Notes to Condensed Consolidated Financial Statements

(unaudited)

Note 1. Background and Nature of Operations

Avangrid, Inc., formerly Iberdrola USA, Inc. (AVANGRID, we or the Company), is an energy services holding company engaged in the regulated energy distribution business through its principal subsidiary Avangrid Networks, Inc. (Networks) and in the renewable energy generation business through its principal subsidiary, Avangrid Renewables Holding, Inc. (ARHI). ARHI in turn holds subsidiaries including Avangrid Renewables, LLC (Renewables). Iberdrola, S.A. (Iberdrola), a corporation organized under the laws of the Kingdom of Spain, owns 81.5% the outstanding common stock of AVANGRID. The remaining outstanding shares are publicly traded on the New York Stock Exchange and owned by various shareholders.  

In December 2017, management committed to a plan to sell the gas storage and trading businesses because they represented non-core businesses that were not aligned with our strategic objectives. At that time, we determined that the assets and liabilities associated with our gas trading and storage businesses met the criteria for classification as assets held for sale, but did not meet the criteria for classification as discontinued operations. On March 1, 2018, the Company closed a transaction to sell Enstor Energy Services, LLC, which operated AVANGRID’s gas trading business, to CCI U.S. Asset Holdings LLC, a subsidiary of Castleton Commodities International, LLC (CCI). On May 1, 2018, the Company closed a transaction to sell Enstor Gas, LLC, which operated AVANGRID’s gas storage business, to Amphora Gas Storage USA, LLC.

Note 2. Basis of Presentation

The accompanying notes should be read in conjunction with the notes to the consolidated financial statements of Avangrid, Inc. and subsidiaries as of December 31, 2017 and 2016 and for the three years ended December 31, 2017 included in AVANGRID’s Annual Report on Form 10-K for the fiscal year ended December 31, 2017.

The accompanying unaudited financial statements are prepared on a consolidated basis and include the accounts of AVANGRID and its consolidated subsidiaries Networks and ARHI. Intercompany accounts and transactions have been eliminated in consolidation. The year-end balance sheet data was derived from audited financial statements. The unaudited condensed consolidated financial statements for the interim periods have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, the interim condensed consolidated financial statements do not include all the information and note disclosures required by U.S. GAAP for complete financial statements.

We believe the disclosures made are adequate to make the information presented not misleading. In the opinion of management, the accompanying condensed consolidated financial statements contain all adjustments necessary to present fairly our condensed consolidated balance sheets, condensed consolidated statements of income, comprehensive income, cash flows and changes in equity for the interim periods described herein. All such adjustments are of a normal and recurring nature, except as otherwise disclosed. The results for the three and six months ended June 30, 2018, are not necessarily indicative of the results for the entire fiscal year ending December 31, 2018.

Note 3. Significant Accounting Policies and New Accounting Pronouncements

As of June 30, 2018, the new accounting pronouncements that we have adopted as of January 1, 2018, and reflected in our consolidated financial statements are described below. There have been no other material changes to the significant accounting policies described in our consolidated financial statements as of December 31, 2017 and 2016, and for the three years ended December 31, 2017.

Adoption of New Accounting Pronouncements

(a) Revenue from contracts with customers

In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Codification (ASC), Topic 606, Revenue from Contracts with Customers (ASC 606) replacing the existing accounting standard and industry specific guidance for revenue recognition with a five-step model for recognizing and measuring revenue from contracts with customers. The FASB further amended ASC 606 through various updates issued thereafter. The core principle is for an entity to recognize revenue to represent the transfer of promised goods or services to customers in amounts that reflect the consideration to which the entity expects to be entitled in exchange for those goods or services. We adopted ASC 606 effective January 1, 2018, and applied the modified retrospective method, for which we did not have a cumulative effect adjustment to retained earnings for initial application of the guidance. Refer to Note 4 for further details.

