Leases

9 Months Ended

Sep. 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. These leases are accounted for as operating leases, with lease terms that commenced between September 2023 and August 2024.

The following table provides information related to our lease costs (dollars in thousands):


	Three Months Ended September 30,				Nine Months Ended September 30,
	2024		2023		2024		2023
Operating Lease Cost - Purchased Power & Energy Storage Lease Contracts	$	89,410	$	81,456	$	129,738	$	117,111
Operating Lease Cost - Land, Property, and Other Equipment	5,110		4,820		14,908		14,394
Total Operating Lease Cost	94,520		86,276		144,646		131,505
Variable Lease Cost (a)	51,835		48,572		121,182		113,296
Short-term Lease Cost	10,604		9,114		19,849		17,918
Total Lease Cost	$	156,959	$	143,962	$	285,677	$	262,719

(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 sheets.

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


	September 30, 2024
Year	Purchased Power & Energy Storage Lease Contracts		Land, Property & Equipment Leases		Total
2024 (remaining three months of 2024)	$	38,470	$	4,268	$	42,738
2025	158,362		15,144		173,506
2026	172,087		12,829		184,916
2027	198,007		10,280		208,287
2028	201,804		7,718		209,522
2029	205,741		5,647		211,388
Thereafter	1,140,971		61,381		1,202,352
Total lease commitments	2,115,442		117,267		2,232,709
Less imputed interest	555,212		41,359		596,571
Total lease liabilities	$	1,560,230	$	75,908	$	1,636,138

We recognize lease assets and liabilities upon lease commencement. At September 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 $9.1 billion over the terms of the agreements. These arrangements primarily relate to energy storage assets. We expect lease commencement dates ranging from March 2025 through May 2027, with lease terms expiring through May 2046. The lease commencement dates for certain arrangements have experienced delays. APS is working with the lessors to determine the expected commencement dates of these arrangements which may commence prior to March 2025, subject to the lessor achieving certain operational provisions. As a result of these delays and other events, APS has received cash proceeds from certain 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):


	Nine Months Ended September 30, 2024			Nine Months Ended September 30, 2023
Cash paid for amounts included in the measurement of lease liabilities — operating cash flows:	$	101,213		$	89,304
Right-of-use operating lease assets obtained in exchange for operating lease liabilities:	384,593		(a)	599,281		(b)


	September 30, 2024		December 31, 2023
Weighted average remaining lease term	12 years		10 years
Weighted average discount rate (c)	4.90	%	4.53	%

(a) Primarily relates to the three 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.