Combined Financial Statements as of April 30, 2017 and 2016 Together With Report of Independent Auditors

Transcription

1 Combined Financial Statements as of April 30, 2017 and 2016 Together With Report of Independent Auditors

2 Salt River Project Combined Balance Sheets April 30, 2017 and 2016 (Thousands) ASSETS Utility Plant Plant in service - Electric $ 14,241,648 $ 13,887,357 Irrigation 461, ,716 Common 995, ,789 Total plant in service 15,698,318 15,139,862 Less - Accumulated depreciation on plant in service (7,738,978) (7,305,448) 7,959,340 7,834,414 Plant held for future use 54,388 54,394 Construction work in progress 518, ,565 Nuclear fuel, net 131, ,522 8,663,888 8,554,895 Other Property and Investments Non-utility property and other investments 258, ,617 Segregated funds, net of current portion 1,270,571 1,181,672 1,529,043 1,407,289 Current Assets Cash and cash equivalents 313, ,049 Temporary investments 180, ,603 Current portion of segregated funds 101, ,021 Receivables, net of allowance for doubtful accounts 262, ,461 Fuel stocks 115, ,425 Materials and supplies 193, ,393 Current commodity derivative assets 9,196 19,002 Other current assets 28,502 14,306 1,205,397 1,249,260 Deferred Charges and Other Assets Regulatory assets 1,208,590 1,123,276 Non-current commodity derivative assets 8,458 11,029 Other deferred charges and other assets 41,230 38,966 1,258,278 1,173,271 Total Assets $ 12,656,606 $ 12,384,715 The accompanying notes are an integral part of these combined financial statements. 2 SRP 2017 ANNUAL REPORT

3 Salt River Project Combined Balance Sheets April 30, 2017 and 2016 (Thousands) CAPITALIZATION AND LIABILITIES Long-term Debt and Capital Lease Obligation $ 4,465,538 $ 4,567,162 Accumulated Net Revenues 5,087,185 4,839,348 Total Capitalization 9,552,723 9,406,510 Current Liabilities Current portion of long-term debt and capital lease obligation 120, ,687 Accounts payable 183, ,112 Accrued taxes and tax equivalents 125, ,532 Accrued interest 64,962 68,289 Customers deposits 97,184 90,223 Current commodity derivative liabilities 22,912 65,277 Other current liabilities 256, , , ,714 Deferred Credits and Other Non-current Liabilities Accrued post-retirement liability 1,250,983 1,186,305 Asset retirement obligations 313, ,436 Non-current commodity derivative liabilities 70,080 72,123 Other deferred credits and other non-current liabilities 598, ,627 2,232,677 2,081,491 Commitments and Contingencies (Notes 7, 9, 11, 12, and 13) Total Capitalization and Liabilities $ 12,656,606 $ 12,384,715 The accompanying notes are an integral part of these combined financial statements. SRP 2017 ANNUAL REPORT 3

4 Salt River Project Combined Statements of Net Revenues For the Years Ended April 30, 2017 and 2016 (Thousands) Operating Revenues Retail electric $ 2,780,916 $ 2,749,131 Other electric 69,962 69,414 Wholesale 217, ,874 Water 16,238 15,853 Total operating revenues 3,084,688 3,047,272 Operating Expenses Power purchased 322, ,362 Fuel used in electric generation 675, ,072 Operations and maintenance 1,054,525 1,055,731 Depreciation and amortization 539, ,289 Taxes and tax equivalents 166, ,475 Total operating expenses 2,758,949 2,705,929 Net operating revenues 325, ,343 Other Income Investment income (loss), net 93,980 (14,174) Other income, net 5,393 2,707 Total other income (loss), net 99,373 (11,467) Net revenues before financing costs 425, ,876 Financing Costs Interest on bonds, net 172, ,403 Capitalized interest (14,597) (15,342) Amortization of bond premium (18,404) (15,519) Interest on other obligations 37,553 37,731 Net financing costs 177, ,273 Net Revenues $ 247,837 $ 144,603 The accompanying notes are an integral part of these combined financial statements. 4 SRP 2017 ANNUAL REPORT

