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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
-----------------
FORM 10-Q
For the quarterly period ended
------------------------------
September 30, 2002
Commission File No. 1-6407
-----------------
SOUTHERN UNION COMPANY
(Exact name of registrant as specified in its charter)
Delaware 75-0571592
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One PEI Center, Second Floor 18711
Wilkes-Barre, Pennsylvania (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (570) 820-2400
Securities Registered Pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange in which registered
------------------- -----------------------------------------
Common Stock, par value $1 per share New York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes |X| No
----- -----
The number of shares of the registrant's Common Stock outstanding on November 8,
2002 was 55,549,034.
SOUTHERN UNION COMPANY AND SUBSIDIARIES
FORM 10-Q
September 30, 2002
Index
PART I. FINANCIAL INFORMATION Page(s)
-------
Item 1. Financial Statements
Consolidated statements of operations - three and
twelve months ended September 30, 2002 and 2001 2-3
Consolidated balance sheet - September 30, 2002 and
2001 and June 30, 2002 4-5
Consolidated statement of stockholders' equity -
three months ended September 30, 2002 and twelve
months ended June 30, 2002 6
Consolidated statements of cash flows - three and
twelve months ended September 30, 2002 and 2001 7-8
Notes to consolidated financial statements 9-18
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 19-27
Item 3. Quantitative and Qualitative Disclosures about Market
Risk 26
Item 4. Controls and Procedures 27
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
(See "COMMITMENTS AND CONTINGENCIES" in Notes to
Consolidated Financial Statements) 15-18
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
99.1 Certificate of the Chief Executive
Officer pursuant to 18 U.S.C.ss.1350
(Section 906 of the Sarbanes-Oxley
Act of 2002)
99.2 Certificate of the Chief Financial
Officer pursuant to 18 U.S.C.ss.1350
(Section 906 of the Sarbanes-Oxley
Act of 2002)
(b) Reports on Form 8-K:
Date Filed Description of Filing
---------- -------------------------------------
08/07/02 Announcement of operating performance
for the quarter and year ended
June 30, 2002 and 2001 and filing,
under Item 9, summary statements of
income of Southern Union Company
for the quarter and year ended
June 30, 2002 and 2001 (unaudited)
and notes thereto.
08/08/02 Announcement that Southwest Gas
Corporation ("Southwest") will pay
Southern Union Company $17.5
million to settle claims relating
to Southern Union's attempts to
purchase Southwest.
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1
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
Three Months Ended September 30,
--------------------------------
2002 2001
------------ ------------
(thousands of dollars, except
shares and per share amounts)
Operating revenues.......................... $ 147,399 $ 173,969
Cost of gas and other energy................ (66,183) (92,987)
Revenue-related taxes....................... (5,132) (6,032)
----------- -----------
Operating margin.......................... 76,084 74,950
Operating expenses:
Operating, maintenance and general........ 52,762 53,104
Business restructuring charges............ -- 32,706
Depreciation and amortization............. 18,862 21,877
Taxes, other than on income and revenues.. 8,137 8,309
----------- -----------
Total operating expenses................ 79,761 115,996
----------- -----------
Net operating loss...................... (3,677) (41,046)
----------- -----------
Other income (expense):
Interest ................................. (21,196) (27,159)
Dividends on preferred securities of
subsidiary trust........................ (2,370) (2,370)
Other, net................................ 16,835 23,596
----------- -----------
Total other expenses, net............. (6,731) (5,933)
----------- -----------
Loss before income tax benefit........ (10,408) (46,979)
Federal and state income tax benefit........ (3,913) (16,576)
----------- -----------
Net loss attributable to common stock....... $ (6,495) $ (30,403)
=========== ===========
Net loss per share:
Basic..................................... $ (.12) $ (.55)
=========== ===========
Diluted ................................. $ (.12) $ (.55)
=========== ===========
Weighted average shares outstanding:
Basic..................................... 53,813,963 55,051,249
=========== ===========
Diluted................................... 53,813,963 55,051,249
=========== ===========
See accompanying notes.
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2
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF OPERATIONS
Twelve Months Ended September 30,
---------------------------------
2002 2001
------------ ------------
(thousands of dollars, except
shares and per share amounts)
Operating revenues......................... $ 1,263,980 $ 1,962,314
Cost of gas and other energy............... (736,763) (1,383,203)
Revenue-related taxes...................... (46,225) (69,755)
----------- -----------
Operating margin......................... 480,992 509,356
Operating expenses:
Operating, maintenance and general....... 220,901 255,639
Business restructuring charges........... (1,394) 32,706
Depreciation and amortization............ 74,161 92,897
Taxes, other than on income and revenues. 28,386 33,309
----------- -----------
Total operating expenses............... 322,054 414,551
----------- -----------
Net operating revenues................. 158,938 94,805
----------- -----------
Other income (expense):
Interest ................................ (85,762) (114,372)
Dividends on preferred securities of
subsidiary trust....................... (9,480) (9,480)
Other, net............................... 7,607 105,928
----------- -----------
Total other expenses, net............ (87,635) (17,924)
----------- -----------
Earnings before income taxes......... 71,303 76,881
Federal and state income taxes............. 27,771 36,025
----------- -----------
Net earnings available for common stock.... $ 43,532 $ 40,856
=========== ===========
Net earnings per share:
Basic:................................... $ .81 $ .74
=========== ===========
Diluted:................................. $ .78 $ .70
=========== ===========
Weighted average shares outstanding:
Basic.................................... 53,575,135 55,054,001
=========== ===========
Diluted.................................. 56,078,668 58,349,604
=========== ===========
See accompanying notes.
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3
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
ASSETS
September 30, June 30,
-------------------------- ------------
2002 2001 2002
------------ ------------ ------------
(thousands of dollars)
Property, plant and equipment:
Plant in service................ $ 2,278,998 $ 2,201,146 $ 2,265,747
Construction work in progress... 22,118 27,523 12,152
----------- ----------- -----------
2,301,116 2,228,669 2,277,899
Less accumulated depreciation
and amortization.............. (838,741) (784,713) (821,539)
----------- ----------- -----------
Net property, plant and
equipment................. 1,462,375 1,443,956 1,456,360
----------- ----------- -----------
Current assets:
Cash and cash equivalents....... 985 -- --
Accounts receivable, billed and
unbilled, net................. 94,337 139,148 122,224
Inventories, principally at
average cost.................. 139,193 173,729 103,001
Deferred gas purchase costs..... 14,699 65,582 --
Investment securities available
for sale...................... 414 8,052 1,163
Prepayments and other........... 11,745 12,874 14,091
----------- ----------- -----------
Total current assets........ 261,373 399,385 240,479
----------- ----------- -----------
Goodwill, net .................... 713,390 721,252 713,390
Deferred charges.................. 217,238 232,717 210,263
Investment securities, at cost.... 9,786 19,226 9,786
Real estate .................... -- 2,474 --
Other............................. 46,151 39,267 46,189
----------- ----------- -----------
Total assets................ $ 2,710,313 $ 2,858,277 $ 2,676,467
=========== =========== ===========
See accompanying notes.
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4
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (Continued)
STOCKHOLDERS' EQUITY AND LIABILITIES
September 30, June 30,
-------------------------- ------------
2002 2001 2002
------------ ------------ ------------
(thousands of dollars)
Common stockholders' equity:
Common stock, $1 par value;
authorized 200,000,000
shares; issued 58,362,012
shares........................ $ 58,362 $ 54,668 $ 58,055
Premium on capital stock........ 708,757 677,759 707,912
Less treasury stock, 3,125,993
shares at cost................ (57,673) (18,055) (57,673)
Less common stock held in trust. (18,250) (18,502) (17,821)
Deferred compensation plans..... 10,159 7,499 9,373
Accumulated other comprehensive
income (loss)................. (14,943) (57) (14,500)
Retained earnings (deficit)..... (6,495) (25,300) --
----------- ----------- -----------
Total common stockholders'
equity........................ 679,917 678,012 685,346
Company-obligated mandatorily
redeemable preferred securities
of subsidiary trust holding
solely subordinated notes of
Southern Union.................. 100,000 100,000 100,000
Long-term debt and capital lease
obligation...................... 1,049,079 842,866 1,082,210
----------- ----------- -----------
Total capitalization........ 1,828,996 1,620,878 1,867,556
Current liabilities:
Long-term debt and capital lease
obligation due within one
year.......................... 98,316 490,470 108,203
Notes payable................... 230,700 193,000 131,800
Accounts payable................ 63,888 91,965 86,540
Federal, state and local taxes.. 4,297 13,950 9,212
Accrued interest................ 17,029 16,540 17,415
Accrued dividends on preferred
securities of subsidiary
trust......................... -- 2,370 2,370
Customer deposits............... 19,122 20,180 19,808
Deferred gas purchases.......... -- -- 4,924
Other........................... 55,445 66,403 46,098
----------- ----------- -----------
Total current liabilities... 488,797 894,878 426,370
----------- ----------- -----------
Deferred credits and other ....... 178,475 149,988 165,889
Accumulated deferred income taxes. 214,045 192,533 216,652
----------- ----------- -----------
Total stockholders' equity
and liabilities............. $ 2,710,313 $ 2,858,277 $ 2,676,467
=========== =========== ===========
See accompanying notes.
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5
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Accumu-
lated
Common Premium Common Other
Stock, on Treasury Stock Compre-
$1 Par Capital Stock, Held in hensive Retained
Value Stock at Cost Trust Income Earnings Total
------- -------- --------- --------- ---------- --------- ----------
(thousands of dollars)
Balance
July 1,
2001...... $54,553 $676,324 $(15,869) $(11,697) $ 13,443 $ 5,103 $ 721,857
Comprehen-
sive in-
come:
Net
earn-
ings... -- -- -- -- -- 19,624 19,624
Unrea-
lized
loss in
invest-
ment
secur-
ities,
net of
tax
bene-
fit.... -- -- -- -- (18,249) -- (18,249)
Minimum
pension
liabil-
ity ad-
just-
ment;
net of
tax.... -- -- -- -- (10,498) -- (10,498)
Unrea-
lized
gain on
hedging
activi-
ties,
net of
tax.... -- -- -- -- 804 -- 804
---------
Compre-
hen-
sive
income
(loss). (8,319)
---------
Payment on
note re-
ceivable. -- 202 -- -- -- -- 202
Purchase
of trea-
sury
stock.... -- -- (41,632) -- -- -- (41,632)
5% stock
dividend. 2,618 22,091 -- -- -- (24,727) (18)
Stock
compen-
sation
plan..... -- 1,248 -- 1,257 -- -- 2,505
Sale of
common
stock
held in
trust.... -- 26 -- 1,945 -- -- 1,971
Exercise
of stock
options.. 884 8,021 (172) 47 -- -- 8,780
------- -------- -------- -------- --------- -------- ---------
Balance
June 30,
2002...... 58,055 707,912 (57,673) (8,448) (14,500) -- 685,346
Comprehen-
sive in-
come:
Net
loss... -- -- -- -- -- (6,495) (6,495)
Unrea-
lized
loss in
invest-
ment
securi-
ties,
net of
tax
bene-
fit.... -- -- -- -- (487) -- (487)
Unrea-
lized
gain on
hedging
activi-
ties,
net of
tax.... -- -- -- -- 44 -- 44
---------
Compre-
hensive
income
(loss). (6,938)
---------
Stock
compen-
sation
plan.... -- 200 -- 357 -- -- 557
Exercise
of stock
options. 307 645 -- -- -- -- 952
------- -------- -------- -------- --------- -------- ---------
Balance
Septem-
ber 30,
2002...... $58,362 $708,757 $(57,673) $ (8,091) $ (14,943) $ (6,495) $ 679,917
======= ======== ======== ======== ========= ======== =========
See accompanying notes.
