell, on a revolving basis, nearly all of their retail accounts receivable, including receivables for unbilled revenues, to an affiliate, Cinergy Receivables Company, LLC (CRC) and account for the transfers of receivables as sales. Accordingly, the receivables sold are not reflected on the Consolidated Balance Sheets of Duke Energy Ohio and Duke Energy Indiana.
Again, this language tells us that unpaid bills are not treated similarly to debt and actually appear on the asset side of the balance sheet, under accounts receivable. This is because unpaid bills represent money that the company hasn’t gotten yet but expects to receive, and Duke has already “given away” the electricity those bills are for. In Duke Energy’s case, in Ohio and Indiana the company sells the asset of those receivables to a collections company (Cinergy Receivables Company), and Cinergy pays Duke Energy some amount for the right to collect on those accounts. Cinergy probably pays only a fraction of the actual amount of unpaid bills assuming they won’t be able to collect on all of them, and then Duke books that money as sales revenue.
So, while unpaid bills are certainly very different from a utility’s debt, how do those compare in magnitude? To put these numbers in perspective, Duke Energy Carolinas has $776 million in accounts receivable (not all of which is unpaid bills), compared to a total of $33.8 BILLION in total assets and $7.6 billion in long-term debt. So unpaid bills are really just a small drop in the bucket.
Understanding private sector financial statements is useful for much more than just answering questions like this one about unpaid bills. The public sector now frequently partners with the private sector to fill financing or expertise gaps (see the EFC’s current project on public private partnerships and alternative service delivery models for water utilities). Even if you’re not a wealthy stockholder or hedge fund, taking the time to evaluate a potential partner’s financial statements can be a worthwhile investment.