5 Salt River Project Combined Statements of Cash Flows For the Years Ended April 30, 2017 and 2016 (Thousands) Cash Flows from Operating Activities Net Revenues $ 247,837 $ 144,603 Adjustments to reconcile net revenues to net cash provided by operating activities: Depreciation and amortization 539, ,289 Amortization of nuclear fuel 45,056 45,834 Amortization of bond discount/premium and issuance expenses (18,404) (15,519) Change in fair value of derivative instruments (32,031) (21,344) Change in fair value of investment securities (58,231) 48,323 Other (3,808) (6,375) Decrease (increase) in: Fuel stocks and materials and supplies (6,074) (35,023) Receivables, net of allowance for doubtful accounts (26,847) 3,651 Other current assets (14,196) 4,598 Deferred charges and other assets 3,574 1,140 Increase (decrease) in: Accounts payable (6,261) (22,475) Accrued taxes and tax equivalents 2,235 1,096 Accrued interest (3,327) 18,364 Customer deposits and other current liabilities 16,000 6,918 Deferred credits and other non-current liabilities 83,895 48,179 Net cash provided by operating activities 769, ,259 Cash Flows from Investing Activities Capital expenditures (741,400) (750,734) Plant acquisition (16,241) Contributions in aid of construction 41,965 51,399 Proceeds from disposition of assets 11,275 3,301 Purchases of investments (1,016,265) (1,183,168) Sales of investments 725, ,062 Maturities of investments 330, ,145 Net change in short-term investments related to segregated funds (25,252) (6,405) Other investing activities 9,646 1,491 Net cash used for investing activities (680,167) (835,909) Cash Flows from Financing Activities Proceeds from issuance of Revenue Bonds, net of debt issuance costs 335,836 Proceeds from issuance of Commercial Paper 100,000 Capital lease principal payments (16,527) (15,293) Repayment of long-term debt, including refundings (100,160) (119,070) Net cash provided by (used for) financing activities (116,687) 301,473 Net Increase (Decrease) in Cash and Cash Equivalents (27,498) 217,823 Balance at Beginning of Year in Cash and Cash Equivalents 341, ,226 Balance at End of Year in Cash and Cash Equivalents $ 313,551 $ 341,049 Supplemental Information Cash paid for interest, net of capitalized interest $199,006 $182,428 The accompanying notes are an integral part of these combined financial statements. SRP 2017 ANNUAL REPORT 5

6 Salt River Project Notes to Combined Financial Statements April 30, 2017 and 2016 (1) BASIS OF PRESENTATION: The Company The Salt River Project Agricultural Improvement and Power District (the District) is an agricultural improvement district organized in 1937 under the laws of the State of Arizona. It operates the Salt River Project (the Project), a federal reclamation project, under contracts with the Salt River Valley Water Users Association (the Association), by which it has assumed the obligations and assets of the Association, including its obligations to the United States of America for the care, operation and maintenance of the Project. The District owns and operates an electric system that generates, purchases, transmits and distributes electric power and energy, and provides electric service to residential, commercial, industrial and agricultural power users in a 2,900-square-mile service territory in parts of Maricopa, Gila and Pinal counties, plus mine loads in an adjacent 2,400-square-mile area in Gila and Pinal counties. The Association, incorporated under the laws of the Territory of Arizona in 1903, operates an irrigation system as the agent of the District. The District and the Association are together referred to as SRP. Principles of Combination The accompanying Combined Financial Statements reflect the combined accounts of the Association and the District. The District s financial statements are consolidated with its wholly owned taxable subsidiaries: SRP Captive Risk Solutions, Limited (CRS), Papago Park Center, Inc. (PPC), New West Energy Corporation (New West Energy), and Horizon Acquisitions LLC (Horizon). CRS is a domestic captive insurer incorporated primarily to access property/boiler and machinery insurance coverage under the federal Terrorism Risk Insurance Act of 2002 for certified acts of terrorism. PPC is a real estate management company. New West Energy was used to market, at retail, energy available to the District that was surplus to the needs of its retail customers and energy that might have been rendered surplus in Arizona by retail competition in the supply of generation but is now largely inactive. Horizon is a land acquisition company. Net revenues, assets and liabilities related to the District s wholly owned taxable subsidiaries operations are not material to the accompanying Combined Financial Statements. All intercompany transactions and balances have been eliminated. Possession and Use of Utility Plant The United States of America retains a paramount right or claim in the Project that arises from the original construction and operation of certain of the Project s electric and water facilities as a federal reclamation project. Rights to the possession and use of, and to all revenues produced by, these facilities are evidenced by contractual arrangements with the United States of America. Basis of Accounting The accompanying Combined Financial Statements are presented in conformity with accounting principles generally accepted in the United States of America (U.S. GAAP). The preparation of financial statements in compliance with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts in the financial statements and disclosures of contingencies. Actual results could differ from the estimates. By virtue of SRP operating a federal reclamation project under contract, with the federal government s paramount rights, asset ownership and certain approval rights, SRP is subject to accounting standards as set forth by the Federal 6 SRP 2017 ANNUAL REPORT