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6
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
Three Months Ended September 30,
--------------------------------
2002 2001
------------ ------------
(thousands of dollars)
Cash flows from (used in) operating
activities:
Net loss ............................... $ (6,495) $ (30,403)
Adjustments to reconcile net loss to
net cash flows from (used in)
operating activities:
Depreciation and amortization....... 18,862 21,877
Deferred income taxes............... (2,369) 1,476
Provision for bad debts............. 3,612 1,507
Business restructuring charges...... -- 29,400
Gain on sale of other assets........ -- (4,653)
Gain on settlement of interest rate
swaps............................. -- (17,166)
Financial derivative trading gains.. (151) (357)
Other............................... 1,110 135
Changes in operating assets and
liabilities, net of dispositions:
Accounts receivable, billed
and unbilled................ 26,275 76,833
Accounts payable.............. (22,652) (13,598)
Customer deposits............. (686) (105)
Deferred gas purchase costs... (19,623) (411)
Inventories................... (36,192) (68,108)
Deferred charges and credits.. 5,668 2,607
Prepaids and other current
assets...................... 2,452 1,068
Taxes and other current
liabilities................. 2,384 (18,138)
----------- -----------
Net cash flows used in operating
activities............................ (27,805) (18,036)
----------- -----------
Cash flows from (used in) investing
activities:
Additions to property, plant and
equipment............................. (25,571) (24,390)
Notes receivable........................ (2,000) --
Proceeds from sale of subsidiaries and
other assets.......................... -- 26,049
Proceeds from settlement of interest
rate swaps............................ -- 17,166
Customer advances....................... 150 (581)
Other................................... 431 (135)
----------- -----------
Net cash flows from (used in)
investing activities................ (26,990) 18,109
----------- -----------
Cash flows from (used in) financing
activities:
Issuance of long-term debt.............. 311,087 --
Issuance cost of debt................... (1,054) (290)
Repayment of debt and capital lease
obligation............................ (354,105) (2,208)
Net borrowings under revolving credit
facilities............................ 98,900 2,400
Purchase of treasury stock.............. -- (1,698)
Proceeds from exercise of stock options. 952 504
Other................................... -- --
----------- -----------
Net cash flows from (used in)
financing activities............... 55,780 (1,292)
----------- -----------
Change in cash and cash equivalents........ 985 (1,219)
Cash and cash equivalents at beginning of
period................................... -- 1,219
----------- -----------
Cash and cash equivalents at end of period.. $ 985 $ --
=========== ===========
Supplemental disclosures of cash flow
information:
Cash paid during the period for:
Interest.............................. $ 26,020 $ 28,311
=========== ===========
Income taxes ......................... $ 209 $ --
=========== ===========
See accompanying notes.
- --------------------------------------------------------------------------------
7
SOUTHERN UNION COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
Twelve Months Ended September 30,
---------------------------------
2002 2001
------------ ------------
(thousands of dollars)
Cash flows from (used in) operating
activities:
Net earnings.......................... $ 43,532 $ 40,856
Adjustments to reconcile net earnings
to net cash flows from (used in)
operating activities:
Depreciation and amortization..... 74,161 92,897
Deferred income taxes............. 24,552 30,979
Provision for bad debts........... 14,958 33,497
Provision for investment
impairment...................... 10,380 --
Business restructuring charges.... (1,394) 29,400
Gain on settlement of interest
rate swaps...................... -- (17,166)
Gain on sale of subsidiaries and
other assets.................... (1,761) (18,892)
Loss on sale of subsidiaries...... 1,500 --
Financial derivative trading
(gains) losses.................. (5,997) 2,132
Gain on sale of investment
securities...................... (1,004) (74,582)
Other............................. 3,856 2,149
Changes in operating assets and
liabilities, net of dispositions:
Accounts receivable, billed
and unbilled................ 32,102 (46,944)
Accounts payable.............. (24,632) (15,330)
Customer deposits............. (794) (899)
Deferred gas purchase costs... 50,883 (41,733)
Inventories................... 33,243 (55,111)
Deferred charges and credits.. 22,568 (8,907)
Prepaids and other current
assets...................... (1,515) 1,403
Taxes and other liabilities... (10,668) (23,861)
----------- -----------
Net cash flows from (used in)
operating activities................ 263,970 (70,112)
----------- -----------
Cash flows from (used in) investing
activities:
Additions to property, plant and
equipment........................... (94,460) (126,258)
Acquisition of operations, net of
cash received....................... -- (7,657)
Purchase of investment securities..... (793) (12,640)
Notes receivable...................... (4,750) --
Proceeds from sale of subsidiaries
and other assets.................... 14,886 49,987
Proceeds from sale of investment
securities.......................... 1,213 85,761
Customer advances..................... 1,183 88
Proceeds from settlement of interest
rate swaps.......................... -- 17,166
Other................................. (1,604) 5,340
----------- -----------
Net cash flows from (used in)
investing activities.............. (84,325) 11,787
----------- -----------
Cash flows from (used in) financing
activities:
Issuance of long-term debt............ 311,087 55,000
Issuance cost of debt................. (1,685) (1,226)
Repayment of debt and capital lease
obligation.......................... (497,028) (54,772)
Net (payments) borrowings under
revolving credit facilities......... 37,700 57,547
Purchase of treasury stock............ (39,934) (1,698)
Proceeds from exercise of stock
options............................. 8,794 784
Other................................. 2,406 --
----------- -----------
Net cash flows from (used in)
financing activities.............. (178,660) 55,635
----------- -----------
Change in cash and cash equivalents....... 985 (2,690)
Cash and cash equivalents at beginning
of period............................... -- 2,690
----------- -----------
Cash and cash equivalents at end of
period.................................. $ 985 $ --
=========== ===========
Supplemental disclosures of cash flow
information:
Cash paid during the period for:
Interest............................ $ 97,982 $ 118,386
=========== ===========
Income taxes......................... $ (3,857) $ 21,052
=========== ===========
See accompanying notes.
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8
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FINANCIAL STATEMENTS
These interim financial statements should be read in conjunction with the
financial statements and notes thereto contained in Southern Union Company's
(Southern Union and, together with its wholly-owned subsidiaries, the Company)
Annual Report on Form 10-K for the fiscal year ended June 30, 2002. All dollar
amounts in the tables herein, except per share amounts, are stated in thousands
unless otherwise indicated. Certain prior period amounts have been reclassified
to conform with the current period presentation.
The interim financial statements are unaudited but, in the opinion of
management, reflect all adjustments (including both normal recurring as well as
any non-recurring) necessary for a fair presentation of the results of
operations for such periods. Because of the seasonal nature of the Company's
operations, the results of operations and cash flows for any interim period are
not necessarily indicative of results for the full year.
SIGNIFICANT ACCOUNTING POLICIES
Effective July 1, 2002, the Company adopted Accounting for Asset Retirement
Obligations which requires the fair value of a liability for an asset retirement
legal obligation to be recognized in the period in which it is incurred and when
the amount of the liability can be reasonably estimated. When the liability is
initially recorded, associated costs are capitalized by increasing the carrying
amount of the related long-lived asset. Over time, the liability is accreted to
its present value each period, and the capitalized cost is depreciated over the
useful life of the related asset. In certain rate jurisdictions, the Company is
permitted to include annual charges for cost of removal in its regulated cost of
service rates charged to customers. The adoption of Accounting for Asset
Retirement Obligations did not have a material impact on the Company's financial
position, results of operations or cash flows for all periods presented.
Also effective July 1, 2002, the Company adopted Accounting for the Impairment
or Disposal of Long-lived Assets. The Statement provides new guidance on the
recognition of impairment losses on long-lived assets to be held and used or to
be disposed of and also broadens the definition of what constitutes a
discontinued operation and how the results of a discontinued operation are to be
measured and presented. Under the Statement, assets held for sale that are a
component of an entity will be included in discontinued operations if the
operations and cash flows will be or have been eliminated from the ongoing
operations of the entity and the entity will not have any significant continuing
involvement in the operations prospectively. The Statement is not expected to
materially change the methods the Company uses to measure impairment losses on
long-lived assets, but may result in additional future dispositions being
reported as discontinued operations than was previously permitted.
ACQUISITIONS AND DIVESTITURES
On October 16, 2002, the Company entered into a definitive agreement with ONEOK,
Inc. (ONEOK) of Tulsa, Oklahoma, to sell its Southern Union Gas Company Texas
division and related assets to ONEOK for approximately $420,000,000 in cash. The
sale involves the divestiture of Southern Union Gas Company (Southern Union
Gas), Mercado Gas Services, Inc. (Mercado), SUPro Energy Company (SUPro),
Southern Transmission Company (STC), Southern Union Energy International, Inc.
(SUEI), Southern Union International Investments, Inc. (Investments) and Norteno
Pipeline Company (Norteno). Southern Union Gas distributes natural gas as a
public utility to approximately 535,000 customers throughout Texas, including
the cities of Austin, El Paso, Brownsville, Galveston and Port Arthur. Mercado
markets natural gas to commercial and industrial customers. SUPro provides
propane gas services to approximately 4,000 customers located principally in
Austin, El Paso and Alpine, Texas as well as Las Cruces, New Mexico and
surrounding communities. STC owns and operates 118.8 miles of intrastate
pipeline that serves commercial, industrial and utility customers in central,
south and coastal Texas. SUEI and Investments participate in energy-related
projects internationally. Energia Estrella del Sur, S. A. de C. V., a
wholly-owned Mexican subsidiary of SUEI and Investments, has a 43% equity
ownership in a natural gas distribution company, along with other related
operations, which currently serves 23,000 customers in Piedras Negras, Mexico,
across the border from Southern Union Gas' Eagle Pass, Texas service area.