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(b) Clarifying the scope of asset derecognition guidance and accounting for partial sales of nonfinancial assets   

The FASB issued amendments in February 2017 concerning asset derecognition and partial sales of nonfinancial assets. The amendments clarify the scope of asset derecognition guidance and accounting for partial sales of nonfinancial assets, and also define in-substance nonfinancial assets. Those amendments apply to a company that: sells nonfinancial assets (land, buildings, materials and supplies, intangible assets) to noncustomers; sells nonfinancial assets and financial assets (cash, receivables) when the value is concentrated in the nonfinancial assets; or sells partial ownership interests in nonfinancial assets. The amendments do not apply to sales to customers or to sales of businesses. The new guidance in ASC 610-20 on accounting for derecognition of a nonfinancial asset and an in-substance nonfinancial asset applies only when the asset (or asset group) does not meet the definition of a business and is not a not-for-profit activity. An entity must apply the amendments at the same time that it applies the new ASC 606 revenue recognition standard. We adopted ASC 610-20 effective January 1, 2018, and applied the modified retrospective method, which affected the accounting for our tax equity investments. As shown in the table below, we recorded a cumulative adjustment that decreased retained earnings. The cumulative adjustment relates to the reclassification of our tax equity investments to noncontrolling interests. As a result, we recorded our tax equity investments based on the Hypothetical Liquidation at Book Value (HLBV) accounting method and we will record changes in the HLBV at each reporting period within net income/loss attributable to noncontrolling interests.

The cumulative effects of the changes to our consolidated balance sheet as of January 1, 2018, for our adoption of ASC 606 and ASC 610-20 were as follows:

We also adopted the following standards as of their effective date of January 1, 2018, none of which had a material effect on our consolidated results of operations, financial position, cash flows, and disclosures.

(c) Classifying and measuring financial instruments

In January 2016, the FASB issued final guidance on the classification and measurement of financial instruments. As a result of our adoption we reclassified immaterial amounts from AOCI to retained earnings.

(d) Certain classifications in the statement of cash flows

In August 2016, the FASB issued amendments to address existing diversity in practice concerning the classification of certain cash receipts and payments on the statement of cash flows, which must be applied on a full retrospective basis. Upon adoption, we had no changes to our cash flow classifications and disclosures in our consolidated financial statements.

(e) Improving the presentation of net periodic benefit costs

In March 2017, the FASB issued amendments to improve the presentation of net periodic pension cost and net periodic postretirement benefit cost in the financial statements. We retrospectively adopted the amendments that require us to present the service cost component separately from the other (non-service) components of net benefit cost, to report the service cost component in the income statement line item where we report the corresponding compensation cost, and to present all non-service components outside of operating cost. As a result, we have reclassified the non-service components – interest cost, expected return on plan assets, amortization of prior service cost (benefit), amortization of net loss, and settlement charge – from Operations and maintenance to Other income/(expense) within the statement of income. Prospectively, from adoption, we will capitalize only the service cost component when applicable (for example, as a cost of a self-constructed asset). We elected to apply the practical expedient that allows us to retrospectively apply the amendments on adoption to net benefit costs for comparative periods by using the amounts disclosed in our notes to financial statements for Post-retirement and Similar Obligations as the basis for those periods. In addition to those amounts, we included amortization of net benefit costs recorded as regulatory deferrals as a result of purchase accounting in a prior year. In connection with applying the practical expedient, in periods after adoption we will continue to include in operating income all legacy net benefit costs previously capitalized as a cost of self-constructed assets and other deferred regulatory costs. Our adoption of the amendments did not affect prior period net income attributable to AVANGRID. Beginning in 2018, non-service cost components incurred by the Networks utilities are no longer eligible for construction capitalization, but such costs can be deferred and included as

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a component of customer rates if permitted by their regulator. For the t hree and six months ended June 30, 2018, immaterial additional expense has been incurred as a result of the adoption of this standard.

