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Section 1: 10-Q (10-Q)

Document


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549 

FORM 10-Q
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2017
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                        
Commission file number 001-34028
 
 
AMERICAN WATER WORKS COMPANY, INC.
(Exact name of registrant as specified in its charter) 
 
 
Delaware
51-0063696
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
1025 Laurel Oak Road, Voorhees, NJ
08043
(Address of principal executive offices)
(Zip Code)
(856) 346-8200
(Registrant’s telephone number, including area code)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    ☒  Yes     ☐  No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    ☒  Yes    ☐  No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
 
(Do not check if a smaller reporting company)
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.    ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.).    ☐  Yes    ☒  No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 Class
 
Outstanding as of October 26, 2017
Common Stock, $0.01 par value per share
 
178,375,400 shares
(excludes 4,064,010 treasury shares as of October 26, 2017)




TABLE OF CONTENTS
AMERICAN WATER WORKS COMPANY, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2017
INDEX
 
 
 
 
 
 
 
 
 
 
 
 
 



i



FORWARD-LOOKING STATEMENTS
We have made statements in Part I, Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations and in other sections of this Quarterly Report on Form 10-Q (“Form 10-Q”), that are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and the Private Securities Litigation Reform Act of 1995. In some cases, these forward-looking statements can be identified by words with prospective meanings such as “intend,” “plan,” “estimate,” “believe,” “anticipate,” “expect,” “predict,” “project,” “propose,” “assume,” “forecast,” “outlook,” “future,” “pending,” “goal,” “objective,” “potential,” “continue,” “seek to,” “may,” “can,” “should,” “will” and “could” or the negative of such terms or other variations or similar expressions. Forward-looking statements may relate to, among other things, our future financial performance, including our adjusted operation and maintenance (“O&M”) efficiency ratio, cash flows, our growth and portfolio optimization strategies, our projected capital expenditures and related funding requirements, our ability to repay debt, our projected strategy to finance current operations and growth initiatives, the impact of legal proceedings and potential fines and penalties, business process and technology improvement initiatives, trends in our industry, regulatory, legislative, political, tax policy or legal developments or rate adjustments, including rate case filings, filings for infrastructure surcharges and filings to address regulatory lag.
Forward-looking statements are predictions based on our current expectations and assumptions regarding future events. They are not guarantees or assurances of any outcomes, financial results or levels of activity, performance or achievements, and you are cautioned not to place undue reliance upon them. These forward-looking statements are subject to a number of estimates and assumptions, and known and unknown risks, uncertainties and other factors. Our actual results may vary materially from those discussed in the forward-looking statements included herein as a result of the following important factors:
the decisions of governmental and regulatory bodies, including decisions to raise or lower rates;
the timeliness and outcome of regulatory commissions’ actions concerning rates, capital structure, authorized return on equity, capital investment, permitting and other decisions;
changes in customer demand for, and patterns of use of, water, such as may result from conservation efforts;
changes in laws, governmental regulations and policies, including environmental, health and safety, water quality, public utility and tax regulations and policies, and impacts resulting from U.S., state and local elections;
weather conditions and events, climate change patterns, and natural disasters, including drought or abnormally high rainfall, strong winds, coastal and intercoastal flooding, earthquakes, landslides, hurricanes, tornadoes, wildfires, electrical storms and solar flares;
the outcome of litigation and similar government actions, including matters related to the Freedom Industries chemical spill in West Virginia and the preliminarily approved global class action settlement agreement related to this chemical spill;
our ability to appropriately maintain current infrastructure, including our operational and information technology (“IT”) systems, and manage the expansion of our business;
exposure or infiltration of our critical infrastructure, operational technology and IT systems, including the disclosure of sensitive or confidential information contained therein, through physical or cyber attacks or other disruptions;
our ability to obtain permits and other approvals for projects;
changes in our capital requirements;
our ability to control operating expenses and to achieve efficiencies in our operations;
the intentional or unintentional actions of a third party, including contamination of our water supplies or water provided to our customers;
our ability to obtain adequate and cost-effective supplies of chemicals, electricity, fuel, water and other raw materials that are needed for our operations;
our ability to successfully meet growth projections for our business and capitalize on growth opportunities, including our ability to, among other things, acquire and integrate water and wastewater systems into our regulated operations, and enter into contracts and other agreements with, or otherwise obtain, new customers in our market-based businesses;
risks and uncertainties associated with contracting with the U.S. government, including ongoing compliance with applicable government procurement and security regulations;
cost overruns relating to improvements in or the expansion of our operations;
our ability to maintain safe work sites;

1



our exposure to liabilities related to environmental laws and similar matters resulting from, among other things, water and wastewater service provided to customers, including, for example, our water management solutions that are focused on customers in the natural gas exploration and production market;
changes in general economic, political, business and financial market conditions;
access to sufficient capital on satisfactory terms and when and as needed to support operations and capital expenditures;
fluctuations in interest rates;
restrictive covenants in or changes to the credit ratings on our current or future debt that could increase our financing costs or funding requirements or affect our ability to borrow, make payments on debt or pay dividends;
fluctuations in the value of benefit plan assets and liabilities that could increase our cost and funding requirements;
changes in federal or state general, income and other tax laws, including tax reform, the availability of tax credits and tax abatement programs, and our ability to utilize our U.S. and state net operating loss carryforwards;
migration of customers into or out of our service territories;
the use by municipalities of the power of eminent domain or other authority to condemn our systems;
difficulty in obtaining, or the inability to obtain, insurance at acceptable rates and on acceptable terms and conditions, or an inability to obtain reimbursement under existing insurance programs for any losses sustained;
the incurrence of impairment charges related to our goodwill or other assets;
labor actions, including work stoppages and strikes;
the ability to retain and attract qualified employees;
civil disturbances or terrorist threats or acts, or public apprehension about future disturbances or terrorist threats or acts; and
the impact of new, and changes to existing, accounting standards.
These forward-looking statements are qualified by, and should be read together with, the risk factors and other statements contained in our Annual Report on Form 10-K for the year ended December 31, 2016 (“Form 10-K”), and in this Form 10-Q, and you should refer to such risks, uncertainties and risk factors in evaluating such forward-looking statements. Any forward-looking statements we make speak only as of the date this Form 10-Q was filed with the U.S. Securities and Exchange Commission (“SEC”). Except as required by the federal securities laws, we do not have any obligation, and we specifically disclaim any undertaking or intention, to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changed circumstances or otherwise. New factors emerge from time to time, and it is not possible for us to predict all such factors. Furthermore, it may not be possible to assess the impact of any such factor on our businesses, either viewed independently or together, or the extent to which any factor, or combination of factors, may cause results to differ materially from those contained in any forward-looking statement. The foregoing factors should not be construed as exhaustive.

2



PART I. FINANCIAL INFORMATION
ITEM 1.    CONSOLIDATED FINANCIAL STATEMENTS
American Water Works Company, Inc. and Subsidiary Companies
Consolidated Balance Sheets (Unaudited)
(In millions, except share and per share data) 
 
September 30, 2017
 
December 31, 2016
ASSETS
Property, plant and equipment
$
20,946

 
$
19,954

Accumulated depreciation
(5,265
)
 
(4,962
)
Property, plant and equipment, net
15,681

 
14,992

Current assets:
 

 
 

Cash and cash equivalents
93

 
75

Restricted funds
28

 
20

Accounts receivable, net
312

 
269

Unbilled revenues
234

 
263

Materials and supplies
42

 
39

Other
151

 
118

Total current assets
860

 
784

Regulatory and other long-term assets:
 

 
 

Regulatory assets
1,374

 
1,289

Goodwill
1,373

 
1,345

Other
73

 
72

Total regulatory and other long-term assets
2,820

 
2,706

TOTAL ASSETS
$
19,361

 
$
18,482

The accompanying notes are an integral part of these consolidated financial statements.

3



American Water Works Company, Inc. and Subsidiary Companies
Consolidated Balance Sheets (Unaudited)
(In millions, except share and per share data) 
 
September 30, 2017
 
December 31, 2016
CAPITALIZATION AND LIABILITIES
Capitalization:
 
 
 
Common stock ($0.01 par value, 500,000,000 shares authorized, 182,437,980 and 181,798,555 shares issued, respectively)
$
2

 
$
2

Paid-in-capital
6,423

 
6,388

Accumulated deficit
(573
)
 
(873
)
Accumulated other comprehensive loss
(87
)
 
(86
)
Treasury stock, at cost (4,064,010 and 3,701,867 shares, respectively)
(247
)
 
(213
)
Total common stockholders' equity
5,518

 
5,218

Long-term debt
6,672

 
5,749

Redeemable preferred stock at redemption value
9

 
10

Total long-term debt
6,681

 
5,759

Total capitalization
12,199

 
10,977

Current liabilities:
 

 
 

Short-term debt
103

 
849

Current portion of long-term debt
687

 
574

Accounts payable
144

 
154

Accrued liabilities
498

 
609

Taxes accrued
61

 
31

Interest accrued
103

 
63

Other
151

 
112

Total current liabilities
1,747

 
2,392

Regulatory and other long-term liabilities:
 

 
 

Advances for construction
279

 
300

Deferred income taxes, net
2,862

 
2,596

Deferred investment tax credits
23

 
23

Regulatory liabilities
408

 
403

Accrued pension expense
421

 
419

Accrued postretirement benefit expense
84

 
87

Other
74

 
67

Total regulatory and other long-term liabilities
4,151

 
3,895

Contributions in aid of construction
1,264

 
1,218

Commitments and contingencies (see Note 9)


 


TOTAL CAPITALIZATION AND LIABILITIES
$
19,361

 
$
18,482

The accompanying notes are an integral part of these consolidated financial statements.


