High-growth territory, 2021 rate case dispute challenge Pinnacle West

Pinnacle West Capital Corp. executives on Feb. 25 described the challenges of managing one of the highest-growth service territories in the U.S. while engaged in a legal dispute with state regulators over the allowed return for utility Arizona Public Service Co.

The Arizona utility holding company experienced full-year, weather-normalized sales growth in 2021 of 4.2% and retail customer growth of 2.2%. For 2022, Pinnacle West anticipates retail customer growth of approximately 1.5% to 2.5% and weather-normalized retail electricity sales growth of 1.5% to 2.5%, and it assumes long-term retail sales growth of 3.5% to 4.5%.

"We're in one of the highest-growth, if not the highest-growth, service territories in the country, which means that we're spending more capital, we're investing more than we've ever done in the history of the company," Pinnacle West Chairman, President and CEO Jeffrey Guldner said Feb. 25 during a fourth-quarter 2021 earnings conference call. "And yet in the last rate case, we received the lowest return on equity [of] basically any utility in the country."

"That's the disconnect that we have to work with our regulators to help make sure that they understand that the challenges we have, the need to access capital markets, the need to maintain positive credit ratings is critical for us to be able to meet this growth," Guldner added.

In November 2021, the Arizona Corporation Commission voted to cut the rate of return on equity for Arizona Public Service, or APS, to 8.7% and disallowed a $215.5 million recovery of pollution control costs at the Four Corners coal-fired power plant in a controversial case that saw Pinnacle West stock prices plunge. APS has since sued the commission in the Arizona Supreme Court, which declined to take jurisdiction, and the state's Court of Appeals.

Generation capacity is also tight in the western U.S., Guldner warned, adding another challenge to "dealing with both the growth, but then also the transition, putting significant amounts of battery storage in."

Pinnacle West plans $4.7 billion in investment from 2022 to 2024, with approximately $1.54 billion allocated toward distribution and $1.23 billion going toward clean generation. Yet given the growth occurring in the company's service territory, an analyst on the call questioned whether those plans may be conservative.

"That's relatively conservative because we put a lot of effort into prioritizing the projects and investments needed to both maintain reliability in the grid and keep up with customer expansion," Pinnacle West Senior Vice President and CFO Ted Geisler said. "And as our customer growth continues to exceed our expectations, that puts even more pressure on the capital budget. We've got it set at those levels because we are very focused on trying to maintain affordability for customers and target a reasonable level of future rate increases ... but as customer growth continues to be robust, that's more and more challenging."

APS plans to file another rate case midyear, which is likely to overlap with the appeal process in court for the 2021 decision. The Court of Appeals could remand the 2021 decision to the commission, but Guldner said the process for both cases "is just going to be fluid."

For the fourth quarter of 2021, the company reported net income attributable to common shareholders of $27.6 million, or 24 cents per diluted share, compared with a loss of $19.4 million, or negative 17 cents per share, in the fourth quarter of 2020.

For full year 2021, Pinnacle West reported net income attributable to common shareholders of $618.7 million, or $5.47 per diluted share, compared with $550.6 million, or $4.87 per diluted share, in 2020.

Shares of Pinnacle West were trading nearly 7% higher during the Feb. 25 session following the release of fourth-quarter 2021 and full-year results.