7 Accounting Standards Advisory Board (FASAB). Entities reporting in accordance with the standards issued by the Financial Accounting Standards Board (FASB) prior to October 19, 1999 (the date the American Institute of Certified Public Accountants [AICPA] designated the FASAB as the accounting standard-setting body for entities under the federal government), are permitted to continue to report in accordance with those standards. As permitted, SRP has elected to report its financial statements in accordance with FASB standards. (2) SIGNIFICANT ACCOUNTING POLICIES: Utility Plant Utility plant is stated at the historical cost of construction. Capitalized construction costs include labor, materials, services purchased under contract, and allocations of indirect charges for engineering, supervision, transportation, and administrative expenses and an allowance for funds used during construction (AFUDC). The cost of property that is replaced, removed or abandoned, less salvage, is charged to accumulated depreciation. Repairs and maintenance costs are charged to maintenance expense. Depreciation expense is computed on a straight-line basis over recovery periods of the various classes of plant assets. Depreciation expense for utility plant totaled $535.0 million and $507.7 million for the years ended April 30, 2017 and 2016, respectively. The following table reflects the District s average depreciation rates on the average cost of depreciable assets for the fiscal years ended April 30: Average electric depreciation rate 3.27% 3.26% Average irrigation depreciation rate 1.86% 1.61% Average common depreciation rate 6.75% 6.89% On July 1, 2016, the District acquired an additional 21.2% share of the Navajo Generating Station (NGS), representing 477 megawatts of capacity owned by the Los Angeles Department of Water and Power (LADWP). The District paid approximately $16.2 million in cash and transferred certain property valued at $11.3 million for LADWP s share of the plant, including fuel and supplies inventories. The District may receive up to $9.0 million of the purchase price back in 2020, depending on future market conditions. A receivable of $8.7 million was recorded for this contingent consideration as of the acquisition date. The receivable continues to be valued at $8.7 million at April 30, The transferred property and the contingent receivable are non-cash activity items for the Statement of Cash Flows. For the years ended April 30, 2017 and 2016, there was an increase of $4.9 million and a decrease of $0.1 million, respectively, in property, plant and equipment purchases within accounts payable. Such changes are considered a noncash investing activity. Plant Held for Future Use Plant held for future use primarily includes the cost of land acquired for future operations, including generation, transmission and other purposes. Once development starts on the new facility, the costs will be moved to construction work in progress. SRP 2017 ANNUAL REPORT 7

8 Allowance for Funds Used During Construction AFUDC is the estimated cost of funds used to finance plant additions and is recovered in prices through depreciation expense over the useful life of the related asset. AFUDC is capitalized during certain plant construction and is included in capitalized interest in the accompanying Combined Statements of Net Revenues. Composite rates of 3.90% and 4.25% were applied in fiscal years 2017 and 2016 to calculate interest on funds used to finance construction work in progress, resulting in $14.6 million and $15.3 million of interest capitalized, respectively. Nuclear Fuel SRP amortizes the cost of nuclear fuel using the units-of-production method. The units-of-production method is an amortization method based on actual physical usage. The nuclear fuel amortization and accrued expenses for both the interim and permanent disposal of spent nuclear fuel are components of fuel expense. Nuclear fuel amortization was $45.0 million and $45.8 million in fiscal years 2017 and 2016, respectively. The balance of nuclear fuel includes $79.7 million and $81.0 million of in-process stock which is not yet being amortized at April 30, 2017 and 2016, respectively. Computer Software Costs SRP capitalizes costs incurred to purchase and develop internal use computer software and amortizes such costs over the recovery periods of the products. The following table summarizes the capitalized computer software costs (in thousands): Asset balance $ 535,470 $ 471,169 Accumulated depreciation $ 368,778 $ 318,577 For the years ended April 30, 2017 and 2016, depreciation expense on capitalized software costs was $32.7 million and $31.4 million, respectively. Asset Retirement Obligations SRP accounts for its asset retirement obligations in accordance with authoritative guidance which requires the recognition and measurement of liabilities for legal obligations associated with the retirement of tangible long-lived assets. Liabilities for asset retirement obligations are recognized at fair value as incurred and capitalized as part of the cost of the related tangible long-lived assets. Accretion of the liabilities, due to the passage of time, is an operating expense and the capitalized cost is depreciated over the useful life of the long-lived asset. Retirement obligations associated with long-lived assets are those for which a legal obligation exists under enacted laws, statutes and contracts, including obligations arising under the doctrine of promissory estoppel. The District has identified retirement obligations for Palo Verde Nuclear Generating Station (PVNGS), NGS, Four Corners Generating Station (Four Corners), Mesquite Generating Station (Mesquite) and certain other assets. Amounts recorded for asset retirement obligations are subject to various assumptions and determinations, such as determining whether an obligation exists to remove assets, estimating the fair value of the costs of removal, estimating when final removal will occur and determining the credit-adjusted, risk-free interest rates to be utilized on discounting future liabilities. Subsequent to the initial recognition, the liability is adjusted for any revisions to the estimated future cash flows associated with the asset retirement obligation (with corresponding adjustments to utility plant), which can occur due to a number of factors, including, but not limited to, cost escalation, changes in technology applicable to the assets to be retired, changes in federal, state and local regulations and changes to the estimated decommissioning date of 8 SRP 2017 ANNUAL REPORT