4



American Water Works Company, Inc. and Subsidiary Companies
Consolidated Statements of Operations (Unaudited)
(In millions, except per share data)
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2017
 
2016
 
2017
 
2016
Operating revenues
$
936

 
$
930

 
$
2,536

 
$
2,500

Operating expenses:
 
 
 
 
 
 
 
Operation and maintenance
324

 
432

 
1,010

 
1,131

Depreciation and amortization
128

 
119

 
378

 
350

General taxes
61

 
65

 
192

 
195

Gain on asset dispositions and purchases
(7
)
 
(5
)
 
(9
)
 
(8
)
Total operating expenses, net
506

 
611

 
1,571

 
1,668

Operating income
430

 
319

 
965

 
832

Other income (expense):
 
 
 
 
 
 
 
Interest, net
(89
)
 
(81
)
 
(259
)
 
(242
)
Loss on early extinguishment of debt
(6
)
 

 
(6
)
 

Other, net
5

 
5

 
11

 
14

Total other income (expense)
(90
)
 
(76
)
 
(254
)
 
(228
)
Income before income taxes
340

 
243

 
711

 
604

Provision for income taxes
137

 
95

 
284

 
237

Net income attributable to common stockholders
$
203

 
$
148

 
$
427

 
$
367

 
 
 
 
 
 
 
 
Basic earnings per share: (a)
 
 
 
 
 
 
 
Net income attributable to common stockholders
$
1.14

 
$
0.83

 
$
2.39

 
$
2.06

Diluted earnings per share:
 
 
 
 
 
 
 
Net income attributable to common stockholders
$
1.13

 
$
0.83

 
$
2.39

 
$
2.05

Weighted-average common shares outstanding:
 
 
 
 
 
 
 
Basic
178

 
178

 
178

 
178

Diluted
179

 
178

 
179

 
179

Dividends declared per common share
$
0.415

 
$
0.375

 
$
0.83

 
$
0.75

(a)
Amounts may not calculate due to rounding.
The accompanying notes are an integral part of these consolidated financial statements.


5



American Water Works Company, Inc. and Subsidiary Companies
Consolidated Statements of Comprehensive Income (Loss) (Unaudited)
(In millions)
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2017
 
2016
 
2017
 
2016
Net income attributable to common stockholders
$
203

 
$
148

 
$
427

 
$
367

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Pension amortized to periodic benefit cost:
 
 
 
 
 
 
 
Actuarial loss, net of tax of $1 for the three months and $3 for the nine months ended September 30, 2017 and 2016, respectively
1

 
1

 
5

 
4

Foreign currency translation adjustment

 

 
(1
)
 

Unrealized loss on cash flow hedges, net of tax of $(3) and $(3) for the three months and $(4) and $(10) for the nine months ended September 30, 2017 and 2016, respectively
(3
)
 
(4
)
 
(5
)
 
(15
)
Net other comprehensive income (loss)
(2
)
 
(3
)
 
(1
)
 
(11
)
Comprehensive income (loss) attributable to common stockholders
$
201

 
$
145

 
$
426

 
$
356

The accompanying notes are an integral part of these consolidated financial statements.



6



American Water Works Company, Inc. and Subsidiary Companies
Consolidated Statements of Cash Flows (Unaudited)
(In millions)
 
For the Nine Months Ended September 30,
 
2017
 
2016
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
Net income
$
427

 
$
367

Adjustments to reconcile to net cash flows provided by operating activities:
 
 
 
Depreciation and amortization
378

 
350

Deferred income taxes and amortization of investment tax credits
264

 
243

Provision for losses on accounts receivable
21

 
18

Gain on asset dispositions and purchases
(9
)
 
(8
)
Pension and non-pension postretirement benefits
44

 
43

Other non-cash, net
(39
)
 
(48
)
Changes in assets and liabilities:
 
 
 
Receivables and unbilled revenues
(34
)
 
(83
)
Pension and non-pension postretirement benefit contributions
(36
)
 
(42
)
Accounts payable and accrued liabilities
(22
)
 
184

Other assets and liabilities, net
(8
)
 
(79
)
Net cash provided by operating activities
986

 
945

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Capital expenditures
(964
)
 
(928
)
Acquisitions
(10
)
 
(29
)
Proceeds from sale of assets and securities
9

 
5

Removal costs from property, plant and equipment retirements, net
(51
)
 
(62
)
Net funds restricted
(5
)
 

Net cash used in investing activities
(1,021
)
 
(1,014
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Proceeds from long-term debt
1,382

 
2

Repayments of long-term debt
(334
)
 
(20
)
Net short-term borrowings with maturities less than three months
(746
)
 
322

Proceeds from issuances of employee stock plans and DRIP
21

 
22

       Advances and contributions for construction, net of refunds of $16 and $17, respectively
23

 
16

Debt issuance costs
(13
)
 
(1
)
Dividends paid
(215
)
 
(194
)
Anti-dilutive stock repurchase
(54
)
 
(65
)
Taxes paid related to employee stock plans
(11
)
 
(12
)
Net cash provided by financing activities
53

 
70

Net increase in cash and cash equivalents
18

 
1

Cash and cash equivalents as of beginning of period
75

 
45

Cash and cash equivalents as of end of period
$
93

 
$
46

Non-cash investing activity:
 
 
 
Capital expenditures acquired on account but unpaid as of end of period
$
175

 
$
182

Acquisition financed by treasury stock
$
33

 
$

 
The accompanying notes are an integral part of these consolidated financial statements.


7



American Water Works Company, Inc. and Subsidiary Companies
Consolidated Statements of Changes in Stockholders’ Equity (Unaudited)
(In millions)
 
Common Stock
 
Paid-in-Capital
 
Accumulated Deficit
 
Accumulated Other Comprehensive Loss
 
Treasury Stock
 
Total Stockholders' Equity
 
Shares
 
Par Value
 
 
 
 
Shares
 
At Cost
 
Balance as of December 31, 2016
181.8

 
$
2

 
$
6,388

 
$
(873
)
 
$
(86
)
 
(3.7
)
 
$
(213
)
 
$
5,218

Cumulative effect of change in accounting principle

 

 

 
21

 

 

 

 
21

Net income attributable to common stockholders

 

 

 
427

 

 

 

 
427

Direct stock reinvestment and purchase plan
0.1

 

 
6

 

 

 

 

 
6

Employee stock purchase plan

 

 
5

 

 

 

 

 
5

Stock-based compensation activity
0.5

 

 
18

 

 

 
(0.1
)
 
(7
)
 
11

Acquisitions via treasury stock

 

 
6

 

 

 
0.4

 
27

 
33

Repurchases of common stock

 

 

 

 

 
(0.7
)
 
(54
)
 
(54
)
Net other comprehensive loss

 

 

 

 
(1
)
 

 

 
(1
)
Dividends

 

 

 
(148
)
 

 

 

 
(148
)
Balance as of September 30, 2017
182.4

 
$
2

 
$
6,423

 
$
(573
)
 
$
(87
)
 
(4.1
)
 
$
(247
)
 
$
5,518

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Common Stock
 
 
 
 
 
Accumulated Other Comprehensive Loss
 
Treasury Stock
 
Total Stockholders' Equity
 
Shares
 
Par Value
 
Paid-in-Capital
 
Accumulated Deficit
 
 
Shares
 
At Cost
 
Balance as of December 31, 2015
180.9

 
$
2

 
$
6,351

 
$
(1,073
)
 
$
(88
)
 
(2.6
)
 
$
(143
)
 
$
5,049

Net income attributable to common stockholders

 

 

 
367

 

 

 

 
367

Direct stock reinvestment and purchase plan

 

 
4

 

 

 

 

 
4

Employee stock purchase plan

 

 
5

 

 

 

 

 
5

Stock-based compensation activity
0.8

 

 
28

 

 

 
(0.1
)
 
(6
)
 
22

Repurchases of common stock

 

 

 

 

 
(1.0
)
 
(65
)
 
(65
)
Net other comprehensive loss

 

 

 

 
(11
)
 

 

 
(11
)
Dividends

 

 

 
(133
)
 

 

 

 
(133
)
Balance as of September 30, 2016
181.7

 
$
2

 
$
6,388

 
$
(839
)
 
$
(99
)
 
(3.7
)
 
$
(214
)
 
$
5,238

The accompanying notes are an integral part of these consolidated financial statements.

 


8



American Water Works Company, Inc. and Subsidiary Companies
Notes to Consolidated Financial Statements (Unaudited)
(Unless otherwise noted, in millions, except per share data)
Note 1: Basis of Presentation
The unaudited consolidated financial statements provided in this report include the accounts of American Water Works Company, Inc. and all of its subsidiaries (collectively, “American Water” or the “Company”) in which a controlling interest is maintained after the elimination of intercompany accounts and transactions. The financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial reporting and with the rules and regulations for reporting on Form 10-Q. Accordingly, they do not contain certain information and disclosures required by GAAP for comprehensive financial statements. In the opinion of management, all adjustments necessary for a fair statement of the financial position as of September 30, 2017 and results of operations and cash flows for all periods presented have been made. All adjustments are of a normal, recurring nature, except as otherwise disclosed.
The Consolidated Balance Sheet as of December 31, 2016 is derived from the Company’s audited consolidated financial statements as of December 31, 2016. The unaudited consolidated financial statements and notes included in this report should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2016 (“Form 10-K”) which provides a more complete discussion of the Company’s accounting policies, financial position, operating results and other matters. The results of operations for interim periods are not necessarily indicative of the results that may be expected for the year, due primarily to the seasonality of the Company’s operations.
Note 2: New Accounting Standards
The Company adopted the following accounting standard on January 1, 2017:
Standard
 
Description
 
Date of
Adoption
 
Application
 
Effect on the Consolidated Financial Statements
(or Other Significant Matters)
Simplification of Employee Share-Based Payment Accounting
 
Simplified accounting and disclosure requirements for share-based payment awards. The updated guidance addresses simplification in areas such as: (i) the recognition of excess tax benefits and deficiencies; (ii) the classification of excess tax benefits and taxes paid on the Consolidated Statements of Cash Flows; (iii) election of an accounting policy for forfeitures; and (iv) the amount an employer can withhold to cover income taxes and still qualify for equity classification.

