General


The following discussion and analysis provides information on AWR's consolidated
operations and assets, and includes specific references to AWR's individual
segments and its subsidiaries (GSWC, BVESI, and ASUS and its subsidiaries), and
AWR (parent) where applicable.  On July 1, 2020, GSWC completed the transfer of
the electric utility assets and liabilities from its electric division to BVESI
in exchange for common shares of BVESI. GSWC then immediately distributed all of
BVESI's common shares to AWR, whereupon BVESI became wholly owned directly by
AWR. The reorganization is not expected to result in any substantive changes to
AWR's operations or business segments.
Included in the following analysis is a discussion of water and electric gross
margins.  Water and electric gross margins are computed by subtracting total
supply costs from total revenues.  Registrant uses these gross margins as
important measures in evaluating its operating results.  Registrant believes
these measures are useful internal benchmarks in evaluating the performance of
GSWC and BVESI. The discussions and tables included in the following analysis
also present Registrant's operations in terms of earnings per share by business
segment, which equals each business segment's earnings divided by Registrant's
weighted average number of diluted common shares. Furthermore, the retroactive
impact related to the first six months of 2019 and for fiscal 2018 resulting
from the CPUC's final decision on the electric general rate case issued in
August 2019 has been excluded when communicating the electric segment's third
quarter and year-to-date 2019 results to help facilitate comparisons of
Registrant's performance from period to period. All of these items are derived
from consolidated financial information but are not presented in our financial
statements that are prepared in accordance with Generally Accepted Accounting
Principles (GAAP) in the United States. These items constitute "non-GAAP
financial measures" under the Securities and Exchange Commission rules.
Registrant believes that the disclosures of the water and electric gross
margins, and earnings per share by business segment provide investors with
clarity surrounding the performance of its segments.  Registrant reviews these
measurements regularly and compares them to historical periods and to its
operating budget. However, these measures, which are not presented in accordance
with GAAP, may not be comparable to similarly titled measures used by other
entities and should not be considered as an alternative to operating income or
earnings per share, which are determined in accordance with GAAP. A
reconciliation of water and electric gross margins to the most directly
comparable GAAP measures is included in the table under the section titled
"Operating Expenses: Supply Costs."  A reconciliation to AWR's diluted earnings
per share is included in the discussion under the sections titled "Summary of
Third Quarter Results by Segment" and "Summary of Year-to-Date Results by
Segment."
Overview
Factors affecting our financial performance are summarized under Forward-Looking
Information and under "Risk Factors" in our Form 10-K for the period ended
December 31, 2019 filed with the SEC.
Water and Electric Segments:
GSWC's and BVESI's revenues, operating income, and cash flows have been earned
primarily through delivering potable water to homes and businesses in California
and electricity in the Big Bear area of San Bernardino County, California,
respectively. Rates charged to GSWC and BVESI customers are determined by the
CPUC. These rates are intended to allow recovery of operating costs and a
reasonable rate of return on capital.  GSWC and BVESI plan to continue seeking
additional rate increases in future years from the CPUC to recover operating and
supply costs, and receive reasonable returns on invested capital. Capital
expenditures in future years at GSWC and BVESI are expected to remain at higher
levels than depreciation expense. When necessary, GSWC and BVESI are able to
obtain funds from external sources in the capital markets and through bank
borrowings.
General Rate Case Filings and Other Matters:

Water GRC for years 2022 - 2024: On July 15, 2020, GSWC filed a general rate case application for all of its water regions and its general office. This general rate case will determine new water rates for the years 2022 - 2024. Among other things, GSWC's requested capital budgets in this application of approximately $450.6 million for the three-year rate cycle, and another $11.4 million of capital projects to be filed for revenue recovery through advice letters when those projects are completed. A decision in the water general rate case is scheduled for the fourth quarter of 2021, with new rates to become effective January 1, 2022.