9 the assets, as well as for accretion of the liability due to the passage of time until the obligation is settled. During 2017 and 2016, revisions were made to various retirement obligations, including the coal combustion residual-related obligation based on updated decommissioning cost studies and/or updating assumptions for the District s best estimate of decommissioning date, inflation rate or interest rate. The following table summarizes the asset retirement obligation activity of the District at April 30 (in thousands): Beginning balance, May 1 $ 304,436 $ 268,413 Revisions to estimates (2,622) 24,125 Accretion expense 11,562 11,898 Ending balance, April 30 $ 313,376 $ 304,436 Investments in Debt and Equity Securities SRP invests in various debt and equity securities. Debt securities in which SRP has the intent and ability to hold to maturity are classified as held-to-maturity securities and reported at amortized cost. Debt and equity securities that are bought and held with the likelihood of selling them in the near term are classified as trading securities and reported at fair value, with unrealized gains and losses included in investment income (loss), net. SRP has adopted the fair value option for all debt and equity securities other than those classified as held-to-maturity securities. All such securities are reported at fair value, with unrealized gains and losses included in investment income, net, with the exception of the Nuclear Decommissioning Trust for which unrealized gains and losses are recorded in regulatory liabilities. (See table below in Segregated Funds). SRP does not classify any securities as available-for-sale. Temporary Investments Debt and equity securities that are short-term in nature and are expected to be sold or converted to cash in the next 12 months are classified as temporary investments on the Combined Balance Sheet, unless they meet the definition of a cash equivalent. SRP 2017 ANNUAL REPORT 9

10 Segregated Funds The District sets aside funds that are segregated due to management intent and to support various purposes. The District also has certain segregated funds that are legally restricted. The following amounts are included in segregated funds in the accompanying Combined Balance Sheets at April 30 (in thousands): Segregated funds legally restricted Nuclear Decommissioning Trust $ 389,063 $ 346,283 Debt Reserve Fund 80,616 80,598 Construction Fund 45,153 Other 38,967 31,634 Total segregated funds legally restricted 508, ,668 Segregated funds other Benefits funds 761, ,004 Debt Service Fund 101, ,021 Total segregated funds other 863, ,025 Total segregated funds, including current portion $ 1,371,799 $ 1,285,693 Nuclear Decommissioning In accordance with regulations of the Nuclear Regulatory Commission (NRC), the District maintains a trust for the decommissioning of PVNGS. The Nuclear Decommissioning Trust (NDT) funds are invested in debt and equity securities. All NDT securities are reported as trading securities. SRP has elected the fair value option for such securities. Changes in fair value related to the NDT securities are included in the nuclear decommissioning regulatory asset or liability with no impact to net revenues. The NDT funds are classified as segregated funds in the accompanying Combined Balance Sheets. Cash and Cash Equivalents Cash equivalents include money market funds and highly liquid short-term investments with original maturities of three months or less, excluding those short-term investments included as part of the segregated funds, and investments included in non-utility property and other investments in the accompanying Combined Balance Sheets. Allowance for Doubtful Accounts Allowance for doubtful accounts is provided for electric customer accounts and other non-energy receivables balances based upon a historical experience rate of write-offs. The allowance account is adjusted periodically for this experience rate and is maintained until either receipt of payment or the likelihood of collection is considered remote, at which time the allowance account and corresponding receivable balance are written off. SRP has provided for an allowance for doubtful accounts of $2.0 million and $2.4 million as of April 30, 2017 and 2016, respectively. Fuel Stocks and Materials and Supplies Fuel stocks and materials and supplies are stated at weighted average cost and are valued using the average cost method. 10 SRP 2017 ANNUAL REPORT

11 Other Current Liabilities The accompanying Combined Balance Sheets include the following other current liabilities as of April 30 (in thousands): Sick, vacation and holiday (SVHL) accrual $ 93,209 $ 92,635 Customer prepayments 56,760 53,459 Employee Performance Incentive Compensation (EPIC) 30,489 28,833 Post-retirement benefits 31,403 28,898 Other 44,772 43,769 Total other current liabilities $ 256,633 $ 247,594 Other Deferred Credits and Non-current Liabilities The accompanying Combined Balance Sheets include the following other deferred credits and non-current liabilities as of April 30 (in thousands): Regulatory liabilities $ 358,637 $ 310,816 Mine reclamation and other environmental obligations 112,301 92,035 Other 127, ,776 Total other deferred credits and non-current liabilities $ 598,238 $ 518,627 Financing Costs Bond discount, premium and issuance expenses are deferred and amortized using the effective interest method over the terms of the related bond issues. Income Taxes The District, as a political subdivision of the State of Arizona, is exempt from federal and Arizona state income taxes. The Association, as a private corporation, is not exempt from federal and Arizona state income taxes. However, the Association is not liable for income taxes on operations relating to its acting as an agent for the District on the basis of a settlement with the Commissioner of Internal Revenue in 1949, which was approved by the Secretary of the Treasury. The Association is liable for income taxes on activities where it is not acting as an agent of the District. Income taxes related to the Association and to the District s wholly owned taxable subsidiaries operations are not material to the accompanying Combined Financial Statements. Voluntary Contributions in Lieu of Taxes As a political subdivision of the State of Arizona, the District is exempt from property taxation. In accordance with Arizona law, the District makes voluntary contributions each year to the State of Arizona, school districts, cities, counties, towns and other political subdivisions of the State of Arizona, for which property taxes are levied and within whose boundaries the District has property included in its electric system. The amount paid is computed on the same basis as ad valorem taxes paid by a private utility corporation with an allowance for certain water-related deductions. Such contributions are included in taxes and tax equivalents in the Combined Statements of Net Revenues. SRP 2017 ANNUAL REPORT 11