 
January 1, 2017
 
Modified retrospective for the recognition of excess tax benefits and deficiencies; full retrospective for the classification of excess tax benefits and taxes paid on the Consolidated Statements of Cash Flows

 
The cumulative effect of adoption increased retained earnings by $21, with an offsetting decrease to deferred income taxes, net. Adoption also increased cash flows from operating activities and decreased cash flows from financing activities by $17 and $20 for the nine months ended September 30, 2017 and 2016, respectively, on the Consolidated Statements of Cash Flows.


9



The following recently issued accounting standards are not yet required to be adopted by the Company as of September 30, 2017:
Standard
 
Description
 
Date of
Adoption
 
Permitted Application
 
Estimated Effect on the Consolidated Financial Statements
(or Other Significant Matters)
Revenue from Contracts with Customers
 
Changes the criteria for recognizing revenue from a contract with a customer. Replaces existing guidance on revenue recognition, including most industry specific guidance. The objective is to provide a single, comprehensive revenue recognition model for all contracts with customers to improve comparability within industries, across industries and across capital markets. The underlying principle is that an entity will recognize revenue to depict the transfer of goods and services to customers at an amount the entity expects to be entitled to in exchange for those goods or services. The guidance also requires a number of disclosures regarding the nature, amount, timing and uncertainty of revenue and the related cash flows.

 
January 1, 2018; early adoption permitted
 
Full or modified retrospective
 
The Company has substantially completed its evaluation and does not expect a material change. The Company continues to monitor for new interpretative guidance, which could impact the current evaluation. The Company plans to adopt using the modified retrospective method.

Classification of Certain Cash Receipts and Cash Payments on the Statement of Cash Flows
 
Provides guidance on the presentation and classification in the statement of cash flows for the following cash receipts and payments: (i) debt prepayment or debt extinguishment costs; (ii) settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing; (iii) contingent consideration payments made after a business combination; (iv) proceeds from the settlement of insurance claims; (v) proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies; (vi) distributions received from equity method investees; (vii) beneficial interests in securitization transactions and (viii) separately identifiable cash flows and application of the predominance principle.
 
January 1, 2018; early adoption permitted
 
Retrospective
 
The Company will reclassify a $34 make-whole premium payment from operating activities to financing activities on its Consolidated Statements of Cash Flows upon adoption. See Note 6: Long-Term Debt in the Notes to Consolidated Financial Statements for further information regarding this make-whole premium payment.

Presentation of Changes in Restricted Cash on the Statement of Cash Flows
 
Updates the accounting and disclosure guidance for the classification and presentation of changes in restricted cash on the statements of cash flows. The amended guidance requires that the statements of cash flows explain the change during the period in the total of cash, cash equivalents and amounts described as restricted cash or restricted cash equivalents. Restricted cash and restricted cash equivalents will now be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statements of cash flows.
 
January 1, 2018; early adoption permitted
 
Retrospective
 
The Company does not anticipate significant impacts on its Consolidated Statements of Cash Flows.
Clarifying the Definition of a Business
 
Updates the accounting guidance to clarify the definition of a business with the objective of assisting entities with evaluating whether transactions should be accounted for as acquisitions, or disposals, of assets or businesses.
 
January 1, 2018; early adoption permitted
 
Prospective
 
The update could result in more acquisitions being accounted for as asset acquisitions. The effect on the Company’s consolidated financial statements will be dependent on the acquisitions that close subsequent to adoption.
Gains and Losses from the Derecognition of Nonfinancial Assets
 
Updated the guidance to clarify the accounting for gains and losses resulting from the derecognition of nonfinancial assets and partial sale of nonfinancial assets. The guidance also clarifies the definition of an in-substance nonfinancial asset.
 
January 1, 2018; early adoption permitted
 
Full or modified retrospective
 
The Company does not expect the adoption to have a material impact on its consolidated financial statements. The Company plans to adopt using the modified retrospective method.


Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost
 
Updated authoritative guidance requires the service cost component of net periodic benefit cost to be presented in the same income statement line item(s) as other employee compensation costs arising from services rendered during the period. The remaining components of net periodic benefit cost are required to be presented separately from the service cost component in an income statement line item outside of operating income. Also, the guidance only allows for the service cost component to be eligible for capitalization. The updated guidance does not impact the accounting for net periodic benefit costs as regulatory assets or liabilities.
 
January 1, 2018; early adoption permitted
 
Retrospective for the presentation of net periodic benefit cost components in the income statement; prospective for the capitalization of net periodic benefit costs components in total assets
 
The Company will reclassify net periodic benefit cost components, other than the service cost component, to other, net in the Consolidated Statements of Operations. The Company will continue to capitalize and will record net periodic benefit costs probable of recovery from customers as a regulatory asset or liability, other than the service cost components.
Accounting for Leases

 
Updated the accounting and disclosure guidance for leasing arrangements. Under this guidance, a lessee will be required to recognize the following for all leases, excluding short-term leases, at the commencement date: (i) a lease liability, which is a lessee’s obligation to make lease payments arising from a lease, measured on a discounted basis; and (ii) a right-of-use asset, which is an asset that represents the lessee’s right to use, or control the use of, a specified asset for the lease term. Under the guidance, lessor accounting is largely unchanged.

 
January 1, 2019; early adoption permitted


 
Modified retrospective

 
The Company is evaluating the effect on its consolidated financial statements.



10



Standard
 
Description
 
Date of
Adoption
 
Permitted Application
 
Estimated Effect on the Consolidated Financial Statements
(or Other Significant Matters)
Accounting for Hedging Activities

 
Updated the accounting and disclosure guidance for hedging activities, which allows for more financial and nonfinancial hedging strategies to be eligible for hedge accounting. Under this guidance, a qualitative effectiveness assessment is permitted for certain hedges if an entity can reasonably support an expectation of high effectiveness throughout the term of the hedge, provided that an initial quantitative test establishes that the hedge relationship is highly effective. Also, for cash flow hedges determined to be highly effective, all changes in the fair value of the hedging instrument will be recorded in other comprehensive income with a subsequent reclassification to earnings when the hedged item impacts earnings.

 
January 1, 2019; early adoption permitted

 
Modified retrospective for adjustments related to the measurement of ineffectiveness for cash flow hedges; prospective for the updated presentation and disclosure requirements

 
The Company does not expect the adoption to have a material impact on its consolidated financial statements based on the hedges held as of the balance sheet date. The Company is evaluating the timing of adoption.

Simplification of Goodwill Impairment Testing
 
Updated authoritative guidance which simplifies the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. Under the amendments in the update, an entity should perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An impairment charge should be recognized for the amount by which the carrying value exceeds the reporting unit’s fair value, however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary.
 
January 1, 2020; early adoption permitted
 
Prospective
 
The Company is evaluating the impact on its consolidated financial statements, as well as the timing of adoption.

Measurement of Credit Losses
 
Updated the accounting guidance on reporting credit losses for financial assets held at amortized cost basis and available-for-sale debt securities. Under this guidance, expected credit losses are required to be measured based on historical experience, current conditions and reasonable and supportable forecasts that affect the collectability of the reported amount of financial assets. Also, this guidance requires that credit losses on available-for-sale debt securities be presented as an allowance rather than as a direct write-down.
 
January 1, 2020; early adoption permitted
 
Modified retrospective
 
The Company is evaluating the impact on its consolidated financial statements, as well as the timing of adoption.
Note 3: Acquisitions
During the nine months ended September 30, 2017, the Company closed on 14 acquisitions of various regulated water and wastewater systems for a total aggregate purchase price of $43. Included in this total was the Company’s acquisition of all the outstanding capital stock of the Shorelands Water Company, Inc. on April 3, 2017, for total consideration of $33, in the form of approximately 0.4 shares of the Company’s common stock. Assets acquired in the aforementioned acquisitions, principally utility plant, totaled $40. Liabilities assumed totaled $23, including $10 of contributions in aid of construction and assumed debt of $7. The Company recorded additional goodwill of $28 associated with three of the acquisitions, which is reported in the Company’s Regulated Businesses segment, and recognized a bargain purchase gain of $2 associated with one of the acquisitions. The preliminary purchase price allocations related to these acquisitions will be finalized once the valuation of assets acquired has been completed, no later than one year after their acquisition date.
During the first quarter of 2017, the Company made a non-escrowed deposit of $2 related to the asset purchase agreement to acquire substantially all of the wastewater collection and treatment system assets of the Municipal Authority of the City of McKeesport, Pennsylvania for approximately $159. On October 26, 2017, a joint petition for settlement of this acquisition was approved by the Pennsylvania Public Utility Commission. The closing of this acquisition is subject to the satisfaction of various conditions and covenants. The Company expects to close this acquisition by the end of 2017.