The effect of the change in retrospective presentation related to the net periodic cost of our defined benefit pension and other postretirement employee benefits plans on our consolidated statement of income was as follows:

We have also revised the segment information related to our Networks reportable segment provided in Note 13 for the three and six months ended June 30, 2017, to reflect the change as a result of the adoption of these amendments.

Accounting Pronouncements Issued But Not Yet Adopted

The following are new accounting pronouncements issued since December 31, 2017, that we have evaluated or are evaluating to determine their effect on our consolidated financial statements.

(a) Leases, amendments and updates

In January 2018, the FASB issued amendments to clarify the application of the new leases guidance to land easements (also commonly called rights of way) and provide relief concerning adoption efforts for existing land easements that are not accounted for as leases under current GAAP. The updated guidance is effective for public entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, and early application is permitted. In July 2018 the FASB issued a number of technical corrections and improvements to the new leases guidance, which affect narrow aspects of the guidance and are effective as noted above. We will assess the corrections and improvements, but they are not expected to have a significant effect. Also, in July 2018 the FASB issued amendments to the leases standard to allow entities an additional option for transition. The guidance currently requires a modified retrospective transition method of adoption, under which lessees and lessors are to recognize and measure leases at the beginning of the earliest period presented. The additional, optional transition method allows an entity to initially apply the requirements of the leases standard at the adoption date. If this transition method is adopted, reporting for comparative periods presented in the consolidated financial statements would not be restated. We will assess the additional transition option to decide which method to adopt.

We continue to review our contracts and are executing a broad implementation plan as we prepare for our adoption of the new leases guidance on January 1, 2019. The key components of our implementation plan and steps that are currently underway include: 1) uploading complete and pertinent lease contract data into a new accounting system that integrates with existing systems; 2) identifying, evaluating and documenting related technical accounting issues, industry implementation issues, policy considerations and financial reporting implications; 3) identifying and implementing changes to process and controls to ensure all aspects of the new guidance are effectively addressed; and 4) simulating the effects of the leases standard to assess the expected impact upon adoption and to finalize transition option and practical expedient selections. Through June 2018, we are substantially complete with step 1; however, we are still undergoing final reviews of uploaded information and lease contract data in the new accounting system database, and validating the simulation and outputs from the new lease accounting system. Steps 2 through 4 are currently in process and we expect to complete them in the fourth quarter of 2018. We expect our adoption of the new leases guidance will materially affect our financial position through the recording of operating leases on the balance sheet as right-of-use assets, along with the corresponding liabilities. However, we do not expect significant changes to our pattern of expense recognition under the new leases standard.

(b) Reclassification of certain tax effects from accumulated other comprehensive income

In February 2018, the FASB issued amendments to address a narrow-scope financial reporting issue that arose as a consequence of the Tax Cuts and Jobs Act of 2017 (the Tax Act) enacted on December 22, 2017, by the U.S. federal government. Under current guidance, the adjustment of deferred taxes for the effect of a change in tax laws or rates is required to be included in income from continuing operations, thus the associated tax effects of items within AOCI (referred to as stranded tax effects) do not reflect the appropriate tax rate. The amendments allow a reclassification from AOCI to retained earnings for stranded tax effects resulting from the Tax Act. As a result, the amendments eliminate the stranded tax effects resulting from the Tax Act and will improve the usefulness of information reported to financial statement users. The amendments only relate to the reclassification of the income tax effects of the Tax Act, and do not affect the underlying guidance that requires the effect of a change in tax laws or rates to be included in income from continuing operations. The amendments are effective for all entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted including, for public entities, adoption in any interim period for which financial statements have not been issued. An entity has the option to apply the amendments either in the period of adoption or retrospectively

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to each period (or periods) in whic h it recognizes the effect of the change in the U.S. federal corporate income tax rate in the Tax Act. An entity is required to disclose its accounting policy election, including its policy for reclassifying material stranded tax effects in AOCI to earning s (specific identification or portfolio method). We have not early adopted the amendments as of June 30, 2018. We expect our adoption of the amendments will not materially affect our consolidated results of operations, financial position, cash flows, and d isclosures.