Norteno owns and operates interstate pipelines that serve the gas distribution
properties of Southern Union Gas and the Public Service Company of New Mexico.
Norteno also transports gas through its interstate network to the country of
Mexico for Pemex Gas y Petroquimica Basica. As of September 30, 2002, the
aggregate carrying amounts of assets and liabilities to be sold were
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9
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
approximately $410,000,000 and $121,000,000, respectively. Regulatory consent
and approvals have been sought from several municipalities. Notice is required
to the Federal Energy Regulatory Commission and the Texas Railroad Commission.
Early termination of the waiting period under the Hart-Scott-Rodino Act has been
granted by the Federal Trade Commission. Closing is expected to occur later
this calendar year.
In April 2002, PG Energy Services Inc. ("Energy Services"), a wholly-owned
subsidiary of Southern Union, sold its propane operations for $2,300,000,
resulting in a pre-tax gain of $1,200,000.
In December 2001, Southern Transmission Company, a wholly-owned subsidiary of
the Company, sold its 43-mile Carrizo Springs Pipeline for $1,000,000, resulting
in a pre-tax gain of $561,000. Also in December 2001, the Company sold South
Florida Natural Gas, a natural gas division of Southern Union, and Atlantic Gas
Corporation, a Florida propane subsidiary of the Company (collectively, the
Florida Operations), for $10,000,000, resulting in a pre-tax loss of $1,500,000.
In October 2001, Morris Merchants, a wholly-owned subsidiary of Southern Union
which served as a manufacturers' representative agency for franchised plumbing
and heating contract supplies throughout New England, was sold for $1,586,000.
In September 2001, Valley Propane, a wholly-owned subsidiary of the Company
which sold liquid propane to residential, commercial and industrial customers,
was sold for $5,301,000. In August 2001, ProvEnergy Oil, a wholly-owned
subsidiary of Southern Union which operated a fuel oil distribution business
through its subsidiary, ProvEnergy Fuels, Inc. for residential and commercial
customers, was sold for $15,776,000. No financial gain or loss was recognized on
any of these sales transactions.
In July 2001, Energy Services sold its commercial and industrial natural gas
marketing contracts for $4,972,000, resulting in a pre-tax gain of $4,653,000.
In June 2001, Keystone Pipeline Services, Inc., a wholly-owned subsidiary of
Energy Services which engaged in the construction, maintenance, and
rehabilitation of natural gas distribution pipelines, was sold for $3,300,000,
resulting in a pre-tax gain of $707,000.
EARNINGS PER SHARE
Average shares outstanding for basic earnings per share were 53,813,963 and
55,051,249 for the three-month period ended September 30, 2002 and 2001,
respectively and 53,575,135 and 55,054,001 for the twelve-month period ended
September 30, 2002 and 2001, respectively. Diluted earnings per share include
average shares outstanding as well as common stock equivalents from stock
options and warrants. Common stock equivalents were nil for both three-month
periods ended September 30, 2002 and 2001, respectively and 1,292,322 and
2,135,959 for the twelve-month period ended September 30, 2002 and 2001,
respectively. At September 30, 2002, 1,197,582 shares of common stock were held
by various rabbi trusts for certain of the Company's benefit plans and 48,615
shares were held in a rabbi trust for certain employees who deferred receipt of
Company shares for stock options exercised. From time to time, the Company's
benefit plans may purchase shares of Southern Union common stock subject to
regular restrictions.
GOODWILL
Effective July 1, 2001, the Company adopted Goodwill and Other Intangible
Assets. In accordance with this Statement, the Company has ceased amortization
of goodwill. Goodwill, which was previously amortized on a straight-line basis
over forty years, is now subject to at least an annual assessment for impairment
by applying a fair-value based test.
In connection with the Company's Cash Flow Improvement Plan announced in July
2001, the Company began the divestiture of certain non-core assets. As a result
of prices of comparable businesses for various non-core properties, a goodwill
impairment loss of $3,358,000 was recognized in depreciation and amortization on
the consolidated statement of operations for the quarter ended September 30,
2001. As a result of the sale of the Carrizo Springs
- --------------------------------------------------------------------------------
10
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Pipeline and the Florida Operations, goodwill of $7,872,000 was eliminated
during the quarter ended December 31, 2001. There was no change in the carrying
amount of goodwill from June 30, 2002 to September 30, 2002.
DEFERRED CHARGES AND CREDITS
September 30, June 30,
2002 2002
------------- ------------
Deferred Charges
Pensions........................................ $ 53,865 $ 54,259
Income taxes.................................... 31,267 30,605
Unamortized debt expense........................ 34,196 33,897
Retirement costs other than pensions............ 32,190 33,032
Service Line Replacement program................ 20,730 21,360
Environmental................................... 23,815 16,646
Other........................................... 21,175 20,464
------------- ------------
Total Deferred Charges........................ $ 217,238 $ 210,263
============= ============
The Company's deferred charges include regulatory assets in the aggregate amount
of $99,125,000 and $95,546,000, respectively, at September 30, 2002 and June 30,
2002. These regulatory assets primarily relate to pensions, retirement costs
other than pensions, income taxes, Year 2000 costs, Missouri Gas Energy's
Service Line Replacement program and environmental remediation costs. The
Company records regulatory assets in accordance with the Financial Accounting
Standards Board (FASB) standard Accounting for the Effects of Certain Types of
Regulation.
September 30, June 30,
2002 2002
------------- ------------
Deferred Credits
Pensions........................................ $ 43,658 $ 45,249
Retirement costs other than pensions............ 32,496 33,970
Customer advances for construction.............. 25,412 25,262
Environmental................................... 19,821 7,206
Investment tax credit........................... 6,657 6,663
Self-insurance................................... 6,260 6,255
Other............................................ 44,171 41,284
------------ ------------
Total Deferred Credits......................... $ 178,475 $ 165,889
============ ============
The Company's deferred credits include regulatory liabilities in the aggregate
amount of $10,343,000 and $6,701,000, respectively, at September 30, 2002, and
June 30, 2002. These regulatory liabilities primarily relate to retirement
benefits other than pensions, environmental insurance recoveries and income
taxes. The Company records regulatory liabilities in accordance with the FASB
standard Accounting for the Effects of Certain Types of Regulation.
INVESTMENT SECURITIES
At September 30, 2002, the Company held securities of Capstone Turbine
Corporation (Capstone). This investment is classified as "available for sale"
under the FASB standard Accounting for Certain Investments in Debt and Equity
Securities. As of September 30, 2002, the Company's investment in Capstone had a
fair value of $414,000 and unrealized gains, net of tax, related to this
investment were $115,000. The Company has classified this investment as current,
as it plans to monetize its investment in the near future and use the proceeds
to reduce outstanding debt. All other securities owned by the Company are
accounted for under the cost method. The Company's other investments in
securities consist of common and preferred stock in non-public companies whose
value is not readily determinable. Various Southern Union executive management,
Board of Directors and employees also have an equity ownership in certain of
these investments.
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11
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company reviews its portfolio of investment securities on a quarterly basis
to determine whether a decline in value is other than temporary. Factors that
are considered in assessing whether a decline in value is other than temporary
include, but are not limited to: earnings trends and asset quality; near term
prospects and financial condition of the issuer, including the availability and
terms of any additional financing requirements; financial condition and
prospects of the issuer's region and industry, customers and markets and
Southern Union's intent and ability to retain the investment. If Southern Union
determines that the decline in value of an investment security is other than
temporary, the Company will record a charge on its consolidated statement of
operations to reduce the carrying value of the security to its estimated fair
value.
OTHER INCOME
On August 6, 2002, Southwest Gas Corporation ("Southwest") agreed to pay
Southern Union $17,500,000 to settle the Company's claims of fraud and bad faith
breach of contract related to Southern Union's attempts to purchase Southwest.
The settlement resulted in a pre-tax gain and cash flow of $17,500,000 for the
quarter ended September 30, 2002.
During the quarter ended September 30, 2001, the Company settled three interest
rate swaps that were not designated as hedges and did not meet the criteria for
hedge accounting, resulting in a pre-tax gain and cash flow of $17,166,000.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
Derivative Instruments and Hedging Activities The Company utilizes derivative
instruments on a limited basis to manage certain business risks. Interest rate
swaps are employed to hedge the effect of changes in interest rates related to
certain debt instruments and commodity swaps and options to manage price risk
associated with certain energy contracts.
Cash Flow Hedges The Company is party to an interest rate swap created to manage
exposure against volatility in interest payments on variable rate debt and which
qualifies for hedge accounting. As of September 30, 2002, the derivative
liability related to this designated cash flow hedge had a fair value of
$451,000 and is classified under other current liabilities in the Consolidated
Balance Sheet. For the three-month period ended September 30, 2002, the Company
recorded net settlement payments of $168,000 on this swap through interest
expense, and unrealized gains of $44,000, net of taxes, through accumulated
other comprehensive income. Hedge ineffectiveness, which is recorded in interest
expense, was immaterial. No component of the swaps' gain or loss was excluded
from the assessment of hedge effectiveness. As of September 30, 2002, the
Company expects to reclassify as interest expense $264,000 in derivative losses,
net of taxes, from accumulated other comprehensive income as the settlement of
swap payments occur over the next twelve months. The maximum length of time over
which the Company is hedging its exposure to the payment of variable interest
rates is 14 months.
Trading and Non-Hedging Activities In March 2001, the Company discovered
unauthorized financial derivative energy trading activity by a non-regulated,
wholly-owned subsidiary. All unauthorized trading activity was subsequently
closed in March and April of 2001 resulting in a cumulative cash expense of
$191,000, net of taxes. For the three-month period ended September 30, 2002, the
Company recorded $151,000 through other income relating to the expiration of
contracts resulting from this trading activity. The majority of the remaining
deferred liability of $1,566,000 at September 30, 2002 related to these
derivative instruments will be recognized as income in the consolidated
statement of operations over the next three years based on the related
contracts.
Beginning in May 2002, the Company acquired natural gas commodity swap
derivatives and collar transactions in order to mitigate price volatility of
natural gas passed through to utility customers. The cost of the derivative
products and the settlement of the respective obligations are recorded through
the gas purchase adjustment clause as authorized by the applicable regulatory
authority and therefore do not impact earnings. The fair value of the contracts
are recorded as an adjustment to a regulatory asset/liability in the
consolidated financial statements. As of September 30, 2002, the fair value of
the contracts, which expire at various times through May 2003, are included in
the consolidated financial statements as an asset and a matching adjustment to
deferred cost of gas of $164,000.