11



Note 4: Stockholders’ Equity
Accumulated Other Comprehensive Loss
The following table presents changes in accumulated other comprehensive loss by component, net of tax, for the nine months ended September 30, 2017 and 2016, respectively:
 
Defined Benefit Plans
 
Foreign Currency Translation
 
Gain (Loss) on Cash Flow Hedges
 
Accumulated Other Comprehensive Loss
 
Employee
Benefit Plan
Funded Status
 
Amortization
of Prior
Service Cost
 
Amortization
of Actuarial
Loss
 
 
 
Beginning balance as of December 31, 2016
$
(147
)
 
$
1

 
$
42

 
$
2

 
$
16

 
$
(86
)
Other comprehensive loss before reclassifications

 

 

 
(1
)
 
(5
)
 
(6
)
Amounts reclassified from accumulated other comprehensive loss

 

 
5

 

 

 
5

Net other comprehensive income (loss)

 

 
5

 
(1
)
 
(5
)
 
(1
)
Ending balance as of September 30, 2017
$
(147
)
 
$
1

 
$
47

 
$
1

 
$
11

 
$
(87
)
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance as of December 31, 2015
$
(126
)
 
$
1

 
$
36

 
$
2

 
$
(1
)
 
$
(88
)
Other comprehensive loss before reclassifications

 

 

 

 
(15
)
 
(15
)
Amounts reclassified from accumulated other comprehensive loss

 

 
4

 

 

 
4

Net other comprehensive income (loss)

 

 
4

 

 
(15
)
 
(11
)
Ending balance as of September 30, 2016
$
(126
)
 
$
1

 
$
40

 
$
2

 
$
(16
)
 
$
(99
)
The Company does not reclassify the amortization of defined benefit pension cost components from accumulated other comprehensive loss directly to net income in its entirety, as a portion of these costs have been capitalized as a regulatory asset. These accumulated other comprehensive income loss components are included in the computation of net periodic pension cost. See Note 8— Pension and Other Postretirement Benefits.
The amortization of the loss on cash flow hedges is reclassified to net income during the period incurred and is included in interest, net in the accompanying Consolidated Statements of Operations.
Anti-dilutive Stock Repurchase Program
During the nine months ended September 30, 2017, the Company repurchased 0.7 shares of common stock in the open market at an aggregate cost of $54 under the anti-dilutive stock repurchase program authorized by the Company’s Board of Directors in 2015. As of September 30, 2017, there were 6.1 shares of common stock available for repurchase under the program.
Note 5: Stock Based Compensation
On May 12, 2017, the Company’s stockholders approved the American Water Works Company, Inc. 2017 Omnibus Equity Compensation Plan (the “2017 Omnibus Plan”). A total of 7.2 shares of common stock may be issued under the 2017 Omnibus Plan. The 2017 Omnibus Plan provides that grants of awards may be in any of the following forms: incentive stock options, nonqualified stock options, stock appreciation rights, stock units, stock awards, other stock-based awards and dividend equivalents, which may be granted only on stock units or other stock-based awards.

12



Note 6: Long-Term Debt
The following long-term debt was issued during the nine months ended September 30, 2017:
Company
 
Type
 
Rate
 
Maturity
 
Amount
American Water Capital Corp. (a)
 
Senior Notes
 
2.95%-3.75%
 
2027-2047
 
$
1,350

Other American Water subsidiaries
 
Private activity bonds and government
funded debt—fixed rate
 
0.00%-3.92%
 
2020-2036
 
21

Other American Water subsidiaries
 
Term Loan
 
4.48%-4.98%
 
2021
 
11

Total issuances
 
 
 
 
 
 
 
$
1,382

(a)
American Water Capital Corp. (“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 parent company guarantee. This indebtedness is considered “debt” for purposes of this support agreement.
The following long-term debt was retired through sinking fund provisions, optional redemptions or payment at maturity during the nine months ended September 30, 2017:
Company
 
Type
 
Rate
 
Maturity
 
Amount
American Water Capital Corp.
 
Senior Notes
 
5.62%-5.77%
 
2018-2021
 
$
319

American Water Capital Corp.
 
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%-5.38%
 
2017-2041
 
12

Other American Water subsidiaries
 
Term Loan
 
4.48%-4.98%
 
2021
 
1

Other American Water subsidiaries
 
Mandatorily redeemable preferred stock
 
8.49%
 
2036
 
1

Total retirements and redemptions
 
 
 
 
 
 
 
$
334

On August 10, 2017, AWCC completed a $1,350 debt offering which included the sale of $600 aggregate principal amount of its 2.95% Senior Notes due in 2027 and $750 aggregate principal amount of its 3.75% Senior Notes due in 2047. At the closing of the offering, AWCC received, after deduction of underwriting discounts and debt issuance costs, $1,333. On September 13, 2017, AWCC used proceeds from the offering to: (i) prepay $138 of its outstanding 5.62% Series C Senior Notes due December 21, 2018 (“Series C Senior Notes”) and $181 of its outstanding 5.77% Series D Senior Notes due December 21, 2021 (“Series D Senior Notes”); (ii) repay commercial paper obligations; and (iii) for general corporate purposes. Subsequently, AWCC used proceeds from the offering to repay at maturity, $524 of its 6.085% Senior Notes on October 15, 2017. In addition, the Company repaid $33 of 7.08% subsidiary debt at maturity on November 1, 2017.
As a result of AWCC’s prepayment of the Series C and Series D Senior Notes and payment of a make-whole premium to the holders thereof of $34, the Company recorded an early debt extinguishment charge of $6, which was associated with the portion of the debt allocable to the Company’s parent. Substantially all of the early debt extinguishment costs allocable to the Company’s utility subsidiaries were recorded as regulatory assets that the Company believes are probable of recovery in future rates.
On August 7, 2017, the Company terminated four forward starting swap agreements with an aggregate notional amount of $300, realizing a gain of $19 to be amortized through interest, net over 30 years. The Company has one remaining forward starting swap agreement, which was entered into on February 8, 2017, with a notional amount of $100 to reduce interest rate exposure for a portion of the expected refinancing of AWCC’s Series C Senior Notes. This forward starting swap agreement terminates in November 2018 and has an average fixed rate of 2.67%. The Company has designated this forward starting swap agreement as a cash flow hedge with its fair value recorded in accumulated other comprehensive gain or loss. Upon termination, the cumulative gain or loss recorded in accumulated other comprehensive gain or loss will be amortized through interest, net over the term of the new debt.
The Company has an interest rate swap to hedge $100 of its 6.085% Senior Notes maturing in the fourth quarter of 2017. The Company pays variable interest of six-month LIBOR plus 3.422% and has designated this interest rate swap as a fair value hedge accounted for at fair value with gains or losses, as well as the offsetting gains or losses on the hedged item, recognized in interest, net. The net gain and loss recognized by the Company for the three and nine months ended September 30, 2017 and 2016 was de minimis. This interest rate swap matured on October 15, 2017.

13



The Company has employed interest rate swaps to fix the interest cost on a portion of its variable-rate debt with an aggregate notional amount of $6. The Company has designated these interest rate swaps as economic hedges accounted for at fair value with gains or losses deferred as a regulatory asset or regulatory liability. The net gain recognized by the Company for the three and nine months ended September 30, 2017 and 2016 was de minimis.
No ineffectiveness was recognized on hedging instruments for the three and nine months ended September 30, 2017 and 2016.
The following table provides a summary of the gross fair value for the Company’s derivative asset and liabilities, as well as the location of the asset and liability balances in the Consolidated Balance Sheets:
Derivative Instruments
 
Derivative Designation
 
Balance Sheet Classification
 
September 30, 2017
 
December 31, 2016
Asset Derivative
 
 
 
 
 
 

 
 

Forward starting swaps
 
Cash flow hedge
 
Other current assets
 
$

 
$
27

Interest rate swap
 
Fair value hedge
 
Other current assets
 

 
1

 
 
 
 
 
 
 
 
 
Liability Derivative
 
 
 
 
 
 

 
 

Interest rate swap
 
Fair value hedge
 
Current portion of long-term debt
 
$

 
$
1

Forward starting swaps
 
Cash flow hedge
 
Other long-term liabilities
 
2

 

Note 7: Income Taxes
The Company’s effective income tax rate was 40.3% and 39.1% for the three months ended September 30, 2017 and 2016, respectively, and 39.9% and 39.2% for the nine months ended September 30, 2017 and 2016, respectively. 
On April 11, 2017, the State of New York enacted legislation that increased the state income tax rate on the Company’s taxable income attributable to New York. This legislation eliminated the production of water as a qualified manufacturing activity in New York, which effectively increased the state income tax rate in New York. As a result of the legislative change, the Company was required to re-measure its cumulative deferred tax balances using the higher state income tax rate in the second quarter of 2017. This change in legislation was the primary cause of an increase to the Company’s unitary deferred tax liability of $11. The portion of this increase related to the Company’s New York subsidiary calculated on a stand-alone basis was $7, and was offset by a regulatory asset, as the Company believes it is probable of recovery in future rates. The remaining increase in the deferred tax liability was calculated through state tax apportionment rates and recorded at the consolidated level, resulting in a non-cash, cumulative charge to earnings of $4 during the second quarter of 2017.
On July 7, 2017, the State of Illinois enacted legislation that increased, effective July 1, 2017, the state income tax rate on the Company’s taxable income attributable to Illinois from 7.75% to 9.5%. As a result of the legislative change, the Company was required to re-measure its cumulative deferred tax balances using the higher state income tax rate in the third quarter of 2017. This change in legislation was the primary cause of the increase to the Company’s unitary deferred tax liability of $7. The portion of this increase related to the Company’s Illinois subsidiary calculated on a stand-alone basis was $4, and was offset by a regulatory asset, as the Company believes it is probable of recovery in future rates. The remaining increase in the deferred tax liability was recorded at the consolidated level, resulting in a non-cash, cumulative charge of $3 during the third quarter of 2017.