Note 4. Revenue

On January 1, 2018, we adopted ASC 606 and all related amendments using the modified retrospective method, which we applied only to contracts that were not completed as of January 1, 2018. For reporting periods beginning on January 1, 2018, we present revenue in accordance with ASC 606, and have not adjusted comparative prior period information, which we continue to report under the legacy accounting standards in effect for those prior periods. For the three and six months ended June 30, 2018, the effect of applying ASC 606 to recognize revenue as compared to applying the legacy accounting standards was not material.

We recognize revenue when we have satisfied our obligations under the terms of a contract with a customer, which generally occurs when the control of promised goods or services transfers to the customer. We measure revenue as the amount of consideration we expect to receive in exchange for providing those goods or services. Contracts with customers may include multiple performance obligations. For such contracts, we allocate revenue to each performance obligation based on its relative standalone selling price. We generally determine standalone selling prices based on the prices charged to customers. Certain revenues are not within the scope of ASC 606, such as revenues from leasing, derivatives, other revenues that are not from contracts with customers and other contractual rights or obligations, and we account for such revenues in accordance with the applicable accounting standards. We exclude from revenue amounts collected on behalf of third parties, including any such taxes collected from customers and remitted to governmental authorities. We do not have any material significant payment terms because we receive payment at or shortly after the point of sale.

The following describes the principal activities, by reportable segment, from which we generate revenue. For more detailed information about reportable segments, refer to Note 13.

Networks Segment

Networks derives its revenue primarily from tariff-based sales of electricity and natural gas service to customers in New York, Connecticut, Maine and Massachusetts, with no defined contractual term. For such revenues, we recognize revenues in an amount derived from the commodities delivered to customers. Other major sources of revenue are electricity transmission and wholesale sales of electricity and natural gas.

Tariff-based sales are subject to the corresponding state regulatory authorities, which determine prices and other terms of service through the ratemaking process. Maine state law prohibits the utility from providing the electricity commodity to customers. In New York, Connecticut and Massachusetts, customers have the option to obtain the electricity or natural gas commodity directly from the utility or from another supplier. For customers that receive their commodity from another supplier, the utility acts as an agent and delivers the electricity or natural gas provided by that supplier. Revenue in those cases is only for providing the service of delivery of the commodity. Networks entities calculate revenue earned but not yet billed based on the number of days not billed in the month, the estimated amount of energy delivered during those days and the estimated average price per customer class for that month. Differences between actual and estimated unbilled revenue are immaterial.

Transmission revenue results from others’ use of the utility’s transmission system to transmit electricity and is subject to Federal Energy Regulatory Commission (FERC) regulation, which establishes the prices and other terms of service. Long-term wholesale sales of electricity are based on individual bilateral contracts. Short-term wholesale sales of electricity are generally on a daily basis based on market prices and are administered by the Independent System Operator-New England (ISO-NE) and the New York Independent System Operator (NYISO), or PJM Interconnection, L.L.C. (PJM), as applicable. Wholesale sales of natural gas are generally short-term based on market prices through contracts with the specific customer.

The performance obligation in all arrangements is satisfied over time because the customer simultaneously receives and consumes the benefits as Networks delivers or sells the electricity or natural gas or provides the transmission service. We record revenue for all of those sales based upon the regulatory-approved tariff and the volume delivered or transmitted, which corresponds to the amount that we have a right to invoice. There are no material initial incremental costs of obtaining a contract in any of the arrangements. Networks does not adjust the promised consideration for the effects of a significant financing component if it expects, at contract inception, that the time between the delivery of promised goods or service and customer payment will be one year or less. Networks does not have any material significant payment terms because it receives payment at or shortly after the point of sale. For its New York utilities, Networks assesses its deferred payment arrangements at each balance sheet date for the existence of significant financing components, but has had no material adjustments as a result.