Water General Rate Case for years 2019 - 2021: In May 2019, the CPUC issued a final decision on GSWC's water general rate case, which determined new rates for the years 2019 - 2021 with rates retroactive to January 1, 2019. Among other things, the final decision authorized GSWC to invest approximately $334.5 million over the rate cycle. The $334.5 million of infrastructure investment includes $20.4 million of capital projects to be filed for revenue recovery through advice letters when those projects are completed.


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Table of Contents The final decision also allowed for water gross margin increases in 2020 and 2021, subject to an earnings test. Effective January 1, 2020, GSWC received its full second-year step increase, which it achieved because of passing an earnings test at all of its ratemaking areas. The full step increase is expected to generate an additional $10.4 million in water gross margin for 2020. The final decision also allows for a potential additional increase in the water gross margin of approximately $11.4 million in 2021, subject to the results of an earnings test and changes to the forecasted inflationary index values.

Issuance of Senior Unsecured Notes at GSWC: On July 8, 2020, GSWC completed the issuance of unsecured private placement notes totaling $160 million. In connection with this financing, GSWC issued $85 million in 2.17% senior notes which mature in 2030, and $75 million in 2.90% senior notes which mature in 2040. GSWC used the proceeds from the notes to pay down a majority of its intercompany borrowings from AWR. AWR used the proceeds from GSWC to pay down amounts outstanding under its credit facility. In March 2020, AWR amended its credit facility to temporarily increase the borrowing capacity to $260 million. Following the issuance of GSWC's notes and effective July 15, 2020, AWR reduced the aggregate borrowing capacity back down to $200 million pursuant to the terms of the revolving credit facility agreement.

Final Decision on Low-Income Affordability Rulemaking: On August 27, 2020, the CPUC issued a final decision in the first phase of the CPUC's Order Instituting Rulemaking evaluating the low income ratepayer assistance and affordability objectives contained in the CPUC's 2010 Water Action Plan, which also addressed other issues including matters associated with the continued use of the Water Revenue Adjustment Mechanism ("WRAM") by California water utilities. The final decision also addressed the continued use of the Modified Cost Balancing Account ("MCBA"), which is a full-cost balancing account used to track the difference between adopted and actual water supply costs (including the effects of changes in both rates and volume). Based on the final decision, any general rate case application filed by GSWC and the other California water utilities after the August 27, 2020 effective date of this decision, may not include a proposal to continue the use of the WRAM or MCBA, but may instead include a proposal to use a limited price adjustment mechanism (the Monterey-Style WRAM) and an incremental supply cost balancing account. The final decision will not have any impact on GSWC's WRAM or MCBA balances during the current rate cycle (2019 - 2021). In addition, the decision supports GSWC's position that it does not apply to its general rate case application filed in July 2020, which will set new rates for the years 2022 - 2024. However, at this time, management cannot predict the potential impact of this decision, if any, on the pending water general rate case. Since its implementation in 2008, the WRAM and MCBA have helped mitigate fluctuations in GSWC's earnings due to changes in water consumption by its customers or changes in water supply mix. Replacing them with mechanisms recommended in the final decision would result in more volatility in GSWC's future earnings and could prevent full recovery of its authorized water gross margin. On or prior to October 5, 2020, GSWC, other California water utilities, and the California Water Association filed separate applications for rehearing on this matter. At this time, management cannot predict the outcome of this matter.


  Cost of Capital Proceeding:
Investor-owned water utilities serving California are required to file their
cost of capital applications on a triennial basis, with the next scheduled
filing required to have taken place on May 1, 2020 and to be effective for the
years 2021 - 2023. In January 2020, GSWC, along with the three other water
utilities, requested an extension of the date by which each of them must file
its 2020 cost of capital application. In March 2020, the CPUC approved the
request, postponing the filing date by one year until May 1, 2021, with a
corresponding effective date of January 1, 2022. The CPUC also approved the
joint parties' request to leave the current Water Cost of Capital Mechanism in
place, but there will be no changes to the companies' rate of return on rate
base during the one-year extension, regardless of what the mechanism might
otherwise indicate.
GSWC's current authorized rate of return on rate base is 7.91%, based on its
weighted cost of capital, which will continue in effect through December 31,
2021. The 7.91% return on rate base includes a return on equity of 8.9%, an
embedded cost of debt of 6.6%, and a capital structure with 57% equity and 43%
debt.