14



Note 8: Pension and Other Postretirement Benefits
The following table provides the components of net periodic benefit costs:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2017
 
2016
 
2017
 
2016
Components of net periodic pension benefit cost
 
 
 
 
 
 
 
Service cost
$
8

 
$
8

 
$
25

 
$
24

Interest cost
20

 
20

 
60

 
60

Expected return on plan assets
(23
)
 
(24
)
 
(70
)
 
(72
)
Amortization of actuarial loss
9

 
7

 
27

 
21

Net periodic pension benefit cost
$
14

 
$
11

 
$
42

 
$
33

 
 
 
 
 
 
 
 
Components of net periodic other postretirement benefit cost
 
 
 
 
 
 
 
Service cost
$
3

 
$
3

 
$
8

 
$
9

Interest cost
7

 
7

 
20

 
22

Expected return on plan assets
(7
)
 
(7
)
 
(20
)
 
(20
)
Amortization of prior service credit
(5
)
 
(3
)
 
(14
)
 
(4
)
Amortization of actuarial loss
3

 
1

 
8

 
3

Net periodic other postretirement benefit cost
$
1

 
$
1

 
$
2

 
$
10

The Company made contributions for the funding of its defined benefit pension plans of $11 and $8 for the three months ended September 30, 2017 and 2016, respectively, and $31 and $25 for the nine months ended September 30, 2017 and 2016, respectively, and expects to contribute $9 during the remainder of 2017. In addition, the Company made contributions for the funding of its other postretirement plans of $2 and $6 for the three months ended September 30, 2017 and 2016, respectively, and $5 and $17 for the nine months ended September 30, 2017 and 2016, respectively, and expects to contribute $1 during the remainder of 2017.
Note 9: Commitments and Contingencies
Contingencies
The Company is routinely involved in legal actions incident to the normal conduct of its business. As of September 30, 2017, the Company has accrued approximately $139 of probable loss contingencies and has estimated that the maximum amount of losses associated with reasonably possible loss contingencies that can be reasonably estimated is $27. For certain matters, claims and actions, the Company is unable to estimate possible losses. The Company believes that damages or settlements, if any, recovered by plaintiffs in such matters, claims or actions, other than as described in this Note 9, will not have a material adverse effect on the Company.
West Virginia Elk River Freedom Industries Chemical Spill
Background
On January 9, 2014, a chemical storage tank owned by Freedom Industries, Inc. leaked two substances, 4-methylcyclohexane methanol, or “MCHM”, and PPH/DiPPH, a mix of polyglycol ethers, into the Elk River near the West Virginia-American Water Company (“WVAWC”) treatment plant intake in Charleston, West Virginia. After having been alerted to the leak of MCHM by the West Virginia Department of Environmental Protection (“DEP”), WVAWC took immediate steps to gather more information about MCHM, augment its treatment process as a precaution, and begin consultations with federal, state and local public health officials. As soon as possible after it was determined that the augmented treatment process would not fully remove the MCHM, a joint decision was reached in consultation with the West Virginia Bureau for Public Health to issue a “Do Not Use” order for all of its approximately 93,000 customer accounts in parts of nine West Virginia counties served by the Charleston treatment plant. By January 18, 2014, none of WVAWC’s customers were subject to the Do Not Use order.

15



Following the Freedom Industries chemical spill, numerous lawsuits were filed against WVAWC and certain other Company affiliated entities (collectively, the “American Water Defendants”) with respect to this matter in the U.S. District Court for the Southern District of West Virginia or West Virginia Circuit Courts in Kanawha, Boone and Putnam counties, and to date, 74 cases remain pending. Four of the cases pending before the U.S. district court were consolidated for purposes of discovery, and an amended consolidated class action complaint for those cases (the “Federal action”) was filed in December 2014 by several plaintiffs. On January 28, 2016, all of the then-filed state court cases were referred to West Virginia’s Mass Litigation Panel for further proceedings, which have been stayed pending the negotiation by the parties and approval by the court in the Federal action of a global agreement to settle all of such cases, as described below. On July 7, 2016, the court in the Federal action scheduled trial to begin on October 25, 2016, but the court has granted several continuances of the trial, which is currently postponed indefinitely in light of the preliminarily approved global settlement agreement described below. The Mass Litigation Panel has also stayed its proceedings until January 23, 2018.
Preliminary Approval of WVAWC Global Class Action Litigation Settlement
On October 31, 2016, the court in the Federal action approved the preliminary principles, terms and conditions of a binding global agreement in principle to settle claims among the American Water Defendants, and all class members, putative class members, claimants and potential claimants, arising out of the Freedom Industries chemical spill. On April 27, 2017, the parties filed with the court in the Federal action a proposed settlement agreement providing details of the terms of the settlement of these matters and requesting that the court in the Federal action grant preliminary approval of such settlement. On July 6, 2017, the court in the Federal action issued an opinion denying without prejudice the joint motion for preliminary approval of the Settlement. On August 25, 2017, the parties filed a proposed amended settlement agreement and related materials addressing the matters set forth in the July 6, 2017 order.
On September 21, 2017, the court in the Federal action issued an order granting preliminary approval of a settlement class and proposed class action settlement (the “Settlement”) with respect to claims against the American Water Defendants by all putative class members (collectively, the “Plaintiffs”) for all claims and potential claims arising out of the Freedom Industries chemical spill. The Settlement proposes a global resolution of all federal and state litigation and potential claims against the American Water Defendants and their insurers. Under the terms and conditions of the Settlement and the proposed amended settlement agreement, the American Water Defendants have not admitted, and will not admit, any fault or liability for any of the allegations made by the Plaintiffs in any of the actions to be resolved. Under federal class action rules, a claimant may elect to opt out of the final Settlement, in which case such claimant will not receive any benefit from or be bound by the terms of the Settlement. The American Water Defendants would have the right to withdraw from the Settlement if more than a certain number of putative class members opt out of the Settlement. The deadline imposed by the court in the Federal action for any Plaintiff to opt out of the Settlement or file an objection to the Settlement is December 8, 2017.
The proposed aggregate pre-tax amount of the Settlement is $126, of which $43 would be contributed by WVAWC, and the remainder would be contributed by certain of the Company’s general liability insurance carriers. The WVAWC contribution was reduced from $65 to $43 ($26 after tax) due to a settlement in the third quarter of 2017 with another of the Company’s general liability insurance carriers, as discussed below. The Company has general liability insurance under a series of policies underwritten by a number of individual carriers. Two of these insurance carriers, which provide an aggregate of $50 in insurance coverage to the Company under these policies, had been originally requested to participate in the Settlement at the time of the initial filing of the binding agreement in principle with the court in the Federal action, but did not agree to do so at that time. WVAWC filed a lawsuit against one of these carriers alleging that the carrier’s failure to agree to participate in the Settlement constituted a breach of contract. On September 19, 2017, the Company and the insurance carrier settled this lawsuit for $22, out of a maximum of $25 in potential coverage under the terms of the relevant policy, in exchange for a full release by the Company and WVAWC of all claims against the insurance carrier related to the Freedom Industries chemical spill. WVAWC and the settling insurer have agreed to stay this litigation pending final approval of the Settlement. The Company and WVAWC continue to pursue vigorously their rights to insurance coverage for contributions by WVAWC to the Settlement in mandatory arbitration with the remaining non-participating carrier. This arbitration proceeding remains pending.
The proposed Settlement would establish a two-tier settlement fund for the payment of claims, comprised of (i) a simple claim fund, which is also referred to as the “guaranteed fund,” of $76, of which $29 will be contributed by WVAWC, including insurance deductibles, and $47 would be contributed by two of the Company’s general liability insurance carriers, and (ii) an individual review claim fund of up to $50, of which up to $14 would be contributed by WVAWC and up to $36 would be contributed by a number of the Company’s general liability insurance carriers. Separately, up to $25 would be contributed to the guaranteed fund by another defendant to the Settlement. If any final approval order by the court in the Federal action with respect to the Settlement is appealed and such appeal would delay potential payment to claimants under the Settlement, WVAWC and the other defendant to the Settlement will contribute up to $50 and $25, respectively, to the Settlement (not including, in the case of WVAWC, any contributions by the Company’s general liability insurance carriers which would not be made until such time as a final, non-appealable order is issued) into an escrow account during the pendency of such appeals. For certain claims, WVAWC and the other defendant to the Settlement may, in lieu of these escrowed contributions, make advance payments of such claims if agreed to by the parties. All administrative expenses of the Settlement and attorneys’ fees of class counsel related thereto would be paid from the funds designated to pay claims covered by the Settlement.