12 Sales and Use Taxes The District is required by various government authorities, including states and municipalities, to collect and remit taxes on certain retail sales. Such taxes are recorded on a net basis and excluded from revenues and expenses in the accompanying Combined Financial Statements. Revenue Recognition SRP recognizes electric revenues when billed and accrues estimated revenue for electricity delivered to customers that has not yet been billed. The estimated revenue for electricity delivered but not yet billed is included in retail electric revenue and in receivables, net, and was $88.1 million and $81.0 million at April 30, 2017 and 2016, respectively. Some customers pay in advance under level payment billing plans. Such advance payments are deferred and included in other current liabilities in the Combined Balance Sheets. In addition to the retail electric revenues, SRP also generates revenues from wholesale, transmission, telecommunications and water activities. Wholesale revenues include wholesale excess energy sales. Wholesale revenues are recognized when the energy is delivered. Transmission revenues are earned by allowing other entities to use SRP s transmission facilities to transmit power. The transmission revenues are recognized as earned and are included in other electric revenues on the Combined Statement of Net Revenues. SRP earns telecommunications revenue by allowing companies to use SRP s infrastructure to place antennas that are used to transmit communications signals. Telecommunication revenues are recognized when earned and are included in other electric revenues on the Combined Statement of Net Revenues. SRP earns water revenues from providing water to SRP water customers through annual assessments, supplemental water assessments and various other fees and charges. Water revenues are recognized when earned. The electric industry engages in an activity called book-out, under which some energy purchases are netted against sales and power does not actually flow in settlement of the contract. SRP presents the impacts of these financially settled contracts on a net basis, which resulted in a net reduction to revenue and purchased power expense of $39.6 million and $39.1 million for fiscal years 2017 and 2016, respectively, but which did not affect net revenues or cash flows. Concentrations of Credit Risk Financial instruments that potentially subject SRP to credit risk consist of cash and cash equivalents, temporary and other investments, and segregated funds. Certain balances exceed Federal Deposit Insurance Corporation (FDIC) insured limits or are invested in money market accounts with investment banks that are not FDIC insured. SRP s cash and cash equivalents, temporary and other investments, and segregated funds are placed in creditworthy financial institutions and certain money market accounts that invest in U.S. Treasury Securities or other obligations issued or guaranteed by the U.S. government or its agencies or instrumentalities. The use of contractual arrangements to manage the risks associated with changes in energy commodity prices creates credit risks resulting from the possibility of nonperformance by counterparties pursuant to the terms of their contractual obligations. In addition, volatile energy prices can create significant credit exposure from energy market receivables and mark-to-market valuations. The District has a credit policy for wholesale counterparties, continuously monitors credit exposures and routinely assesses the financial strength of its counterparties. The District minimizes credit risk by dealing primarily with creditworthy counterparties, entering into standardized agreements that allow netting of exposures to and from a single counterparty and requiring letters of credit, parent guarantees or other collateral when it does not consider the financial strength of the counterparty sufficient. 12 SRP 2017 ANNUAL REPORT

13 Recently Issued Accounting Standards In April 2015, the FASB issued Accounting Standards Update (ASU) , Simplifying the Presentation of Debt Issuance Costs, which requires debt issuance costs to be presented in the balance sheet as a direct deduction from the carrying value of the associated debt liability, consistent with the presentation of a debt discount. In August 2015, the FASB issued ASU , Interest-Imputation of Interest (Subtopic ): Presentation and Subsequent Measurement of Debt Issuance Costs Associated with Line-of-Credit Arrangement. ASU amended the accounting guidance updated by ASU to allow reporting entities the option to defer and present debt issuance costs related to line-ofcredit arrangements as an asset and subsequently amortize the deferred debt issuance costs ratably over the term of the line-of-credit arrangement. These standards are effective for SRP for financial statements issued for fiscal years beginning after December 15, SRP adopted this standard in fiscal year To conform to the current year presentation, SRP reclassified $12.8 million of deferred debt issuance costs from other deferred charges and other assets to long-term debt and capital lease obligation as of April 30, The deferred debt issuance costs are now classified as a direct deduction from the carrying value of the associated debt liability for the years ended April 30, 2017 and In April 2015, the FASB issued ASU , Customer s Accounting for Fees Paid in a Cloud Computing Arrangement. This update provides guidance to customers about whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The guidance will not change GAAP for a customer s accounting for service contracts. This standard is effective for annual periods beginning after December 15, 2015, and interim periods in annual periods beginning after December 15, SRP adopted the standard prospectively as of May 1, Adoption of the guidance did not have a material impact on the consolidated financial statements. On May 1, 2015, the FASB issued ASU , Disclosures for Investments in Certain Entities That Calculate Net Asset Value per Share (or Its Equivalent). For entities that measure an investment s fair value using the net asset value per share (or an equivalent) practical expedient, the amendments in ASU eliminate the requirement to classify the investment within the fair value hierarchy. In addition, the requirement to make specific disclosures for all investments eligible to be assessed at fair value with the net asset value per share practical expedient has been removed. Instead, such disclosures are restricted only to investments that the entity has decided to measure using the practical expedient. SRP adopted the standard in fiscal year 2017 resulting in a change to the related footnote disclosures. The comparative 2016 disclosures were revised to be consistent with the 2017 presentation. In 2014, the FASB issued ASU , Revenue from Contracts with Customers, which was subsequently amended by ASUs , , , , and The new standard replaces the previous revenue recognition guidance contained in Topic 605. SRP is required to apply the revenue standard for the fiscal year beginning May 1, SRP is currently evaluating the impact this new standard may have, if any, on its financial statements. In February 2016, the FASB issued ASU , Leases. This new standard supersedes the existing lease accounting model and modifies both lessee and lessor accounting. The new guidance will require a lessee to reflect most operating lease arrangements on the balance sheet by recording a right-of-use asset and a lease liability that will initially be measured at the present value of lease payments. Among other changes, the new standard also modifies the definition of a lease and requires expanded lease disclosures. The standard is effective for fiscal years beginning after December 15, 2018, and interim periods within fiscal years beginning after December 15, SRP is currently evaluating what impact the new standard may have on its financial statements. SRP expects to adopt this standard for the fiscal year beginning May 1, SRP 2017 ANNUAL REPORT 13