Electric Segment General Rate Case: In August 2019, the CPUC issued a final decision on the electric general rate case. Among other things, the decision (i) extended the rate cycle by one year (new rates were effective for 2018 - 2022); (ii) increased the electric gross margin for 2018 by approximately $2.3 million compared to the 2017 adopted electric gross margin, adjusted for tax reform changes; (iii) authorized the electric segment to construct all the capital projects requested in its application, which are dedicated to improving system safety and reliability and total approximately $44 million over the 5-year rate cycle; and (iv) increased the adopted electric gross margin by $1.2 million for each of the years 2019 and 2020, by $1.1 million in 2021, and by $1.0 million in 2022. The rate increases for 2019 - 2022 are not subject to an earnings test. The decision authorized a return on equity for the electric segment of 9.60% and included a capital structure and debt cost that is consistent with those approved by the CPUC in March 2018 in connection with GSWC's water segment cost of capital proceeding. The rate case decision continues to apply to BVESI.


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  Table of Contents
Due to the delay in finalizing the electric general rate case, electric revenues
recognized during the first six months of 2019 were based on 2017 adopted rates.
Because the August 2019 CPUC final decision was retroactive to January 1, 2018,
the cumulative retroactive earnings impact of the decision was included in the
third quarter results of 2019, including approximately $0.03 per share for the
six months ended June 30, 2019, and $0.04 per share for the full year ended
December 31, 2018 had the new 2018 and 2019 rates been in place at those times.
Contracted Services Segment:
ASUS's revenues, operating income and cash flows are earned by providing water
and/or wastewater services, including operation and maintenance services and
construction of facilities at the water and/or wastewater systems at various
military installations, pursuant to 50-year firm fixed-price contracts. The
contract price for each of these 50-year contracts is subject to annual economic
price adjustments. Additional revenues generated by contract operations are
primarily dependent on new construction activities under contract modifications
with the U.S. government or agreements with other third-party prime contractors.
COVID-19:
GSWC, BVESI, and ASUS have continued their operations given that their water,
wastewater, and electric utility services are deemed essential.  The Company's
responses to the COVID-19 pandemic take into account the guidance provided by
federal, state, and local health authorities and other government officials. The
response of GSWC and BVESI has included: (i) suspending, through April 2021,
service disconnections for nonpayment pursuant to CPUC orders; (ii) increasing
the number of employees telecommuting; and (iii) delaying some capital
improvement projects at the water utility services business. At this time,
neither GSWC nor BVESI is able to predict the financial impact this situation
may have on the remainder of 2020. Thus far, the COVID-19 pandemic has not had a
material impact on ASUS's operations.
The pandemic has caused significant volatility in financial markets, resulting
in significant fluctuations in the fair value of plan assets in GSWC's pension
and other retirement plans, which are likely to continue. Furthermore, due to
expected future credit losses on utility customer bills, GSWC and BVESI have
increased their allowance for doubtful accounts as of September 30, 2020.
However, the CPUC has authorized GSWC and BVESI to track incremental costs,
including bad debt expense in excess of what is included in their respective
revenue requirements, incurred as a result of the COVID-19 pandemic in a
Catastrophic Event Memorandum Account ("CEMA") to be filed with the CPUC for
future recovery. Through September 30, 2020, AWR has recorded approximately $1.4
million in the CEMA regulatory asset accounts related to bad debt expense in
excess of GSWC's and BVESI's revenue requirement, personal protective equipment,
printing costs and other incremental miscellaneous costs. By tracking these
costs in a CEMA, utilities can later ask for recovery of these costs from
the CPUC.
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  Table of Contents
Summary of Third Quarter Results by Segment
The table below sets forth the third quarter diluted earnings per share by
business segment:

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