Certain Networks entities record revenue from Alternative Revenue Programs (ARPs), which is not ASC 606 revenue. Such programs represent contracts between the utilities and their regulators. The Networks ARPs include revenue decoupling mechanisms, other

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ratemaking mechanisms, annual revenue requirement reconciliations, and other demand side management progra ms. The Networks entities recognize and record only the initial recognition of “originating” ARP revenues (when the regulatory-specified conditions for recognition have been met). When they subsequently include those amounts in the price of utility service billed to customers, they record such amounts as a recovery of the associated regulatory asset or liability. When they owe amounts to customers in connection with ARPs, they evaluate those amounts on a quarterly basis and include them in the price of util ity service billed to customers and do not reduce ARP revenues.

Networks also has various other sources of revenue including billing, collection, other administrative charges, sundry billings, rent of utility property, and miscellaneous revenue. It classifies such revenues as other ASC 606 revenues to the extent they are not related to revenue generating activities from leasing, derivatives, or ARPs.

Renewables Segment

Renewables derives its revenue primarily from the sale of energy, transmission, capacity and other related charges from its renewable wind, solar, and thermal energy generating sources. For such revenues, we will recognize revenues in an amount derived from the commodities delivered and from services as they are made available. Renewables has bundled power purchase agreements consisting of electric energy, transmission, capacity and/or renewable energy credits (RECs). The related contracts are generally long-term with no stated contract amount, that is, the customer is entitled to all of the unit’s output. Renewables also has unbundled sales of electric energy and capacity, RECs and natural gas, which are generally for periods of less than a year. The performance obligations in substantially all of both bundled and unbundled arrangements for electricity and natural gas are satisfied over time, for which we record revenue based on the amount invoiced to the customer for the actual energy delivered. The performance obligation for stand-alone RECs is satisfied at a point in time, for which we record revenue when the performance obligation is satisfied upon delivery of the REC. Renewables does not have any material significant payment terms because it receives payment at or shortly after the point of sale. There are no material initial incremental costs of obtaining a contract or significant financing elements in any of the arrangements.

Renewables classifies certain contracts for the sale of electricity as either leases or derivatives, in accordance with the applicable accounting standards. Renewables also has revenue from its energy trading operations, which it generally classifies as derivative revenue. However, trading contracts not classified as derivatives are within the scope of ASC 606, with the performance obligation of the delivery of energy (electricity, natural gas) and settlement of the contracts satisfied at a point in time at which time we recognize the revenue. Renewables also has other ASC 606 revenue, which we recognize based on the amount invoiced to the customer.

Certain customers may receive cash credits, which we account for as variable consideration. Renewables estimates those amounts based on the expected amount to be provided to customers and reduces revenues recognized. We believe that there will not be significant changes to our estimates of variable consideration.

Other

Other, which does not represent a segment, derives its revenues primarily from providing natural gas storage services to customers, gas trading operations generally classified as derivative revenue in accordance with the applicable accounting standards, gas trading contracts not classified as derivatives, and other miscellaneous revenues including intersegment eliminations. See Note 20 – Assets Held For Sale for further discussion of the sale of the gas storage and trading businesses in the six months ended June 30, 2018.

Contract Costs and Practical Expedient

We recognize an asset for incremental costs of obtaining a contract with a customer when we expect the benefit of those costs to be longer than one year. Renewables has an origination sharing bonus plan that meets the requirements for capitalization. Costs incurred prior to 2018 were insignificant and not capitalized. Costs capitalized to date in 2018 are also insignificant, with amortization on a straight-line basis over the term of the related contract for which the terms may be from three years to 20 years. We apply a practical expedient to expense as incurred costs to obtain a contract when the amortization period is one year or less. We record costs incurred to obtain a contract within operating expenses, including amortization of capitalized costs.

Revenues disaggregated by major source for our reportable segments for the three and six months ended June 30, 2018 are as follows:

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