- --------------------------------------------------------------------------------
12
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
PREFERRED SECURITIES OF SUBSIDIARY TRUST
On May 17, 1995, Southern Union Financing I (Subsidiary Trust), a consolidated
wholly-owned subsidiary of Southern Union, issued $100,000,000 of 9.48% Trust
Originated Preferred Securities (Preferred Securities). In connection with the
Subsidiary Trust's issuance of the Preferred Securities and the related purchase
by Southern Union of all of the Subsidiary Trust's common securities (Common
Securities), Southern Union issued to the Subsidiary Trust $103,092,800
principal amount of its 9.48% Subordinated Deferrable Interest Notes, due 2025
(Subordinated Notes). The sole assets of the Subsidiary Trust are the
Subordinated Notes. The interest and other payment dates on the Subordinated
Notes correspond to the distribution and other payment dates on the Preferred
Securities and the Common Securities. Under certain circumstances, the
Subordinated Notes may be distributed to holders of the Preferred Securities and
holders of the Common Securities in liquidation of the Subsidiary Trust. The
Subordinated Notes are redeemable at the option of the Company on or after May
17, 2000, at a redemption price of $25 per Subordinated Note plus accrued and
unpaid interest. The Preferred Securities and the Common Securities will be
redeemed on a pro rata basis to the same extent as the Subordinated Notes are
repaid, at $25 per Preferred Security and Common Security plus accumulated and
unpaid distributions. Southern Union's obligations under the Subordinated Notes
and related agreements, taken together, constitute a full and unconditional
guarantee by Southern Union of payments due on the Preferred Securities. As of
September 30, 2002 and 2001, 4,000,000 shares of Preferred Securities were
outstanding.
DEBT AND CAPITAL LEASE
September 30, June 30,
2002 2002
------------- ------------
7.60% Senior Notes, due 2024...................... $ 359,765 $ 362,515
8.25% Senior Notes, due 2029...................... 300,000 300,000
Term Note, due 2002............................... -- 350,000
Term Note, due 2005............................... 311,087 --
5.62% to 10.25% First Mortgage Bonds, due 2002 to
2029............................................ 147,554 147,888
7.70% Debentures, due 2027........................ 6,756 6,776
Capital lease and other........................... 22,233 23,234
------------- ------------
Total debt and capital lease...................... 1,147,395 1,190,413
Less current portion.......................... 98,316 108,203
------------- ------------
Total long-term debt and capital lease............ $ 1,049,079 $ 1,082,210
============= ============
Capital Lease The Company completed the installation of an Automated Meter
Reading (AMR) system at Missouri Gas Energy during the first quarter of fiscal
year 1999. The installation of the AMR system involved an investment of
approximately $30,000,000 which is accounted for as a capital lease obligation.
As of September 30, 2002, the capital lease obligation outstanding was
$20,651,000 with a fixed rate of 5.79%.
Credit Facilities On June 10, 2002, the Company entered into an amended
short-term credit facility in the amount of $150,000,000 (the "Short-Term
Facility"), that matures on June 9, 2003. Also on June 10, 2002, the Company
amended the terms and conditions of its $225,000,000 long-term credit facility
(the "Long-Term Facility"), which expires on May 29, 2004. The Company has
additional availability under uncommitted line of credit facilities (Uncommitted
Facilities) with various banks. Borrowings under the facilities are available
for Southern Union's working capital, letter of credit requirements and other
general corporate purposes. The Short-Term Facility and the Long-Term Facility
(together, the "Facilities") are subject to a commitment fee based on the rating
of the Senior Notes. As of September 30, 2002, the commitment fees were an
annualized 0.14% on the Facilities. The interest rate on borrowings on the
Facilities is calculated based upon a formula using the LIBOR or prime interest
rates. A balance of $230,700,000 was outstanding under the Facilities at
September 30, 2002.
Term Note On August 28, 2000 the Company entered into the Term Note to fund (i)
the cash portion of the consideration to be paid to the Fall River Gas'
stockholders; (ii) the all cash consideration to be paid to the ProvEnergy and
Valley Resources stockholders, (iii) repayment of approximately $50,000,000 of
long- and short-term debt assumed in the mergers, and (iv) all related
acquisition costs. On July 16, 2002, the Company repaid the Term Note with the
proceeds from the issuance of a $311,087,000 Term Note dated July 15, 2002 (the
"2002 Term Note") and
- --------------------------------------------------------------------------------
13
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
borrowings under the Company's lines of credit. The 2002 Term Note requires
semi-annual principal repayments on February 15th and August 15th of each year,
with payments of $25,000,000 each being due February 15, 2003, August 15, 2003,
February 15, 2004, and August 15, 2004 and payments of $35,000,000 each being
due February 15, 2005 and August 15, 2005. The remaining principal amount of
$141,087,000 is due August 26, 2005. No additional draws can be made on the
Term Note.
UTILITY REGULATION AND RATES
Missouri On July 5, 2001, the Missouri Public Service Commission (MPSC) issued
an order approving a unanimous settlement of Missouri Gas Energy's rate request.
The settlement provides for an annual $9,892,000 base rate increase, as well as
$1,081,000 in added revenue from new and revised service charges. The majority
of the rate increase will be recovered through increased monthly fixed charges
to gas sales service customers. New rates became effective August 6, 2001, two
months before the statutory deadline for resolving the case. The approved
settlement resulted in the dismissal of all pending judicial reviews of prior
rate cases. The settlement also provides for the development of a two-year
experimental low-income program that will help certain customers in the Joplin
area pay their natural gas bills.
Rhode Island On May 24, 2002, the Rhode Island Public Utilities Commission
(RIPUC) approved a settlement agreement between the New England Gas Company and
the RIPUC. The settlement agreement resulted in a $3,900,000 decrease in base
revenues effective July 1, 2002 for New England Gas Company's Rhode Island
operations, a unified rate structure ("One State; One Rate") and an
integration/merger savings mechanism. The settlement agreement also allows New
England Gas Company to retain $2,049,000 of merger savings and to share
incremental earnings with customers when the division's Rhode Island operations
return on equity exceeds 11.25%. Included in the settlement agreement was a
conversion to therm billing and the approval of a reconciling Distribution
Adjustment Clause (DAC). The DAC allows New England Gas Company to continue its
low income assistance and weatherization programs, to recover environmental
response costs over a 10-year period, puts into place a new weather
normalization clause and allows for the sharing of nonfirm margins (non-firm
margin is margin earned from interruptible customers with the ability to switch
to alternative fuels). The weather normalization clause is designed to mitigate
the impact of weather volatility on customer billings, which will assist
customers in paying bills and stabilize the revenue stream. New England Gas
Company will defer the margin impact of weather that is greater than 2%
colder-than-normal and will recover the margin impact of weather that is greater
than 2% warmer-than-normal. The non-firm margin incentive mechanism allows New
England Gas Company to retain 25% of all non-firm margins earned in excess of
$1,600,000.
Pennsylvania On December 7, 2000, the Pennsylvania Public Utility Commission
(PPUC) approved a settlement agreement that provided for a rate increase
designed to produce $10,800,000 of additional annual revenue. The new rates
became effective on January 1, 2001.
El Paso, Texas Effective September 24, 2002, Southern Union Gas received a
$2,000,000 revenue increase for the El Paso service area, and a rate design that
continues to increase the proportion of the Company's revenue stream collected
through the monthly customer charge.
Galveston, Texas Effective July 1, 2002, Southern Union Gas received approval of
a $323,000 revenue increase for the Galveston service area, along with
continuation of weather normalization and annual cost of service adjustment
clauses.
North Texas In May 2001, Southern Union Gas received approval of a $165,000
revenue increase for the Mineral Wells service area that collects a greater
portion of the Company's revenue stream from the monthly customers' charge, and
a weather normalization adjustment clause.
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14
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
COMMITMENTS AND CONTINGENCIES
Environmental The Company is subject to federal, state and local laws and
regulations relating to the protection of the environment. These evolving laws
and regulations may require expenditures over a long period of time to control
environmental impacts. The Company has established procedures for the on-going
evaluation of its operations to identify potential environmental exposures and
assure compliance with regulatory policies and procedures.
The Company is investigating the possibility that the Company or predecessor
companies may have been associated with Manufactured Gas Plant (MGP) sites in
its former service territories, principally in Arizona and New Mexico, and
present service territories in Texas, Missouri, Pennsylvania, Massachusetts and
Rhode Island. At the present time, the Company is aware of certain MGP sites in
these areas and is investigating those and certain other locations.
While the Company's evaluation of these Texas, Missouri, Arizona, New Mexico,
Pennsylvania, Massachusetts and Rhode Island MGP sites is in its preliminary
stages, it is likely that some compliance costs may be identified and become
subject to reasonable quantification. Within the Company's service territories
certain MGP sites are currently the subject of governmental actions. These sites
are as follows:
Kansas City, Missouri MGP Sites In a letter dated May 10, 1999, the Missouri
Department of Natural Resources ("MDNR") sent notice of a planned Site
Inspection/Removal Site Evaluation of the Kansas City Coal Gas Former
Manufactured Gas Plant ("MGP") site. This site (comprised of two adjacent MGP
operations previously owned by two separate companies and hereafter referred to
as Station A and Station B) is located at East 1st Street and Campbell in Kansas
City, Missouri and is owned by Missouri Gas Energy ("MGE"). During July 1999,
the Company sent applications to MDNR submitting the two sites to the agency's
Voluntary Cleanup Program ("VCP"). The sites were accepted into the VCP, and MGE
subsequently performed environmental assessments of Stations A and B and
submitted the results of these assessments to MDNR. On September 6, 2002, MGE
submitted a work plan for the remediation of Station A to MDNR. Following the
approval of the Station A work plan by MDNR, the Company will select a qualified
contractor in a competitive bidding process. The Company anticipates beginning
remediation of Station A in the first calendar quarter of 2003.
In August 2001, MGE received a demand from the Port Authority for MGE to assume
responsibility for remediation of soil and groundwater at property owned by the
Port Authority adjacent to MGE's Stations A and B. The Port Authority intends to
develop its property adjacent to MGE as a commercial and residential area (the
"Riverfront Redevelopment Site"), and seeks to have MGE and other parties who
may be responsible remediate contamination on the Port Authority property
allegedly resulting from the historic manufactured gas plant operations.
Honeywell International Inc. has also been identified as a potentially
responsible party, as the alleged successor to a tar manufacturing operation
formerly located on a portion of the Port Authority property known as the
Riverfront Development. MGE and other parties owning property in the area have
performed assessments in 2001 and early 2002 of their own and of the alleged
contaminated portions of the Port Authority property.