14 In January 2017, the FASB issued ASU , Business Combinations Clarifying the Definition of a Business. This standard is intended to assist entities with evaluating whether a transaction should be accounted for as an acquisition (or disposal) of assets or a business. The definition of a business affects many areas of accounting, including acquisitions, disposals, goodwill and consolidation. The new standard is effective for fiscal years beginning after December 15, 2018, using a prospective approach. SRP is currently evaluating the impact this new standard may have, if any, on its financial statements. In March 2017, the FASB issued ASU , Compensation Retirement Benefits. This standard is intended to improve the presentation of net periodic pension cost and net periodic post-retirement benefit cost. The new standard is effective for fiscal periods beginning after December 15, 2018, and early adoption is permitted. It is to be applied using a retrospective approach for the presentation of the service cost component and the other components of net periodic pension cost and net periodic post-retirement benefit cost in the income statement and prospectively for the capitalization of the service cost component of net periodic pension cost and net periodic post-retirement benefit in assets. SRP is currently evaluating the impact this new standard may have, if any, on its financial statements. In March 2017, the FASB issued ASU , Premium Amortization on Purchased Callable Debt Securities. This standard amends the amortization period for certain purchased callable debt securities held at a premium. The Board is shortening the amortization period for the premium to the earliest call date. The amendments are effective for fiscal years beginning after December 15, 2019, and interim periods within fiscal years beginning after December 15, Early adoption is permitted, including adoption in an interim period. If an entity early adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. SRP is currently evaluating the impact this new standard may have, if any, on its financial statements. In November 2016, the FASB issued ASU , Statement of Cash Flows. This accounting standard will require entities to show the changes in the total of cash, cash equivalents, and restricted cash or restricted cash equivalents in the statement of cash flows. As a result, entities will no longer present transfers between cash and cash equivalents and restricted cash and restricted cash equivalents in the statement of cash flows. The standard is effective for fiscal periods beginning after December 15, 2018, and is to be applied using a retrospective approach. Early adoption is permitted. SRP is currently evaluating the impact this new standard may have, if any, on its financial statements. In August 2016, the FASB issued ASU , Classification of Certain Cash Receipts and Cash Payments. This standard is effective for fiscal years beginning after December 15, 2018, and will need to be applied using a retrospective approach. There are eight main provisions of this ASU for which current GAAP either is unclear or does not include specific guidance. SRP is currently evaluating the impact this new standard may have, if any, on its financial statements. In August 2014, the FASB issued ASU , Disclosure of Uncertainties about an Entity s Ability to Continue as a Going Concern. This standard requires management to evaluate, for each annual and interim reporting period, whether there are conditions and events, considered in the aggregate, that raise substantial doubt about an entity s ability to continue as a going concern within one year after the date the financial statements are issued or are available to be issued. If substantial doubt is raised, additional disclosures around management s plan to alleviate these doubts are required. In fiscal year 2017, the Company adopted ASU The adoption of this standard did not have an impact on SRP s disclosures. Reclassifications For comparative purposes, certain amounts from prior periods have been reclassified to conform to the current period presentation. Except as disclosed in the first paragraph of the preceding Recently Issued Accounting Standards section, the reclassifications had no impact on total assets, total liabilities, net revenues or cash flows. 14 SRP 2017 ANNUAL REPORT