16



As a result of these events, in the third quarter of 2016, the Company recorded a charge to earnings, net of insurance receivables, of $65 ($39 after-tax). Additionally, in the third quarter of 2017, the Company recorded a benefit of $22 ($13 after-tax) as an additional insurance receivable reflecting the settlement with the insurance carrier described above. The settlement amount of $126 is reflected in Accrued Liabilities and the offsetting insurance receivables are reflected in Other Current Assets in the Consolidated Balance Sheet as of September 30, 2017. The Company intends to fund WVAWC’s contributions to the Settlement through existing sources of liquidity, although no contribution by WVAWC will be required unless and until the terms of the Settlement are finally approved by the court in the Federal action. Furthermore, under the terms of the Settlement, WVAWC has agreed that it will not seek rate recovery from the Public Service Commission of West Virginia for approximately $4 in direct response costs expensed in 2014 by WVAWC relating to the Freedom Industries chemical spill as well as for amounts paid by WVAWC under the Settlement.
The Company’s insurance policies operate under a layered structure where coverage is generally provided in the upper layers after claims have exhausted lower layers of coverage. The $36 to be contributed by a number of the Company’s general liability insurance carriers to the individual review claim fund, as noted above, is from higher layers of the insurance structure than the insurance carrier that was requested, but presently has not agreed, to participate in the Settlement. Any recovery by WVAWC or the Company from the remaining non-participating carrier would reimburse WVAWC for its contributions to the guaranteed fund.
Other Related Proceedings
Additionally, investigations with respect to the matter have been initiated by the U.S. Chemical Safety and Hazard Investigation Board (the “CSB”), the U.S. Attorney’s Office for the Southern District of West Virginia, the West Virginia Attorney General, and the Public Service Commission of West Virginia (the “PSC”). As a result of the U.S. Attorney’s Office investigation, Freedom Industries and six former Freedom Industries employees (three of whom also were former owners of Freedom Industries), pled guilty to violations of the federal Clean Water Act.
In May 2014, the PSC issued an Order initiating a General Investigation into certain matters relating to WVAWC’s response to the Freedom Industries chemical spill. Three parties intervened in the proceeding, including the Consumer Advocate Division of the PSC and two attorney-sponsored groups, including one sponsored by some of the plaintiffs’ counsel involved in the civil litigation described above. On January 26, 2017, WVAWC and the other parties agreed to resolve the General Investigation and filed a joint stipulation with the PSC containing the terms of the settlement. The parties to the joint stipulation filed a proposed order with the PSC on February 8, 2017. On June 15, 2017, the PSC entered an order accepting the joint stipulation that had been filed by the parties in January 2017 as a reasonable basis for resolving the General Investigation and removing the proceeding from the docket. The PSC’s order did not require WVAWC to take any further action with respect to the matters covered by the General Investigation. The PSC order concludes the General Investigation.
The CSB is an independent investigatory agency with no regulatory mandate or ability to issue fines or citations; rather, the CSB can only issue recommendations for further action. In response to the Freedom Industries chemical spill, the CSB commenced an investigation shortly thereafter. On September 28, 2016, the CSB issued and adopted its investigation report in which it recommended that the Company conduct additional source water protection activities. The Company provided written comments to the CSB’s report suggesting that the recommendation made to the Company would be better directed to the U.S. Environmental Protection Agency in order to promote industry-wide implementation of the CSB’s recommendation. On February 15, 2017, the Company filed a response to the CSB’s recommendation. On April 4, 2017, the CSB indicated that the implementation by the Company of source water protection activities resolved the first two parts of the CSB’s recommendation. The CSB also noted that compliance by the Company with the third part of its recommendation is ongoing and that closure of this part is contingent upon completion of updated contingency planning for the Company’s water utilities outside of West Virginia. In light of public response to its original September 2016 investigation report, on May 11, 2017, the CSB issued a new version of this report. The primary substantive change addressed CSB’s factual evaluation of the duration and volume of contamination from the leaking tank, decreasing its estimate of the leak time but increasing the volume estimate by 10%. No substantive changes were made to the conclusions and recommendations in the original report.
On March 16, 2017, the Lincoln County (West Virginia) Commission (the “LCC”) passed a county ordinance entitled the “Lincoln County, WV Comprehensive Public Nuisance Investigation and Abatement Ordinance.” The ordinance establishes a mechanism that Lincoln County believes will allow it to pursue criminal or civil proceedings for the “public nuisance” it alleges was caused by the Freedom Industries chemical spill. On April 20, 2017, the LCC filed a complaint in Lincoln County state court against WVAWC and certain other defendants not affiliated with the Company, alleging that the Freedom Industries chemical spill caused a public nuisance in Lincoln County. On June 12, 2017, the Mass Litigation Panel entered an order granting a motion to transfer this case to its jurisdiction and stayed the case consistent with the existing stay order. The complaint seeks an injunction against WVAWC that would require the creation of various databases and public repositories of documents related to this chemical spill, as well as further study and risk assessments regarding the alleged exposure by Lincoln County residents to the released chemicals. WVAWC believes that the lawsuit is without merit and intends to vigorously contest the claims and allegations raised in the complaint.

17



California Public Utilities Commission Residential Rate Design Proceeding
In December 2016, the California Public Utilities Commission (the “CPUC”) issued a final decision in a proceeding involving California-American Water Company, the Company’s wholly owned subsidiary (“Cal Am”), adopting a new residential rate design for Cal Am’s Monterey District. The decision allowed for recovery by Cal Am of $32 in under-collections in the water revenue adjustment mechanism/modified cost balancing account (“WRAM/MCBA”) over a five-year period, plus interest, and modified existing conservation and rationing plans. In its decision, the CPUC noted concern regarding Cal Am’s residential tariff administration, specifically regarding the lack of verification of customer-provided information about the number of residents per household. This information was used for generating billing determinants under the tiered rate system. As a result, the CPUC kept this proceeding open to address several issues, including whether Cal Am’s residential tariff administration violated a statute, rule or CPUC decision, and if so, whether a penalty should be imposed.
On February 24, 2017, Cal Am, the Monterey Peninsula Water Management District, the CPUC’s Office of Ratepayer Advocates, and the Coalition of Peninsula Businesses filed for CPUC approval of a joint settlement agreement (the “Joint Settlement Agreement”), which among other things, proposed to resolve the CPUC’s residential tariff administration concerns by providing for a waiver by Cal Am of $0.5 of cost recovery for residential customers through the WRAM/MCBA in lieu of a penalty. Approval of the Joint Settlement Agreement, which is required for it to take effect, remains pending before the CPUC.
On March 28, 2017, the administrative law judge assigned to the proceeding issued a ruling stating there was sufficient evidence to conclude, on a preliminary basis, that Cal Am’s administration of the residential tariff violated certain provisions of the California Public Utilities Code and a CPUC decision. The ruling ordered Cal Am to show cause why it should not be penalized for these administrative violations and directed the settling parties to address whether the cost recovery waiver in the Joint Settlement Agreement was reasonable compared to a potential penalty range described by the administrative law judge. During hearings held on April 13-14, 2017, the administrative law judge clarified that this potential penalty range is $3 to $179 (calculated as a continuing violation dating back to 2000 and applying penalties of up to $20 thousand per day until January 1, 2012 and penalties of up to $50 thousand per day thereafter, reflecting a 2012 change to the relevant statute). The administrative law judge also noted that a per diem penalty may not be appropriate, as Cal Am’s monthly billing practices did not allow Cal Am to update customer-provided information for billing purposes on a daily basis. Hearings before the administrative law judge in this matter occurred in August and September 2017. Cal Am also submitted additional testimony on the issue of whether Cal Am should be penalized, and if so, the reasonable amount of any such penalty. A subsequent hearing in this proceeding is currently scheduled for November 27, 2017.
As of September 30, 2017, the portions of this loss contingency that are probable and/or reasonable possible have been determined to be immaterial to the Company and have been included in the aggregate maximum amounts described above in the first paragraph of “Contingencies” in this Note 9.
Missouri Infrastructure System Replacement Surcharge Litigation
In March 2016, the Western District of the Missouri Court of Appeals ruled that the Missouri Public Service Commission (“MoPSC”) did not have statutory authority to issue an order in June 2015 approving an infrastructure system replacement surcharge (“ISRS”) for Missouri-American Water Company (“MAWC”), a wholly owned subsidiary of the Company. The court held that the MoPSC’s June 2015 order authorizing the ISRS increase was invalid because St. Louis County did not have a population of at least one million residents, as required by the statute. MAWC believes that the MoPSC’s June 2015 order authorizing the collection of ISRS revenues is lawful. In June 2016, the Missouri Supreme Court granted MAWC’s application to transfer the case from the Court of Appeals to the Missouri Supreme Court, and as a result of that order, the March 2016 ruling of the Court of Appeals was vacated.
On March 14, 2017, in a unanimous decision, the Missouri Supreme Court dismissed the case as moot, finding that there were no longer any ISRS funds in dispute because MAWC had completed a rate case during the appellate process and the disputed charges were now incorporated in base rates. On May 30, 2017, the Missouri Supreme Court denied a Motion for Rehearing filed by the Missouri Office of Public Counsel, which action concluded the litigation in this matter.
Dunbar, West Virginia Water Main Break Class Action Litigation
On the evening of June 23, 2015, a 36-inch pre-stressed concrete transmission water main, installed in the early 1970s, failed. The water main is part of WVAWC’s West Relay pumping station located in the City of Dunbar. The failure of the main caused water outages and low pressure to up to approximately 25,000 WVAWC customers. In the early morning hours of June 25, 2015, crews completed a repair, but that same day, the repair developed a leak. On June 26, 2015, a second repair was completed and service was restored that day to approximately 80% of the impacted customers, and to the remaining approximately 20% by the next morning. The second repair showed signs of leaking but the water main was usable until June 29, 2015 to allow tanks to refill. The system was reconfigured to maintain service to all but approximately 3,000 customers while a final repair was completed safely on June 30, 2015. Water service was fully restored on July 1, 2015 to all customers affected by this event.

18



On June 2, 2017, a class action complaint was filed in West Virginia Circuit Court in Kanawha County against WVAWC on behalf of a purported class of residents and business owners who lost water service or pressure as a result of the Dunbar main break. The complaint alleges breach of contract by WVAWC for failure to supply water, violation of West Virginia law regarding the sufficiency of WVAWC’s facilities and negligence by WVAWC in the design, maintenance and operation of the water system. The plaintiffs seek unspecified alleged damages on behalf of the class for lost profits, annoyance and inconvenience, and loss of use, as well as punitive damages for willful, reckless and wanton behavior in not addressing the risk of pipe failure and a large outage.
On October 12, 2017, WVAWC filed with the court a motion seeking to dismiss all of the plaintiffs’ counts alleging statutory and common law tort claims. Furthermore, WVAWC asserts that the Public Service Commission of West Virginia, and not the court, has primary jurisdiction over allegations involving violations of the applicable tariff, the public utility code and related rules. This motion remains pending.
The Company and WVAWC believe that WVAWC has valid, meritorious defenses to the claims raised in this class action complaint. WVAWC is vigorously defending itself against these allegations. Given the current stage of this proceeding, the Company cannot reasonably estimate the amount of any reasonably possible losses or a range of such losses related to this proceeding.
Note 10: Earnings per Common Share
The following is a reconciliation of the numerator and denominator for basic and diluted earnings per share calculations:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2017
 
2016
 
2017
 
2016
Numerator
 
 
 
 
 
 
 
Net income attributable to common stockholders
$
203

 
$
148

 
$
427

 
$
367

 
 
 
 
 
 
 
 
Denominator
 

 
 

 
 

 
 

Weighted-average common shares outstanding—Basic
178

 
178

 
178

 
178

Effect of dilutive common stock equivalents
1

 

 
1

 
1

Weighted-average common shares outstanding—Diluted
179

 
178

 
179

 
179

The effect of dilutive common stock equivalents is related to restricted stock units and performance stock units granted under the 2007 and 2017 Omnibus Equity Compensation Plans, as well as shares purchased under the Company’s Nonqualified Employee Stock Purchase Plan.
Note 11: Fair Value of Financial Assets and Liabilities
Fair Value of Financial Instruments
The Company used the following methods and assumptions to estimate its fair value disclosures for financial instruments:
Current assets and current liabilities—The carrying amounts reported in the accompanying Consolidated Balance Sheets for current assets and current liabilities, including revolving credit debt, due to the short-term maturities and variable interest rates, approximate their fair values.
Preferred stock with mandatory redemption requirements and long-term debt—The fair values of preferred stock with mandatory redemption requirements and long-term debt are categorized within the fair value hierarchy based on the inputs that are used to value each instrument. The fair value of long-term debt classified as Level 1 is calculated using quoted prices in active markets. Level 2 instruments are valued using observable inputs and Level 3 instruments are valued using observable and unobservable inputs. The fair values of instruments classified as Level 2 and Level 3 are determined by a valuation model that is based on a conventional discounted cash flow methodology and utilizes assumptions of current market rates. As a portion of the Company’s debts do not trade in active markets, the Company calculated a base yield curve using a risk-free rate (a U.S. Treasury securities yield curve) plus a credit spread that is based on the following two factors: (i) an average of the Company’s own publicly-traded debt securities and (ii) the current market rates for U.S. Utility A debt securities. The Company used these yield curve assumptions to derive a base yield for the Level 2 and Level 3 securities. Additionally, the Company adjusted the base yield for specific features of the debt securities including call features, coupon tax treatment and collateral for the Level 3 instruments.