In a letter dated July 24, 2002, the Port Authority demanded that the Company
assume full financial responsibility for the design and implementation of a
remedial action plan on the Riverfront Redevelopment Site allowing the Port
Authority to obtain an "unrestricted" clearance for redevelopment of the site.
The Port Authority provided MGE with several proposed remedial options and
preliminary cost estimates for those options. The worst-case and most expensive
proposed remedial option is currently estimated by the Port Authority to cost
$48.9 million. MGE currently disputes the Port Authority's estimates and
proposals, and believes that the cost of remediation of the Port Authority
property could be significantly lower, pending further investigation, analysis
and determination of appropriate soil and groundwater remedial standards.
Accordingly, the Company sent the Port Authority a letter dated August 27, 2002,
containing an alternative proposal for the remediation of a portion of the Port
Authority's property. MGE's own estimate of the cost to perform its alternative
proposal and obtain a "no further action" letter from MDNR for the portion of
the Riverfront Redevelopment Site for which it is potentially responsible is $4
million. MGE continues to work with the Port Authority and MDNR toward
resolution of the appropriate scope of investigation and remediation at the
Riverfront Redevelopment Site.
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15
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Providence, Rhode Island Sites During 1995, Providence Gas began an
environmental evaluation at its primary gas distribution facility located at 642
Allens Avenue in Providence, Rhode Island. Environmental studies and a
subsequent remediation work plan were completed at an approximate cost of $4.5
million. Providence Gas also began a soil remediation project on a portion of
the site in July 1999. As of June 30, 2001, approximately $8.9 million had been
expended on soil remediation under the remediation work plan. Based on the
results of the environmental investigation and the site information learned
during the performance of work under the remediation work plan, on January 15,
2002, the Company requested and subsequently received authorization from RIDEM
to make certain specific modifications to the 1999 Remedial Action Work Plan. On
April 17, 2002, RIDEM issued a Temporary Remedial Action Permit for Phase 1
remediation at the site. A contractor was selected by the Company in a
competitive bidding process. Work on Phase 1 of the site remediation was
initiated on April 17, 2002, and was completed on October 10, 2002. The
approximate cost of the environmental work conducted since April 17, 2002 is $4
million. Remediation of the remaining 37.5 acres of the site (known as the
"Phase 2" remediation project) is not scheduled at this time.
In November 1998, Providence Gas received a letter of responsibility from the
RIDEM relating to possible contamination on previously owned property at 170
Allens Avenue in Providence. The operator of the property at that time, Cargill,
Inc., also received a letter of responsibility. A work plan had been created and
approved by RIDEM. An investigation was then begun to determine the extent of
contamination, as well as the extent of the Company's responsibility. Providence
Gas entered into a cost-sharing agreement with the current operator of the
property, under which Providence Gas was responsible for approximately twenty
percent (20%) of the costs related to the investigation. Costs of testing at
this site as of September 30, 2002 were approximately $300,000. Until RIDEM
provides its final response to the investigation, and the Company knows it's
ultimate responsibility respective to other potentially responsible parties with
respect to the site, the Company cannot offer any conclusions as to its ultimate
financial responsibility with respect to the site.
Tiverton, Rhode Island Site Fall River Gas Company was a defendant in a civil
action seeking to recover anticipated remediation costs associated with
contamination found at property owned by the plaintiffs. This claim was based on
alleged dumping of material by Fall River Gas Company trucks at the site in the
1930s and 1940s. In a settlement agreement effective December 3, 2001, the
Company agreed to perform all assessment, remediation and monitoring activities
at the site sufficient to obtain a final letter of compliance from the Rhode
Island Department of Environmental Management.
Valley Gas Company Sites Valley Gas Company is a party to an action in which
Blackstone Valley Electric Company ("Blackstone") brought suit for contribution
to its expenses of cleanup of a site on Mendon Road in Attleboro, Massachusetts,
to which coal manufacturing waste was transported from a former MGP site in
Pawtucket, Rhode Island (the "Blackstone Litigation"). Blackstone Valley
-----------------
Electric Company v. Stone & Webster, Inc., Stone & Webster Engineering
- ----------------------------------------------------------------------
Corporation, Stone & Webster Management Consultants, Inc. and Valley Gas
- ------------------------------------------------------------------------
Company, C. A. No. 94-10178JLT, United States District Court, District of
- -------
Massachusetts. Valley Gas Company takes the position in that litigation that it
is indemnified for any cleanup expenses by Blackstone pursuant to a 1961
agreement signed at the time of Valley Gas Company's creation. This suit was
stayed in 1995 pending the issuance of rulemaking at the United States EPA
(Commonwealth of Massachusetts v. Blackstone Valley Electric Company, 67 F.3d
- --------------------------------------------------------------------
981 (1995)). In January 2001, the EPA issued a Preliminary Administrative
Decision on this issue and announced that it was soliciting comments on the
Decision. While the public comment period has now closed, the EPA has yet to
reissue its decision. While this suit has been stayed, Valley Gas Company and
Blackstone (merged with Narragansett Electric Company in May 2000) have received
letters of responsibility from the RIDEM with respect to releases from two MGP
sites in Rhode Island. RIDEM issued letters of responsibility to Valley Gas
Company and Blackstone in September 1995 for the Tidewater MGP in Pawtucket,
Rhode Island, and in February 1997 for the Hamlet Avenue MGP in Woonsocket,
Rhode Island. Valley Gas Company entered into an agreement with Blackstone (now
Narragansett) in which Valley Gas Company and Blackstone agreed to share equally
the expenses for the costs associated with the Tidewater site subject to
reallocation upon final determination of the legal issues that exist between the
companies with respect to responsibility for expenses for the Tidewater site and
otherwise. No such agreement has been reached with respect to the Hamlet site.
- --------------------------------------------------------------------------------
16
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Pennsylvania Sites PG Energy recently received inquiries from the Pennsylvania
Department of Environmental Protection ("PADEP") pertaining to three former
manufactured gas plant sites. PG Energy has participated in another Pennsylvania
utility's assessment of one site for the purpose of evaluating any environmental
threat from the former gas manufacture operations at this site. In addition, PG
Energy has met with PADEP representatives concerning two other sites and is
currently performing environmental assessment work at one of the sites.
To the extent that potential costs associated with former MGPs are quantified,
the Company expects to provide any appropriate accruals and seek recovery for
such remediation costs through all appropriate means, including in rates charged
to customers, insurance and regulatory relief. At the time of the closing of the
acquisition of the Company's Missouri service territories, the Company entered
into an Environmental Liability Agreement that provides that Western Resources
retains financial responsibility for certain liabilities under environmental
laws that may exist or arise with respect to Missouri Gas Energy. In addition,
the New England Division has reached agreement with its Rhode Island rate
regulators on a regulatory plan that creates a mechanism for the recovery of
environmental costs over a 10-year period. This plan, effective July 1, 2002,
establishes an environmental fund for the recovery of evaluation, remedial and
clean-up costs arising out of the Company's MGPs and sites associated with the
operation and disposal activities from MGPs.
In certain of the Company's jurisdictions the Company is allowed to recover
environmental remediation expenditures through rates. Although significant
charges to earnings could be required prior to rate recovery for jurisdictions
that do not have rate recovery mechanisms, management does not believe that
environmental expenditures for MGP sites will have a material adverse effect on
the Company's financial position, results of operations or cash flows.
The Company follows the provisions of an American Institute of Certified Public
Accountants Statement of Position, Environmental Remediation Liabilities, for
recognition, measurement, display and disclosure of environmental remediation
liabilities.
Regulatory In August 1998, the City of Edinburg obtained a jury verdict totaling
approximately $13,000,000 jointly and severally against PG&E Gas
Transmission-Texas Corporation (formerly Valero Energy Corporation (Valero)),
and a number of its subsidiaries, as well as former Valero subsidiary Rio Grande
Valley Gas Company (RGV) and RGV's successor company, Southern Union Company for
the alleged underpayment of franchise fees. (Southern Union purchased RGV from
Valero in 1993.) The trial court reduced the jury award to approximately
$8,500,000. Subsequently, the Texas (13th District) Court of Appeals further
reduced the award to $4,085,000. The Court of Appeals also remanded a portion of
the case to the trial court with instructions to retry certain issues. The
Company continues to pursue reversal on appeal. In August 2002, the Supreme
Court of Texas granted the Company's petition for review. Oral arguments have
been scheduled for November 20, 2002. The Company believes that the outcome of
the matter will not have a material adverse impact on the Company's results of
operations, financial position or cash flows.
On May 31, 2002, the staff of the MPSC recommended that the Commission disallow
approximately $15 million in gas costs incurred during the period July 1, 2000
through June 30, 2001. Missouri Gas Energy filed its response in opposition to
the Staff's recommendation on July 11, 2002, vigorously disputing the Commission
staff's assertions. Missouri Gas Energy intends to vigorously defend itself in
this proceeding. On November 4, 2002, the Commission adopted a procedural
schedule setting the matter for hearing in May of 2003.
On November 27, 2001, August 1, 2000 and August 12, 1999, the staff of the MPSC
recommended that the Commission disallow approximately $5.9 million, $5.9
million and $4.3 million, respectively, in gas costs incurred during the period
July 1, 1999 through June 30, 2000, July 1, 1998 through June 30, 1999, and
July 1, 1997 through June 30, 1998, respectively. The basis of these proposed
disallowances appears to be the same as was rejected by the Commission through
an order dated March 12, 2002, applicable to the period July 1, 1996 through
June 30, 1997. MGE intends to vigorously defend itself in these proceedings. On
November 4, 2002, the Commission adopted a procedural schedule calling for a
hearing in this matter some time after May of 2003.
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17
SOUTHERN UNION COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Southwest Gas Litigation Several actions were commenced by persons involved in
competing efforts to acquire Southwest Gas Corporation (Southwest) during 1999.
All of these actions eventually were transferred to the District of Arizona
(the Court), consolidated and lodged with Judge Roslyn Silver. As a result of
summary judgments granted, there are no claims remaining against Southern Union.
Southern Union's claims against Southwest were settled on August 6, 2002, by
Southwest's payment to Southern Union of $17,500,000. Southern Union's trial
against ONEOK, Inc. and the individual defendants associated with ONEOK was
scheduled to begin October 15, 2002, but has been continued to a date to be set
by he Court. The Court has scheduled a status conference for November 15, 2002.