15 Subsequent Events SRP follows authoritative guidance which requires an entity to evaluate subsequent events through the date that the financial statements are either issued or available to be issued. Subsequent events for SRP have been evaluated through July 13, 2017, which is the date that the financial statements were issued. (3) REGULATORY MATTERS: The Electric Utility Industry The District operates in a regulated environment in which it has an obligation to deliver electric service to customers within its service area. In 1998, Arizona enacted the Arizona Electric Power Competition Act (the Act), which authorized competition in the retail sales of electric generation, recovery of stranded costs and competition in billing, metering and meter reading. While retail competition was available to all customers by 2001, only a few customers chose an alternative energy provider, and those customers have since returned to their incumbent utilities. At this time, there is no active retail competition within the District s service territory or, to the knowledge of the District, within the State of Arizona, and the District s Direct Access Program is suspended. At various times since 2006, numerous energy service, meter reading and meter service providers, brokers, large industrial customers and merchant power plant owners have urged the Arizona Corporation Commission (ACC) to reinstate some form of retail competition but none have been successful. The most recent effort was in May 2013, when the ACC, in response to various applications received, opened a further inquiry into retail competition, requesting that interested parties provide comments on a series of ACC-issued questions. The District participated in this inquiry. On September 11, 2013, the ACC voted to close its inquiry into whether the ACC should consider deregulation of the Arizona electricity market. The ACC s action was consistent with the position advocated by the District. However, effective July 1, 2012, the ACC approved another major Arizona utility s proposed buy-through pilot program whereby a limited number of large industrial customers are now allowed to purchase generation from other providers. In a separate proceeding filed in 2010, an advocacy group for the solar industry, comprised of equipment manufacturers, dealers and installers, and a solar electric provider, petitioned the ACC for a determination that providers of certain solar service agreements were not public service corporations. At issue was whether such providers were public service corporations under the Arizona Constitution and, therefore, regulated by the ACC. The ACC ruled on June 30, 2010, that a solar electric provider providing service to a school, nonprofit organization or governmental entity from a solar facility constructed on the customer s premises was not subject to ACC jurisdiction as a public service corporation. Regulation and Pricing Policies Under Arizona law, the District s publicly elected Board of Directors (the Board) has the authority to establish electric prices. The District is required to follow certain public notice and special Board meeting procedures before implementing any changes in the standard electric price plans. The financial statements reflect the pricing policies of the District s Board. The District s price plans include a base price component, a Fuel and Purchased Power Adjustment Mechanism (FPPAM) and an Environmental Programs Cost Adjustment Factor (EPCAF). Base prices recover costs for generation, transmission, distribution, customer services, metering, meter reading, billing and collections, and system benefits charges that are not otherwise recovered through the FPPAM or EPCAF. The FPPAM was implemented in May 2002 to adjust for increases and decreases in fuel costs. The EPCAF was implemented in November 2009 to cover costs incurred by the District to comply with requirements imposed by mandate that are related to renewable energy, energy efficiency and climate change. Through a system benefits surcharge to the District s transmission and distribution customers, the District recovers the costs SRP 2017 ANNUAL REPORT 15

16 of programs benefiting the general public, such as discounted rates for low-income customers and nuclear decommissioning, including the cost of spent fuel storage. On September 29, 2015, the Board approved a temporary 1.2% reduction to the EPCAF for the six-month winter season (November 2015 through April 2016). On June 23, 2016, the Board approved a temporary 1.0% decrease for the EPCAF and 2.7% decrease for the FPPAM for the two-month summer peak season (July and August 2016). On December 5, 2016, the Board approved a temporary 1.2% reduction to the EPCAF and a 0.4% reduction to the FPPAM for 10 months (January 2017 billing cycle through October 2017 billing cycle). Regulatory Accounting SRP accounts for the financial effects of the regulated portion of its operations in accordance with the provisions of authoritative guidance for regulated enterprises, which requires cost-based, rate-regulated utilities to reflect the impacts of regulatory decisions in their financial statements. SRP records regulatory assets, which represent probable future recovery of certain costs from customers through the pricing process, and regulatory liabilities, which represent probable future credits to customers through the ratemaking process or current collections for future expected costs. Based on actions of the Board, SRP believes the future collection of costs deferred as regulatory assets is probable. If events were to occur making recovery of these regulatory assets no longer probable, SRP would be required to write off the remaining balance of such assets as a onetime charge to net revenues. None of the regulatory assets earn a rate of return. The accompanying Combined Balance Sheets include the following regulatory assets and liabilities as of April 30 (in thousands): ASSETS Pension and other post-retirement benefits (Note [9]) $ 1,095,503 $ 1,043,199 Bond defeasance 109,125 78,988 Other 3,962 1,089 Total regulatory assets $ 1,208,590 $ 1,123,276 LIABILITIES Nuclear decommissioning $ 210,276 $ 167,844 Depreciation 148, ,972 Total regulatory liabilities $ 358,637 $ 310,816 The pension and other post-retirement benefits regulatory asset is adjusted as changes in actuarial gains and losses, prior service costs and transition assets or obligations are recognized as components of net periodic pension costs each year and is recovered through prices charged to customers. Bond defeasance regulatory assets are recovered over the remaining original amortization periods of the reacquired debt ending in various years through fiscal year The nuclear decommissioning regulatory liability is being deferred over the life of PVNGS and is being recovered through a component of the system benefits charge. Any difference between current year costs, revenues associated with nuclear decommissioning and earnings (losses) on the NDT is deferred in accordance with authoritative guidance for regulated enterprises and has no impact to SRP s earnings. The depreciation regulatory liability, which results from depreciation that is accelerated in excess of straight-line depreciation, is being deferred over the estimated remaining lives of assets. 16 SRP 2017 ANNUAL REPORT