19



The carrying amounts, including fair value adjustments previously recognized in acquisition purchase accounting and a fair value adjustment related to the Company’s interest rate swap fair value hedge (which is classified as Level 2 in the fair value hierarchy), and fair values of the financial instruments were as follows:
 
Carrying Amount
 
At Fair Value as of September 30, 2017
 
 
Level 1
 
Level 2
 
Level 3
 
Total
Preferred stock with mandatory redemption requirements
$
11

 
$

 
$

 
$
15

 
$
15

Long-term debt (excluding capital lease obligations)
7,357

 
5,375

 
990

 
1,867

 
8,232

 
 
 
 
 
 
 
 
 
 
 
Carrying Amount
 
At Fair Value as of December 31, 2016
 
 
Level 1
 
Level 2
 
Level 3
 
Total
Preferred stock with mandatory redemption requirements
$
12

 
$

 
$

 
$
15

 
$
15

Long-term debt (excluding capital lease obligations)
6,320

 
3,876

 
1,363

 
1,805

 
7,044

Recurring Fair Value Measurements
The following table presents assets and liabilities measured and recorded at fair value on a recurring basis and their level in the fair value hierarchy:
 
At Fair Value as of September 30, 2017
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 
 
 
 
 
 
Restricted funds
$
29

 
$

 
$

 
$
29

Rabbi trust investments
14

 

 

 
14

Deposits
4

 

 

 
4

Other investments
4

 

 

 
4

Total assets
51

 

 

 
51

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Deferred compensation obligations
16

 

 

 
16

Mark-to-market derivative liabilities

 
2

 

 
2

Total liabilities
16

 
2

 

 
18

Total net assets (liabilities)
$
35

 
$
(2
)
 
$

 
$
33

 
At Fair Value as of December 31, 2016
 
Level 1
 
Level 2
 
Level 3
 
Total
Assets:
 
 
 
 
 
 
 
Restricted funds
$
24

 
$

 
$

 
$
24

Rabbi trust investments
12

 

 

 
12

Deposits
3

 

 

 
3

Mark-to-market derivative assets

 
28

 

 
28

Other investments
1

 

 

 
1

Total assets
40

 
28

 

 
68

 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
Deferred compensation obligations
13

 

 

 
13

Total liabilities
13

 

 

 
13

Total net assets (liabilities)
$
27

 
$
28

 
$

 
$
55


20



Restricted funds—The Company’s restricted funds primarily represent proceeds received from financings for the construction and capital improvement of facilities and from customers for future services under operations and maintenance projects. The proceeds of these financings are held in escrow until the designated expenditures are incurred. Long-term restricted funds of $1 and $4 were included in other long-term assets as of September 30, 2017 and December 31, 2016, respectively.
Rabbi trust investments—The Company’s rabbi trust investments consist of equity and index funds from which supplemental executive retirement plan benefits and deferred compensation obligations can be paid. The Company includes these assets in other long-term assets.
Deposits—Deposits include escrow funds and certain other deposits held in trust. The Company includes cash deposits in other current assets.
Mark-to-market derivative asset and liability—The Company utilizes fixed-to-floating interest-rate swaps, typically designated as fair-value hedges, to achieve a targeted level of variable-rate debt as a percentage of total debt. The Company also employs derivative financial instruments in the form of variable-to-fixed interest rate swaps and forward starting interest rate swaps, classified as economic hedges and cash flow hedges, respectively, in order to fix the interest cost on existing or forecasted debt. The Company uses a calculation of future cash inflows and estimated future outflows, which are discounted, to determine the current fair value. Additional inputs to the present value calculation include the contract terms, counterparty credit risk, interest rates and market volatility.
Other investments—Other investments primarily represent money market funds used for active employee benefits. The Company includes other investments in other current assets.
Deferred compensation obligations—The Company’s deferred compensation plans allow participants to defer certain cash compensation into notional investment accounts. The Company includes such plans in other long-term liabilities. The value of the Company’s deferred compensation obligations is based on the market value of the participants’ notional investment accounts. The notional investments are comprised primarily of mutual funds, which are based on observable market prices.
Note 12: Segment Information
The Company conducts its business primarily through one reportable segment, the Regulated Businesses segment. The Company also operates several businesses that provide a broad range of related and complementary water and wastewater services in four operating segments that individually do not meet the criteria of a reportable segment in accordance with GAAP. These four non-reportable operating segments are collectively presented as the Company’s “Market-Based Businesses.” “Other” includes corporate costs that are not allocated to the Company’s operating segments, eliminations of inter-segment transactions, fair value adjustments and associated income and deductions related to acquisitions that have not been allocated to the operating segments for evaluation of performance and allocation of resource purposes. The following tables include the Company’s summarized segment information:
 
As of or for the Three Months Ended September 30, 2017
 
Regulated
Businesses
 
Market-Based
Businesses
 
Other
 
Consolidated
Operating revenues
$
842

 
$
100

 
$
(6
)
 
$
936

Depreciation and amortization
121

 
5

 
2

 
128

Total operating expenses, net
433

 
80

 
(7
)
 
506

Interest, net
(67
)
 
1

 
(23
)
 
(89
)
Income before income taxes
347

 
21

 
(28
)
 
340

Provision for income taxes
135

 
7

 
(5
)
 
137

Net income attributable to common stockholders
212

 
14

 
(23
)
 
203

Total assets
17,390

 
600

 
1,371

 
19,361


21



 
As of or for the Three Months Ended September 30, 2016
 
Regulated
Businesses
 
Market-Based
Businesses
 
Other
 
Consolidated
Operating revenues
$
826

 
$
109

 
$
(5
)
 
$
930

Depreciation and amortization
111

 
4

 
4

 
119

Total operating expenses, net
521

 
98

 
(8
)
 
611

Interest, net
(64
)
 

 
(17
)
 
(81
)
Income before income taxes
246

 
12

 
(15
)
 
243

Provision for income taxes
94

 
5

 
(4
)
 
95

Net income attributable to common stockholders
152

 
7

 
(11
)
 
148

Total assets
16,020

 
545

 
1,406

 
17,971

 
As of or for the Nine Months Ended September 30, 2017
 
Regulated
Businesses
 
Market-Based
Businesses
 
Other
 
Consolidated
Operating revenues
$
2,247

 
$
306

 
$
(17
)
 
$
2,536

Depreciation and amortization
357

 
13

 
8

 
378

Total operating expenses, net
1,327

 
263

 
(19
)
 
1,571

Interest, net
(200
)
 
2

 
(61
)
 
(259
)
Income before income taxes
731

 
46

 
(66
)
 
711

Provision for income taxes
285

 
17

 
(18
)
 
284

Net income attributable to common stockholders
446

 
29

 
(48
)
 
427

Total assets
17,390

 
600

 
1,371

 
19,361

 
As of or for the Nine Months Ended September 30, 2016
 
Regulated
Businesses
 
Market-Based
Businesses
 
Other
 
Consolidated
Operating revenues
$
2,176

 
$
338

 
$
(14
)
 
$
2,500

Depreciation and amortization
328

 
11

 
11

 
350

Total operating expenses, net
1,385

 
300

 
(17
)
 
1,668

Interest, net
(191
)
 
1

 
(52
)
 
(242
)
Income before income taxes
610

 
44

 
(50
)
 
604

Provision for income taxes
236

 
18

 
(17
)
 
237

Net income attributable to common stockholders
374

 
26

 
(33
)
 
367

Total assets
16,020

 
545

 
1,406

 
17,971



22



ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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,” and elsewhere in this Form 10-Q.
General
Through its subsidiaries, 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 by both operating revenue and population served. Our primary business involves the ownership of utilities that provide water and wastewater services to residential, commercial, industrial and other customers, including sale for resale and public authority customers. Our utilities are generally subject to economic regulation by certain state utility commissions or other entities engaged in utility regulation. We report the results of our utilities in our Regulated Businesses segment. We also operate several businesses that provide a broad range of related and complementary water and wastewater services that are not subject to economic regulation by state utility commissions or other entities engaged in utility regulation. 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
Highlights of our diluted earnings per share and adjusted diluted earnings per share (a non-GAAP measure) for the three and nine months ended September 30, 2017 are as follows:
 
For the Three Months Ended September 30,
 
For the Nine Months Ended September 30,
 
2017
 
2016
 
2017
 
2016
Diluted earnings per share (GAAP):
 
 
 
 
 
 
 
Net income attributable to common stockholders
$
1.13

 
$
0.83

 
$
2.39

 
$
2.05

Non-GAAP adjustments:
 
 
 
 
 
 
 
Impact of Freedom Industries settlement activities
(0.12
)
 
0.36

 
(0.12
)
 
0.36

Income tax impact
0.05

 
(0.14
)
 
0.05

 
(0.14
)
Net non-GAAP adjustment
(0.07
)
 
0.22

 
(0.07
)
 
0.22

 
 
 
 
 
 
 
 
Early debt extinguishment at the parent company
0.03

 

 
0.03

 

Income tax impact
(0.01
)
 

 
(0.01
)
 

Net non-GAAP adjustment
0.02

 

 
0.02

 

 
 
 
 
 
 
 
 
Total net non-GAAP adjustments
(0.05
)
 
0.22

 
(0.05
)
 
0.22

 
 
 
 
 
 
 
 
Adjusted diluted earnings per share (non-GAAP)
$
1.08

 
$
1.05

 
$
2.34

 
$
2.27

For the three months ended September 30, 2017, net income attributable to common stockholders was $1.13 per diluted share, an increase of $0.30 per diluted share, or 36.1%, over the same period in 2016. Included in the 2017 amount was an after-tax benefit of $13 million, or $0.07 per diluted share, resulting from an insurance settlement with one of our general liability insurance carriers related to the Freedom Industries matter and an after-tax charge of $4 million, or $(0.02) per diluted share, resulting from an early debt extinguishment charge at the parent company. Included in the 2016 amount was an after-tax charge of $39 million, or $(0.22) per diluted share, resulting from the binding global agreement in principle to settle claims associated with the Freedom Industries chemical spill.

