Leases

6 Months Ended

Jun. 30, 2024

We lease certain land, buildings, vehicles, equipment, and other property through operating rental agreements with varying terms, provisions, and expiration dates. APS also has certain purchased power and energy storage agreements that qualify as lease arrangements. Our leases have remaining terms that expire in 2024 through 2073. Substantially all of our leasing activities relate to APS.

In 1986, APS entered into agreements with three separate lessor trust entities in order to sell and lease back interests in Palo Verde Unit 2 and related common facilities. These lessor trust entities have been deemed VIEs for which APS is the primary beneficiary. As the primary beneficiary, APS consolidated these lessor trust entities. The impacts of these sale leaseback transactions are excluded from our lease disclosures as lease accounting is eliminated upon consolidation. See Note 6 for a discussion of VIEs.

APS has purchased power lease agreements that allow APS the right to the generation capacity from certain natural-gas fueled generators during certain months of each year throughout the term of the arrangements. As APS only has rights to use the assets during certain periods of each year, the leases have non-consecutive periods of use. APS does not operate or maintain the leased assets. APS controls the dispatch of the leased assets during the months of use and is required to pay a fixed monthly capacity payment during these periods of use. For these types of leased assets, APS has elected to combine both the lease and non-lease payment components and accounts for the entire fixed payment as a lease obligation. In addition to the fixed monthly capacity payments, APS must also pay variable charges based on the actual production volume of the assets. The variable consideration is not included in the measurement of our lease obligation.

APS has executed various energy storage purchased power lease agreements that allow APS the right to charge and discharge energy storage facilities. APS pays a fixed monthly capacity price for rights to use the lease assets. The agreements generally have 20-year lease terms and provide APS with the exclusive use of the energy storage assets through the lease term. APS does not operate or maintain the energy storage facilities and has no purchase options or residual value guarantees relating to these lease assets. For this class of energy storage lease assets, APS has elected to separate the lease and non-lease components. As of June 30, 2024, we have three separate energy storage leases that have achieved lease commencement and are accounted for as

operating leases. The lease terms for these energy storage agreements commenced in September 2023, April 2024, and June 2024.

The following tables provide information related to our lease costs (dollars in thousands):


	Three Months Ended June 30,				Six Months Ended June 30,
	2024		2023		2024		2023
Operating Lease Cost - Purchased Power & Energy Storage Lease Contracts	$	39,391	$	35,655	$	40,328	$	35,655
Operating Lease Cost - Land, Property, and Other Equipment	5,025		4,798		9,798		9,574
Total Operating Lease Cost	44,416		40,453		50,126		45,229
Variable Lease Cost (a)	47,783		47,994		69,347		64,724
Short-term Lease Cost	6,445		7,403		9,245		8,804
Total Lease Cost	$	98,644	$	95,850	$	128,718	$	118,757

(a) Primarily relates to purchased power lease contracts.

Lease costs are primarily included as a component of operating expenses on our Condensed Consolidated Statements of Income. Lease costs relating to purchased power and energy storage lease contracts are recorded in fuel and purchased power on the Condensed Consolidated Statements of Income and are subject to recovery under the PSA or RES. See Note 4. The tables above reflect the lease cost amounts before the effect of regulatory deferral under the PSA and RES. Variable lease costs are recognized in the period the costs are incurred, and primarily relate to renewable purchased power lease contracts. Payments under most renewable purchased power lease contracts are dependent upon environmental factors, and due to the inherent uncertainty associated with the reliability of the fuel source, the payments are considered variable and are excluded from the measurement of lease liabilities and right-of-use lease assets. Certain of our lease agreements have lease terms with non-consecutive periods of use. For these agreements, we recognize lease costs during the periods of use. Leases with initial terms of 12 months or less are considered short-term leases and are not recorded on the balance sheet.

The following table provides information related to the maturity of our operating lease liabilities (dollars in thousands):


	June 30, 2024
Year	Purchased Power & Energy Storage Lease Contracts		Land, Property & Equipment Leases		Total
2024 (remaining six months of 2024)	$	113,769	$	8,881	$	122,650
2025	152,272		14,321		166,593
2026	165,997		12,006		178,003
2027	191,917		9,568		201,485
2028	195,714		7,126		202,840
2029	199,651		5,137		204,788
Thereafter	1,053,174		60,862		1,114,036
Total lease commitments	2,072,494		117,901		2,190,395
Less imputed interest	526,282		41,712		567,994
Total lease liabilities	$	1,546,212	$	76,189	$	1,622,401

We recognize lease assets and liabilities upon lease commencement. At June 30, 2024, we have various lease arrangements that have been executed, but have not yet commenced. We expect the total fixed consideration paid for these arrangements, which includes both lease and non-lease payments, will approximate $6.9 billion over the terms of the agreements. These arrangements primarily relate to energy storage assets. The lease commencement dates for these arrangements have experienced delays. APS continues to work with the lessors to determine revised commencement dates. We expect lease commencement dates ranging from August 2024 through April 2026, with lease terms expiring through March 2046. As a result of these delays and other events, APS has received cash proceeds from the lessors prior to lease commencement. Proceeds received from lessors relating to energy storage PPA leases are accounted for as lease incentives on our Condensed Consolidated Balance Sheets, and upon lease commencement are amortized over the associated lease term. For regulatory purposes, the proceeds received by APS relating to these PPA leases are treated as a reduction to fuel and purchased power costs through the PSA in the period proceeds are received. See Note 4.

The following tables provide other additional information related to operating lease liabilities (dollars in thousands):


	Six Months Ended June 30, 2024			Six Months Ended June 30, 2023
Cash paid for amounts included in the measurement of lease liabilities — operating cash flows:	$	18,278		$	13,798
Right-of-use operating lease assets obtained in exchange for operating lease liabilities	309,141		(a)	553,665		(b)


	June 30, 2024		December 31, 2023
Weighted average remaining lease term	12 years		10 years
Weighted average discount rate (c)	4.85	%	4.53	%

(a) Primarily relates to the two new energy storage operating lease agreements that commenced in 2024.

(b) Primarily relates to the two purchased power operating lease agreements that were modified in January 2023.

(c) Most of our lease agreements do not contain an implicit rate that is readily determinable. For these agreements, we use our incremental borrowing rate to measure the present value of lease liabilities. We determine our incremental borrowing rate at lease commencement based on the rate of interest that we would have to pay to borrow, on a collateralized basis over a similar term, an amount equal to the lease payments in a similar economic environment. We use the implicit rate when it is readily determinable.