17 (4) FAIR VALUE OF FINANCIAL INSTRUMENTS: SRP invests in U.S. government obligations, certificates of deposit and other marketable investments. Such investments are classified as cash and cash equivalents, temporary investments, other investments and segregated funds in the accompanying Combined Balance Sheets depending on the purpose and duration of the investment. Fair Value Option SRP adopted authoritative guidance which permits an entity to choose to measure many financial instruments and certain other items at fair value. SRP has elected the fair value option for all investment securities other than those classified as held-tomaturity. Election of the fair value option requires the security to be reported as a trading security. The fair value option was elected because management believes that fair value best represents the nature of the investments. While the investment securities held in these funds are reported as trading securities, the investments continue to be managed with a long-term focus. Accordingly, all purchases and sales within these funds are presented separately in the accompanying Combined Statements of Cash Flows as investing cash flows, consistent with the nature and purpose for which the securities are acquired. Realized and unrealized gains and losses on these investments are included in investment income (loss), net, in the accompanying Combined Statements of Net Revenues. The following table summarizes line items included in the accompanying Combined Balance Sheets at April 30 that include amounts recorded at fair value pursuant to the fair value option (in thousands): Measurement Attribute* Cash and cash equivalents Cash N/A $ 17,689 $ 10,358 Money market funds Fair value 291, ,691 Commercial paper Amortized cost 4,309 Total cash and cash equivalents 313, ,049 Non-utility property and other investments Money market funds Fair value 7,094 2,249 Trading investments Fair value 47,124 36,463 Held-to-maturity investments Amortized cost 91,706 72,855 Non-utility property N/A 112, ,050 Total non-utility property and other investments 258, ,617 Segregated funds, net of current portion Money market funds Fair value 8,070 63,970 Trading investments Fair value 1,182,838 1,046,171 Held-to-maturity investments Amortized cost 79,663 71,531 Total segregated funds, net of current portion 1,270,571 1,181,672 Temporary investments Held-to-maturity investments Amortized cost 180, ,603 Total temporary investments 180, ,603 Current portion of segregated funds Money market funds Fair value 101, ,021 Total current portion of segregated funds $ 101,228 $ 104,021 *N/A Asset category not eligible for fair value option. SRP 2017 ANNUAL REPORT 17

18 SRP s investments in debt securities are measured and reported at amortized cost when there is intent and ability to hold the security to maturity. SRP s amortized cost and fair value of held-to-maturity securities were $356.0 million and $348.8 million, respectively, at April 30, 2017, and $384.0 million and $385.0 million, respectively, at April 30, At April 30, 2017, SRP s investments in debt securities have maturity dates ranging from May 2017 to June SRP evaluates the held-to-maturity securities for other-than-temporary impairment on a periodic basis considering numerous factors. At April 30, 2017 and 2016, SRP did not hold any other-than-temporary impaired securities. As of April 30, 2017, the total unrecognized loss on held-to-maturity securities with amortized costs exceeding fair market value was approximately $2.5 million. SRP s trading investments are measured at fair value with unrealized trading gains and losses included in investment income, net. Unrealized trading gains and losses on Nuclear Decommissioning Trust investments are included in nuclear decommissioning regulatory liability. The following table summarizes unrealized gains (losses) from fair value changes related to investments still held at April 30 (in thousands): Segregated funds, net of current portion $ 74,077 $ (45,925) Non-utility property and other investments 2,917 (2,398) Total $ 76,994 $ (48,323) (5) DERIVATIVE INSTRUMENTS: Energy Risk Management Activities The District has an energy risk management program to limit exposure to risks inherent in normal energy business operations. The goal of the energy risk management program is to measure and manage exposure to market risks, credit risks and operational risks. Specific goals of the energy risk management program include reducing the impact of market fluctuations on energy commodity prices associated with customer energy requirements, excess generation and fuel expenses, in addition to meeting customer pricing needs, and maximizing the value of physical generating assets. The District employs established policies and procedures to meet the goals of the energy risk management program using various physical and financial instruments, including forward contracts, futures, swaps and options. Certain of these transactions are accounted for as commodity derivatives and are recorded in the accompanying Combined Balance Sheets as either an asset or liability measured at their fair value. Derivative instruments and the related collateral accounts, if applicable, that are subject to master netting agreements are presented as a net asset or liability on the Combined Balance Sheets. Changes in the fair value of commodity derivatives are recognized each period in net operating revenues and included in the accompanying Combined Statements of Net Revenues and classified as part of operating cash flows in the accompanying Combined Statements of Cash Flows. Some of the District s contractual agreements qualify and are designated for the normal purchases and normal sales exception and are not recorded at market value. This exception applies to physical sales and purchases of power or fuel where it is probable that physical delivery will occur; the pricing provisions are clearly and closely related to the underlying asset; and the documentation requirements are met. If a contract qualifies for the normal purchases and normal sales scope exception, the District accounts for the contract using settlement accounting (costs and revenues are recorded when physical delivery occurs). SRP has not elected to use hedge accounting for its derivative investments. See Note [6], FAIR VALUE MEASUREMENTS, for additional information on derivative valuation. 18 SRP 2017 ANNUAL REPORT