23



Excluding these items, adjusted diluted earnings per share (a non-GAAP measure) was $1.08 for the three months ended September 30, 2017, an increase of $0.03 per diluted share, or 2.9% over the same period in 2016. This increase was primarily due to continued growth in our Regulated Businesses segment, largely driven by infrastructure investment, acquisitions and organic growth, combined with growth in our Market-Based Businesses from our Homeowner Services Group. These increases were partially offset by warmer weather in the third quarter of 2016 and a discrete tax adjustment recorded at the parent company associated with legislative changes in the State of Illinois impacting state tax apportionment.
For the nine months ended September 30, 2017, net income attributable to common stockholders was $2.39 per diluted share, an increase of $0.34 per diluted share, or 16.6% over the same period in 2016. Included in the 2017 amount was an after-tax benefit of $13 million, or $0.07 per diluted share, resulting from an insurance settlement with one of our general liability insurance carriers related to the Freedom Industries matter and an after-tax charge of $4 million, or $(0.02) per diluted share, resulting from an early debt extinguishment charge at the parent company. Included in the 2016 amount was an after-tax charge of $39 million, or $(0.22) per diluted share, resulting from the binding global agreement in principle to settle claims associated with the Freedom Industries chemical spill.
Excluding these items, adjusted diluted earnings per share (a non-GAAP measure) was $2.34 for the nine months ended September 30, 2017, an increase of $0.07 per diluted share, or 3.1%, over the same period in 2016. This increase was primarily due to continued growth in our Regulated Businesses segment, largely driven by infrastructure investment, acquisitions and organic growth, combined with growth in our Market-Based Businesses from our Homeowner Services Group. These increases were partially offset by overall warmer weather in 2016 and two discrete tax adjustments recorded at the parent company associated with legislative changes in the States of New York and Illinois impacting state tax apportionment.
Adjusted diluted earnings per share represents a non-GAAP financial measure and means diluted earnings per share, calculated in accordance with U.S. GAAP, excluding the impact of (1) the September 2017 insurance settlement related to the Freedom Industries chemical spill, (2) the debt extinguishment charge incurred in September 2017 with respect to the early extinguishment of debt allocated to the parent company and (3) the October 2016 binding global agreement in principle to settle claims related to the Freedom Industries chemical spill. We believe that this non-GAAP measure provides investors with useful information by excluding certain matters that may not be indicative of our ongoing operating results, and that providing this non-GAAP measure will allow investors to understand better our businesses’ operating performance and facilitate a meaningful year-to-year comparison of our results of operations. Although management uses this non-GAAP financial measure internally to evaluate our results of operations, we do not intend results excluding the adjustments to represent results as defined by U.S. GAAP, and the reader should not consider them as indicators of performance. This non-GAAP financial measure is derived from our consolidated financial information but is not presented in our financial statements prepared in accordance with U.S. GAAP, and thus it should be considered in addition to, and not as a substitute for, measures of financial performance prepared in accordance with U.S. GAAP. In addition, this non-GAAP financial measure as defined and used above may not be comparable to similarly titled non-GAAP measures used by other companies, and, accordingly, it may have significant limitations on its use.
Focusing on Central Themes
For 2017, our focus continues to be anchored on our five central themes: 1) Safety, 2) Customers, 3) People, 4) Growth and 5) Technology and Operational Efficiency. We 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 continue to execute on 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 during the first nine months of 2017 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 nine months of 2017, we made capital investments of approximately $1.0 billion, focused in two key areas:
$963 million of which the majority was in our Regulated Businesses segment for infrastructure improvements; and
$43 million to fund acquisitions in our Regulated Businesses segment, which added approximately 16,000 water and wastewater customers. This includes the acquisition on April 3, 2017, of all the outstanding capital stock of Shorelands Water Company, Inc. (“Shorelands”), for total consideration of $33 million in the form of 438,211 shares of our common stock. Shorelands, which is now a part of our New Jersey subsidiary, provides water service to approximately 11,000 customers in Monmouth County, New Jersey.
For the full year of 2017, our capital investment, including regulated acquisitions, is expected to be approximately $1.65 billion.

24



Included in this range is the asset purchase agreement signed by our Pennsylvania subsidiary to acquire substantially all of the wastewater collection and treatment system assets of the Municipal Authority of the City of McKeesport, Pennsylvania for approximately $159 million, subject to certain adjustments provided in the agreement. The system currently represents approximately 22,000 wastewater customers. In connection with the execution of this agreement, $7 million in non-escrowed deposits have been made to the seller. On October 26, 2017, the Pennsylvania Public Utility Commission approved a joint petition for settlement of this acquisition. The closing of this acquisition is subject to the satisfaction of various conditions and covenants.  We are expecting to close this acquisition by the end of 2017.
On September 29, 2017, our Military Services Group was awarded a contract for ownership, operation and maintenance of the water and wastewater systems at Wright-Patterson Air Force Base, the largest single-site employer in the state of Ohio. The contract award includes estimated revenues of approximately $490 million over a 50-year period, subject to an annual economic price adjustment. With the addition of this base, our backlog of revenue associated with our military contracts is approximately $3.5 billion over their remaining contract terms.
Technology & Operational Efficiency—Continuing Improvement in Adjusted Operation and Maintenance (“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 September 30, 2017 was 34.2%, compared to 34.9% for the twelve months ended September 30, 2016. The improvement in this ratio for the twelve months ended September 30, 2017, as compared to the same period in 2016, was primarily attributable to an increase in regulated operating revenue.
Our adjusted O&M efficiency ratio is defined as our regulated operation and maintenance expenses divided by regulated operating revenues, where both operation and maintenance expenses and operating revenues were adjusted to eliminate purchased water expense. Additionally, from operation and maintenance expenses, we excluded the allocable portion of non-operation and maintenance support services cost, mainly depreciation and general taxes, that are reflected in our Regulated Businesses segment as operation and maintenance expenses but for consolidated financial reporting purposes are categorized within other line items in the accompanying Consolidated Statements of Operations. In addition to the standard adjustments to our adjusted O&M efficiency ratio, for 2016 and 2017, we have also excluded from operation and maintenance expenses the impact of certain Freedom Industries chemical spill settlement activities. We excluded all the above items from the calculation as we believe such items are not reflective of management’s ability to increase efficiency of our regulated operations.
We evaluate our operating performance using this ratio because we believe it directly measures improvement in the efficiency of our regulated operations. This information is intended to enhance an investor’s overall understanding of our operating performance. Our adjusted O&M efficiency ratio is not a GAAP financial measure, 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.

25



The following table provides the calculation of our adjusted O&M efficiency ratio and a reconciliation that compares operation and maintenance expenses and operating revenues, each as determined in accordance with GAAP, to those amounts utilized in the calculation of our adjusted O&M efficiency ratio, for the twelve months ended September 30, 2017 as compared to the same period in 2016:
 
For the twelve months ended September 30,
(In millions)
2017
 
2016
Total operation and maintenance expenses
$
1,383

 
$
1,511

Less:
 
 
 
Operation and maintenance expenses—Market-Based Businesses
334

 
391

Operation and maintenance expenses—Other
(46
)
 
(42
)
Total operation and maintenance expenses—Regulated Businesses
1,095

 
1,162

Less:
 
 
 
Regulated purchased water expenses
124

 
120

Allocation of non-operation and maintenance expenses
29

 
29

Impact of Freedom Industries settlement activities (a)
(22
)
 
65

Adjusted operation and maintenance expenses—Regulated Businesses (i)
$
964

 
$
948

 
 
 
 
Total operating revenues
$
3,338

 
$
3,283

Less:
 
 
 
Operating revenues—Market-Based Businesses
419

 
464

Operating revenues—Other
(23
)
 
(17
)
Total regulated operating revenues—Regulated Businesses
2,942

 
2,836

Less:
 
 
 
Regulated purchased water revenues (b)
124

 
120

Adjusted operating revenues—Regulated Businesses (ii)
$
2,818

 
$
2,716

 
 
 
 
Adjusted operation and maintenance efficiency ratio—Regulated Businesses (i) / (ii)
34.2
%
 
34.9
%
(a)
Includes binding agreement in principle in 2016 and settlement with general liability insurance carrier in 2017.
(b)
Calculation assumes purchased water revenues approximate purchased water expenses.

26



Regulatory Matters
The table below provides annualized incremental revenues resulting from rate authorizations that became effective during the nine months ended September 30, 2017 for general rate cases, assuming a constant water sales volume, and infrastructure surcharge mechanisms. There were no rate authorizations that became effective during the three months ended September 30, 2017.
(In millions)
For the Nine Months Ended September 30, 2017
General rate cases by state:
 

New York (effective June 1, 2017)
$