The trial of Southern Union's claims against the remaining defendants, Arizona
Corporation Commissioner, James Irvin, and his former aide, Jack Rose, is
currently underway before Judge Silver. The Company is seeking out-of-pocket
damages of $975,000 plus punitive damages against Commissioner Irvin. The
Company has agreed to limit the amount of damages it seeks from Jack Rose to
$250,000. The judge's schedule anticipates that the case will go to the jury on
December 12, 2002.
With the exception of ongoing legal fees associated with the aforementioned
litigation, the Company believes that the results of the above-noted Southwest
litigation and any related appeals will not have a materially adverse effect on
the Company's financial condition, results of operations or cash flows.
Other Southern Union and its subsidiaries are parties to other legal proceedings
that management considers to be normal actions to which an enterprise of its
size and nature might be subject, Management does not consider these actions to
be material to Southern Union's overall business or financial condition, results
of operations or cash flows.
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18
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview The Company's core business is the distribution of natural gas as a
public utility through its Southern Union Gas, Missouri Gas Energy, PG Energy,
and New England Gas Company divisions. In addition, subsidiaries of the Company
were established to support and expand natural gas sales and other energy sales
and to capitalize on the Company's energy expertise. These subsidiaries market
natural gas to end-users, operate natural gas pipeline systems, generate
electricity and distribute propane. Certain subsidiaries also own or hold
interests in real estate and other assets, which are primarily used in the
Company's utility business.
Several of these business activities are subject to regulation by federal, state
or local authorities where the Company operates. Thus, the Company's financial
condition and results of operations have been and will continue to be dependent
upon the receipt of adequate and timely adjustments in rates. In addition, the
Company's business is affected by seasonal weather impacts, competitive factors
within the energy industry and economic development and residential growth in
its service areas.
Acquisitions and Divestitures On October 16, 2002, the Company entered into a
definitive agreement with ONEOK, Inc. (ONEOK) of Tulsa, Oklahoma, to sell its
Southern Union Gas Company Texas division and related assets to ONEOK for
approximately $420,000,000 in cash. The sale involves the divestiture of
Southern Union Gas Company (Southern Union Gas), Mercado Gas Services, Inc.
(Mercado), SUPro Energy Company (SUPro), Southern Transmission Company (STC),
Southern Union Energy International, Inc. (SUEI), Southern Union International
Investments, Inc. (Investments) and Norteno Pipeline Company (Norteno). Southern
Union Gas distributes natural gas as a public utility to approximately 535,000
customers throughout Texas, including the cities of Austin, El Paso,
Brownsville, Galveston and Port Arthur. Mercado markets natural gas to
commercial and industrial customers. SUPro provides propane gas services to
approximately 4,000 customers located principally in Austin, El Paso and Alpine,
Texas as well as Las Cruces, New Mexico and surrounding communities. STC owns
and operates 118.8 miles of intrastate pipeline that serves commercial,
industrial and utility customers in central, south and coastal Texas. SUEI and
Investments participate in energy-related projects internationally. Energia
Estrella del Sur, S. A. de C. V., a wholly-owned Mexican subsidiary of SUEI and
Investments, has a 43% equity ownership in a natural gas distribution company,
along with other related operations, which currently serves 23,000 customers in
Piedras Negras, Mexico, across the border from Southern Union Gas' Eagle Pass,
Texas service area. Norteno owns and operates interstate pipelines that serve
the gas distribution properties of Southern Union Gas and the Public Service
Company of New Mexico. Norteno also transports gas through its interstate
network to the country of Mexico for Pemex Gas y Petroquimica Basica. As of
September 30, 2002, the aggregate carrying amounts of assets and liabilities to
be sold were approximately $410,000,000 and $121,000,000, respectively.
Regulatory consent and approvals have been sought from several municipalities.
Notice is required to the Federal Energy Regulatory Commission and the Texas
Railroad Commission. Early termination of the waiting period under the Hart-
Scott-Rodino Act has been granted by the Federal Trade Commission. Closing is
expected to occur later this calendar year.
In April 2002, PG Energy Services Inc. ("Energy Services"), a wholly-owned
subsidiary of Southern Union, sold its propane operations for $2,300,000,
resulting in a pre-tax gain of $1,200,000.
In December 2001, Southern Transmission Company, a wholly-owned subsidiary of
the Company, sold its 43-mile Carrizo Springs Pipeline for $1,000,000, resulting
in a pre-tax gain of $561,000. Also in December 2001, the Company sold South
Florida Natural Gas, a natural gas division of Southern Union, and Atlantic Gas
Corporation, a Florida propane subsidiary of the Company (collectively, the
Florida Operations), for $10,000,000, resulting in a pre-tax loss of $1,500,000.
In October 2001, Morris Merchants, a wholly-owned subsidiary of Southern Union
which served as a manufacturers' representative agency for franchised plumbing
and heating contract supplies throughout New England, was sold for $1,586,000.
In September 2001, Valley Propane, a wholly-owned subsidiary of the Company
which sold liquid propane to residential, commercial and industrial customers,
was sold for $5,301,000. In August 2001, ProvEnergy Oil, a wholly-owned
subsidiary of Southern Union which operated a fuel oil distribution business
through its subsidiary, ProvEnergy Fuels, Inc. for residential and commercial
customers, was sold for $15,776,000. No financial gain or loss was recognized on
any of these sales transactions.
- --------------------------------------------------------------------------------
19
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
In July 2001, Energy Services sold its commercial and industrial natural gas
marketing contracts for $4,972,000, resulting in a pre-tax gain of $4,653,000.
In June 2001, Keystone Pipeline Services, Inc., a wholly-owned subsidiary of
Energy Services which engaged in the construction, maintenance, and
rehabilitation of natural gas distribution pipelines, was sold for $3,300,000,
resulting in a pre-tax gain of $707,000.
As a result of the divestiture of non-core business assets and the seasonal
nature of gas utility operations, the results of operations for the three- and
twelve-month periods ended September 30, 2002 are not indicative of results that
would necessarily be achieved for a full year. The majority of the Company's
operating margin is earned during the winter heating season.
RESULTS OF OPERATIONS
Three Months Ended September 30, 2002 and 2001
The Company recorded a net loss attributable to common stock of $6,495,000 for
the three-month period ended September 30, 2002 compared with a net loss of
$30,403,000 for the same period in 2001. Net loss per common share, based on
weighted average shares outstanding during the period, was $.12 in 2002 compared
to $.55 in 2001. Due to the seasonal nature of the natural gas distribution
business, the three-month period ending September 30 is typically a loss period.
Operating revenues were $147,399,000 for the three-month period ended
September 30, 2002, compared with $173,969,000 in 2001. Gas purchase and other
energy costs for the three-month period ended September 30, 2002 were
$66,183,000, compared with $92,987,000 in 2001. The Company's operating revenues
are affected by the level of sales volumes and by the pass-through of increases
or decreases in the Company's gas purchase costs through its purchased gas
adjustment clauses. Additionally, revenues are affected by increases or
decreases in gross receipts taxes (revenue-related taxes) which are levied on
sales revenue as collected from customers and remitted to the various taxing
authorities. The decrease in both operating revenues and gas purchase costs
between periods was primarily due to a 21% decrease in the average cost of gas
from $5.90 per Mcf in 2001 to $4.68 per Mcf in 2002. The decrease in the average
cost of gas is due to decreases in average spot market prices throughout the
Company's distribution system as a result of seasonal impacts on demands for
natural gas as well as the current competitive pricing occurring within the
entire energy industry.
Operating margin (operating revenues less gas purchase and other energy costs
and revenue-related taxes) increased $1,134,000 for the three-month period ended
September 30, 2002 compared with the same period in 2001. Operating margin
increased principally as a result of the timing of a $10,973,000 annual revenue
increase granted to Missouri Gas Energy effective August 6, 2001, as well as the
impact of the new rate design implemented in the New England Gas Company's Rhode
Island rate area effective July 1, 2002.
Operating expenses, which include operating, maintenance and general expenses,
depreciation and amortization, and taxes other than on income and revenues, were
$79,761,000 for the three-month period ended September 30, 2002, a decrease of
$3,529,000, compared with $83,290,000 in 2001. In connection with the Company's
Cash Flow Improvement Plan announced in July 2001 and discussed below, the
Company offered Early Retirement Programs ("ERPs") in certain of its operating
divisions and a limited reduction in force ("RIF") within its corporate offices
and began the divestiture of certain non-core assets which contributed savings
of $2,246,000 in operating expenses during the quarter ended September 30, 2002,
as compared with 2001. Additionally, the Company recognized a goodwill
impairment loss of $3,358,000 in depreciation and amortization expense for the
quarter ended September 30, 2001, based on prices of comparable businesses for
various non-core properties. These items were partially offset by increased
pension and other postretirement benefits costs, primarily due to volatility in
the stock markets, and increased insurance expense during the quarter ended
September 30, 2002.
- --------------------------------------------------------------------------------
20
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
In August 2001, the Company implemented a corporate reorganization and
restructuring which was initially announced in July 2001 as part of a Cash Flow
Improvement Plan designed to increase annualized pre-tax cash flow from
operations by at least $50 million by the end of fiscal year 2002. Actions taken
included (i) the offering of voluntary Early Retirement Programs ("ERPs") in
certain of its operating divisions and (ii) a limited reduction in force ("RIF")
within its corporate offices. ERPs, providing for increased benefits for those
electing retirement, were offered to approximately 400 eligible employees across
the Company's operating divisions, with approximately 60% of such eligible
employees accepting. The RIF was limited solely to certain corporate employees
in the Company's Austin and Kansas City offices where forty-eight employees were
offered severance packages. In connection with the corporate reorganization and
restructuring efforts, the Company recorded a one-time charge of $32,706,000
during the quarter ended September 30, 2001. This charge was reduced by
$1,394,000 during the quarter ended June 30, 2002, as a result of the Company's
ability to negotiate more favorable terms on certain of its restructuring
liabilities. The charge included: $17.7 million of voluntary and accepted ERP's,
primarily through enhanced benefit plan obligations, and other employee benefit
plan obligations; $7.6 million of RIF within the corporate offices and related
employee separation benefits; and $6.0 million connected with various business
realignment and restructuring initiatives. All restructuring actions were
completed as of June 30, 2002.
Interest expense was $21,196,000 for the three-month period ended September 30,
2002, compared to $27,159,000 in 2001. Interest expense decreased due to a
$185,941,000 reduction in long-term debt principal since September 30, 2001
which was somewhat offset by a $37,700,000 increase in notes payable outstanding
since September 30, 2001. Additionally, the average effective interest rate for
the three-month period has been reduced to 6.3% at September 30, 2002 as
compared to 7.1% in 2001. Principal was primarily reduced on the bank note (the
Term Note) entered into by the Company on August 28, 2000 for the acquisition of
the New England Operations. The Company entered into the Term Note to (i) fund
the cash consideration paid to stockholders of Fall River Gas, ProvEnergy and
Valley Resources, (ii) refinance and repay long- and short-term debt assumed in
the New England Operations, and (iii) acquisition costs of the New England
Operations. A portion of the Term Note was refinanced on July 16, 2002. See Debt
and Capital Lease in the Notes to the Consolidated Financial Statements included
herein.
Other income for the three-month period ended September 30, 2002 was $16,835,000
compared to $23,596,000 in 2001. Other income for the quarter ended September
30, 2002 includes a gain of $17,500,000 on the settlement of claims against
Southwest Gas Corporation ("Southwest") relating to the Company's attempts to
purchase Southwest. This gain was partially offset by $2,131,000 of related
legal costs. Other income for the quarter ended September 30, 2001 includes
gains of $17,166,000 generated through the settlement of several interest rate
swaps, a gain of $4,653,000 realized through the sale of marketing contracts
held by PG Energy Services Inc. and $1,905,000 of interest and dividend income.
These items were partially offset by $1,606,000 of legal costs associated with
Southwest.
The consolidated federal and state effective income tax rate was 38% and 35% for
the three-month period ended September 30, 2002 and 2001, respectively.
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21
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Twelve Months Ended September 30, 2002 and 2001
The Company recorded net earnings available for common stock of $43,532,000 for
the twelve-month period ended September 30, 2002 compared with net earnings of
$40,856,000 in 2001. Earnings per diluted share were $.78 in 2002 compared to
$.70 in 2001.
Operating revenues were $1,263,980,000 for the twelve-month period ended
September 30, 2002, compared with $1,962,314,000 in 2001. Gas purchase and other
energy costs for the twelve-month period ended September 30, 2002 were
$736,763,000, compared with $1,383,203,000 in 2001. The decrease in both
operating revenues and gas purchase costs between periods was primarily due to a
16% net decrease in sales volume from 178,188 MMcf in 2001 to 149,151 MMcf in
2002 and by a 31% decrease in the average cost of gas from $7.07 per Mcf in
2001 to $4.91 per Mcf in 2002. The decrease in gas sales volumes is primarily
due to the warmer-than-normal weather in 2002 as compared to colder-than-normal
weather in 2001 in all of the Company's service territories. The decrease in the
average cost of gas is due to decreases in average spot market prices throughout
the Company's distribution system as a result of seasonal impacts on demands for
natural gas as well as the current competitive pricing occurring within the
entire energy industry.
Weather in Southern Union Gas service territories was 97% of a 30-year measure
for the twelve-month period ended September 30, 2002, compared with 119% in
2001. About half of the customers served by Southern Union Gas are weather
normalized. Missouri Gas Energy's service territories experienced weather that
was 84% of a 30-year measure in 2002, compared with 107% in 2001. Weather for
the PG Energy service territories was 84% of a 30-year measure for the
twelve-month period ended September 30, 2002, compared with 105% in 2001. The
New England Gas Company service territories experienced weather that was 86% of
a 30-year measure in 2002, compared with 104% in 2001.
Operating margin decreased $28,364,000 for the twelve-month period ended
September 30, 2002 compared with the same period in 2001, principally as a
result of the warmer-than-normal weather, previously discussed. This decrease
was partially offset by the timing of the $10,973,000 annual revenue increase
granted to Missouri Gas Energy effective August 6, 2001, and a $10,800,000
annual revenue increase granted to PG Energy effective January 1, 2001.
Operating expenses, excluding business restructuring charges, which were
previously discussed, were $323,448,000 for the twelve-month period ended
September 30, 2002, compared with operating expenses of $381,845,000 in 2001.
Operating expenses were impacted by a reduction in bad debt expense of
$18,539,000 due to a decrease in customer receivables as a result of lower gas
prices and warmer weather, previously discussed, and the elimination of goodwill
amortization resulting from the Company's adoption of Goodwill and Other
Intangible Assets effective July 1, 2001. In accordance with this Standard, the
Company has ceased the amortization of goodwill, which generated $14,728,000 of
expense during the twelve-months ended September 30, 2001, and currently
accounts for goodwill on an impairment-only basis. See Goodwill in the Notes to
the Consolidated Financial Statements included herein. Operating expenses for
the twelve-month period ended September 30, 2002, were also impacted by realized
savings of approximately $11,600,000 from the Cash Flow Improvement Plan,
reduced operating expenses of $6,803,000 from the sale of non-core assets,
environmental insurance recoveries of $6,375,000 and a goodwill impairment loss
of $3,358,000. Additionally, taxes other than on income, which consists of
property, payroll and state franchise taxes, decreased by $4,900,000 for the
twelve-month period ended September 30, 2002, primarily due to a reduction in
employees resulting from the Company's reorganization and restructuring
initiatives as well as from the sale of non-core subsidiaries and assets and
reduced provisions for state franchise taxes. These items were partially offset
by $9,047,000 of increased pension and other postretirement benefits costs,
primarily due to volatility in the stock markets.
Interest expense was $85,762,000 for the twelve-month period ended September 30,
2002 compared to $114,372,000 in 2001. Interest expense decreased primarily due
to both the reduction in the principal and variable interest rate on the
previously mentioned Term Note entered into by the Company on August 28, 2000
for the acquisition of the New England Operations. See Debt and Capital Lease in
the Notes to the Consolidated Financial Statements included herein.
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22
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Other income for the twelve-month period ended September 30, 2002 was $7,607,000
compared to $105,928,000 in 2001. Other income for the twelve-month period ended
September 30, 2002 includes a gain of $17,500,000 on the settlement of claims
against Southwest, previously discussed, the recognition of $5,997,000 in
previously recorded deferred income related to financial derivative energy
trading activity of a wholly-owned subsidiary, income of $2,206,000 generated
from the sale and/or rental of gas-fired equipment and appliances by various
operating subsidiaries and a gain of $1,203,000 realized through the sale of the
propane assets of PG Energy Services Inc. These items were partially offset by a
non-cash charge of $10,380,000 to reserve for the impairment of the Company's
investment in a technology company and $9,625,000 of legal costs associated with
Southwest. Other income for the twelve-month period ended September 30, 2001
includes realized gains of $74,582,000 on the sale of a portion of Southern
Union's holdings in Capstone Turbine Corporation, a gain of $17,166,000 from
interest rate swap settlements, previously discussed, a $13,532,000 gain on the
sale of non-core real estate, interest and dividend income of $8,831,000 and a
gain of $4,653,000 from the sale of marketing contracts, also previously
discussed. These items were partially offset by $12,420,000 of legal costs
associated with Southwest and $2,489,000 of non-cash trading losses.
The Company's consolidated federal and state effective income tax rate was 39%
and 47% for the twelve-month period ended September 30, 2002 and 2001,
respectively. The decline in the effective tax rate is a result of non-tax
deductible amortization and write-off of goodwill, along with the level of
pre-tax earnings.
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23
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following table sets forth certain information regarding the Company's gas
utility operations for the three- and twelve-month periods ended September 30,
2002 and 2001:
Three Months Twelve Months
Ended September 30, Ended September 30,
2002 2001 2002 2001
---------- ---------- ---------- ----------
Average number of gas
sales customers served:
Residential.............. 1,329,178 1,313,526 1,337,112 1,328,356
Commercial............... 130,178 125,102 130,254 128,480
Industrial and
irrigation.............. 1,020 4,237 3,462 4,310
Public authorities and
other................... 3,346 3,156 3,238 3,162
Pipeline and marketing... 362 350 1,417 352
---------- ---------- ---------- ----------
Total average customers
served................. 1,464,084 1,446,371 1,475,483 1,464,660
========== ========== ========== ==========
Gas sales in millions of
cubic feet (MMcf)
Residential.............. 6,828 6,960 91,434 109,468
Commercial............... 3,825 3,675 36,713 44,324
Industrial and
irrigation.............. 838 1,009 4,490 5,440
Public authorities and
other................... 267 245 2,682 3,201
Pipeline and marketing... 2,339 2,982 14,402 15,925
---------- ---------- ---------- ----------
Gas sales billed........ 14,097 14,871 149,721 178,358
Net change in unbilled
gas sales............... (148) 394 (570) (170)
---------- ---------- ---------- ----------
Total gas sales......... 13,949 15,265 149,151 178,188
========== ========== ========== ==========
Gas sales revenues
(thousands of dollars):
Residential.............. $ 85,126 $ 96,788 $ 832,340 $1,155,138
Commercial............... 31,574 36,186 289,622 429,417
Industrial and
irrigation.............. 5,176 7,713 32,440 46,198
Public authorities and
other................... 1,678 1,599 15,111 26,346
Pipeline and marketing... 8,810 11,482 45,995 76,649
---------- ---------- ---------- ----------
Gas revenues billed..... 132,364 153,768 1,215,508 1,733,748
Net change in unbilled
gas sales revenues...... 1,954 3,374 (7,798) 4,807
---------- ---------- ---------- ----------
Total gas sales
revenues............... $ 134,318 $ 157,142 $1,207,710 $1,738,555
========== ========== ========== ==========
Gas sales revenue per
thousand cubic feet (Mcf)
billed:
Residential.............. $ 12.47 $ 13.91 $ 9.10 $ 10.55
Commercial............... 8.26 9.85 7.89 9.69
Industrial and
irrigation.............. 6.18 7.64 7.23 8.49
Public authorities and
other................... 6.29 6.53 5.63 8.23
Pipeline and marketing... 3.77 3.85 3.19 4.81
Weather:
Degree days:
Southern Union Gas
service territories..... -- 2 1,943 2,377
Missouri Gas Energy
service territories..... 14 67 4,366 5,542
PG Energy service
territories............. 100 195 5,278 6,556
New England Gas Company
service territories..... 25 118 4,930 6,009
Percent of normal based
on 30-year measure:
Southern Union Gas
service territories.... 3.6% 29.9% 97.1% 118.7%
Missouri Gas Energy
service territories.... 21.5% 103.1% 83.9% 106.5%
PG Energy service
territories............ 60.6% 118.2% 84.3% 104.8%
New England Gas Company
service territories.... 22.1% 104.4% 85.7% 104.4%
Gas transported in millions
of cubic feet (MMcf)...... 18,774 19,483 90,736 93,429
Gas transportation revenues
(thousands of dollars).... $ 7,744 $ 7,012 $ 45,640 $ 45,209
The above information does not include the Company's 43% equity ownership in a
natural gas distribution company serving 23,000 customers in Piedras Negras,
Mexico. The 30-year measure of weather is used above for consistent external
reporting purposes. Measures of normal weather used by the Company's regulatory
authorities to set rates vary by jurisdiction. Periods used to measure normal
weather for regulatory purposes range from 10 years to 30 years.
- --------------------------------------------------------------------------------
24
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Company's gas utility operations are seasonal in nature with a significant
percentage of the annual revenues and earnings occurring in the traditional
heating-load months. This seasonality results in a high level of cash flow needs
immediately preceding the peak winter heating season months, due to the required
payments to natural gas suppliers in advance of the receipt of cash payments
from the Company's customers. The Company has historically used internally
generated funds and its credit facilities to provide funding for its seasonal
working capital, continuing construction and maintenance programs and
operational requirements.
On June 10, 2002, the Company entered into an amended short-term credit facility
in the amount of $150,000,000 (the "Short-Term Facility"), that matures on
June 9, 2003. Also on June 10, 2002, the Company amended the terms and
conditions of its $225,000,000 long-term credit facility (the "Long-Term
Facility"), which expires on May 29, 2004. The Company has additional
availability under uncommitted line of credit facilities (Uncommitted
Facilities) with various banks. Borrowings under the facilities are available
for Southern Union's working capital, letter of credit requirements and other
general corporate purposes. The Short-Term Facility and the Long-Term Facility
(together, the "Facilities") are subject to a commitment fee based on the rating
of the Senior Notes. As of June 30, 2002, the commitment fees were an annualized
0.14% on the Facilities. The interest rate on borrowings on the Facilities is
calculated based upon a formula using the LIBOR or prime interest rates. A
balance of $230,700,000 was outstanding under the Facilities at September 30,
2002 and $248,300,000 at November 8, 2002.
On August 28, 2000 the Company entered into the Term Note to fund (i) the cash
portion of the consideration to be paid to the Fall River Gas' stockholders;
(ii) the all cash consideration to be paid to the ProvEnergy and Valley
Resources stockholders, (iii) repayment of approximately $50,000,000 of long-
and short-term debt assumed in the mergers, and (iv) all related acquisition
costs. On July 16, 2002, the Company repaid the Term Note with the proceeds from
the issuance of a $311,087,000 Term Note dated July 15, 2002 (the "2002 Term
Note") and borrowings under the Company's lines of credit. The 2002 Term Note
requires semi-annual principal repayments on February 15th and August 15th of
each year, with payments of $25,000,000 each being due February 15, 2003,
August 15, 2003, February 15, 2004, and August 15, 2004 and payments of
$35,000,000 each being due February 15, 2005 and August 15, 2005. The remaining
principal amount of $141,087,000 is due August 26, 2005. No additional draws can
be made on the Term Note.
The principal source of funds during the three-month period ended September 30,
2002 were $311,087,000 from the issuance of long-term debt and $98,900,000 in
net borrowings under revolving credit facilities. This provided funds of
$354,105,000 for the repayment of debt and capital lease obligations and
$25,571,000 for on-going property, plant and equipment additions; as well as
seasonal working capital needs of the Company.
The effective interest rate under the Company's current debt structure is 6.77%
(including interest and the amortization of debt issuance costs and redemption
premiums on refinanced debt).
The Company retains its borrowing availability under the Facilities, as
discussed above. Borrowings under these credit facilities will continue to be
used, as needed, to provide funding for the seasonal working capital needs of
the Company. Internally-generated funds from operations will be used principally
for the Company's ongoing construction and maintenance programs and operational
needs and may also be used periodically to reduce outstanding debt.
On December 6, 2001 and October 19, 2001, respectively, the Company filed shelf
registrations for $200,000,000 of subordinated debt securities and preferred
securities of financing trusts and $400,000,000 of senior debt securities.
Southern Union may sell such securities up to such amounts from time to time, at
prices determined at the time of any such offering. The Company currently has
regulatory approval to issue up to $88,900,000 of these securities for certain
uses.
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25
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There are no material changes in market risks faced by the Company from those
reported in the Company's Annual Report on Form 10-K for the year ended June 30,
2002.
The information contained in Item 3 updates, and should be read in conjunction
with, information set forth in Part II, Item 7 in the Company's Annual Report on
Form 10-K for the year ended June 30, 2002, in addition to the interim
consolidated financial statements, accompanying notes, and Management's
Discussion and Analysis of Financial Condition and Results of Operations
presented in Items 1 and 2 of this Quarterly Report on Form 10-Q.
OTHER MATTERS
Board of Directors On September 18, 2002, Aaron I. Fleischman resigned from the
Board of Directors of the Company (the "Board"). Additionally, Dan K. Wassong's
term expired on November 5, 2002. Mr. Wassong did not stand for re-election to
the Board.
On November 5, 2002 at the Company's Annual Meeting of Stockholders,
George L. Lindemann, Thomas F. Karam and David Brodsky were elected as Class III
directors to serve until the 2005 Annual Meeting of Stockholders.
Investment Securities The Company reviews its portfolio of investment securities
on a quarterly basis to determine whether a decline in value is other than
temporary. Factors that are considered in assessing whether a decline in value
is other than temporary include, but are not limited to: earnings trends and
asset quality; near term prospects and financial condition of the issuer,
including the availability and terms of any additional financing requirements;
financial condition and prospects of the issuer's region and industry, customers
and markets and Southern Union's intent and ability to retain the investment. If
Southern Union determines that the decline in value of an investment security is
other than temporary, the Company will record a charge on its consolidated
statement of operations to reduce the carrying value of the security to its
estimated fair value.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This Management's Discussion and Analysis of Results of Operations and Financial
Condition and other sections of this Form 10-Q may contain forward-looking
statements that are based on current expectations, estimates and projections
about the industry in which the Company operates, management's beliefs and
assumptions made by management. Words such as "expects," "anticipates,"
"intends," "plans," "believes," "seeks," "estimates," variations of such words
and similar expressions are intended to identify such forward-looking
statements. These statements are not guarantees of future performance and
involve certain risks, uncertainties and assumptions, which are difficult to
predict and many of which are outside the Company's control. Therefore, actual
outcomes and results may differ materially from what is expressed or forecasted
in such forward-looking statements. The Company undertakes no obligation to
update publicly any forward-looking statements, whether as a result of new
information, future events or otherwise. Readers are cautioned not to put undue
reliance on such forward-looking statements. Stockholders may review the
Company's reports filed in the future with the Securities and Exchange
Commission for more current descriptions of developments that could cause actual
results to differ materially from such forward-looking statements.
Factors that could cause or contribute to actual results differing materially
from such forward-looking statements include the following: cost of gas; gas
sales volumes; weather conditions in the Company's service territories; the
achievement of operating efficiencies and the purchases and implementation of
new technologies for attaining such efficiencies; impact of relations with labor
unions of bargaining-unit employees; the receipt of timely and adequate rate
relief; the outcome of pending and future litigation; governmental regulations
and proceedings affecting or involving the Company; unanticipated environmental
liabilities; changes in business strategy; the risk that the businesses acquired
and any other businesses or investments that Southern Union has acquired or may
acquire may not be successfully integrated with the businesses of Southern
Union; the impairment or sale of investment securities; ability to access
capital markets on reasonable terms; and the nature and impact of any
extraordinary transactions such as any acquisition or divestiture of a business
unit or any assets. These are representative of the factors that could affect
the outcome of the forward-looking statements. In addition, such statements
could be affected by general industry and market conditions, and general
economic conditions, including interest rate fluctuations, federal, state and
local laws and regulations affecting the retail gas industry or the energy
industry generally, and other factors.
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26
SOUTHERN UNION COMPANY AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
CONTROLS AND PROCEDURES
We performed an evaluation within the 90-day period prior to the filing of this
quarterly report under the supervision and with the participation of our
management, including our Chief Executive Officer ("CEO") and Chief Financial
Officer ("CFO"), and with the participation of personnel from our Legal,
Internal Audit, Risk Management and Financial Reporting Departments of the
effectiveness of the design and operation of our disclosure controls and
procedures. Based on that evaluation, our CEO and CFO concluded that our
disclosure controls and procedures were effective as of September 30, 2002 and
have communicated that determination to the Audit Committee of our Board of
Directors. There have been no significant changes in our internal controls or
other factors that could significantly affect internal controls subsequent to
September 30, 2002.
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27
SOUTHERN UNION COMPANY AND SUBSIDIARIES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SOUTHERN UNION COMPANY
----------------------------------
(Registrant)
Date: November 14, 2002 By: DAVID J. KVAPIL
--------------------- -------------------------
David J. Kvapil
Executive Vice President and
Chief Financial Officer
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CERTIFICATION
I, George L. Lindemann, certify that:
(1) I have reviewed this quarterly report on Form 10-Q of Southern Union
Company;
(2) Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
(3) Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
(4) The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
(5) The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the Audit Committee
of the Company's Board of Directors:
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
(6) The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
GEORGE L. LINDEMANN
- ----------------------
George L. Lindemann
Chairman of the Board and
Chief Executive Officer
November 14, 2002
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CERTIFICATION
I, David J. Kvapil, certify that:
(1) I have reviewed this quarterly report on Form 10-Q of Southern Union
Company;
(2) Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
(3) Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
(4) The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
(a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
(b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date
of this quarterly report (the "Evaluation Date"); and
(c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
(5) The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the Audit Committee
of the Company's Board of Directors:
(a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
(b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
(6) The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
DAVID J. KVAPIL
- ---------------------
David J. Kvapil
Executive Vice President and
Chief Financial Officer
November 14, 2002
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Exhibit 99.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Form 10-Q of Southern Union Company (the
"Company") for the quarter ended September 30, 2002, as filed with the
Securities and Exchange Commission on the date hereof (the "Report"), I,
George L. Lindemann, Chairman of the Board and Chief Executive Officer of the
Company, certify, pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 906
of the Sarbanes-Oxley Act of 2002, that the Report fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934,
as amended, and the information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations of the
Company.
GEORGE L. LINDEMANN
- ------------------------
George L. Lindemann
Chairman of the Board and
Chief Executive Officer
November 14, 2002
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Exhibit 99.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Form 10-Q of Southern Union Company (the
"Company") for the quarter ended September 30, 2002, as filed with the
Securities and Exchange Commission on the date hereof (the "Report"), I,
David J. Kvapil, Executive Vice President and Chief Financial Officer of the
Company, certify, pursuant to 18 U.S.C. ss. 1350, as adopted pursuant to ss. 906
of the Sarbanes-Oxley Act of 2002, that the Report fully complies with the
requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934,
as amended, and the information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations of the
Company.
DAVID J. KVAPIL
- ---------------------
David J. Kvapil
Executive Vice President and
Chief Financial Officer
November 14, 2002
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