-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: keymaster@town.hall.org Originator-Key-Asymmetric: MFkwCgYEVQgBAQICAgADSwAwSAJBALeWW4xDV4i7+b6+UyPn5RtObb1cJ7VkACDq pKb9/DClgTKIm08lCfoilvi9Wl4SODbR1+1waHhiGmeZO8OdgLUCAwEAAQ== MIC-Info: RSA-MD5,RSA, lIXSQQxJUJvjXfV/72WiTI6FbMFNUJBftGTOSCts9/oFPbVInCr0zwvH6dAMFefn sAD5/NQYnvn/vcwYjybzug== 0000077231-94-000036.txt : 19941110 0000077231-94-000036.hdr.sgml : 19941110 ACCESSION NUMBER: 0000077231-94-000036 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19940930 FILED AS OF DATE: 19941109 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: PENNSYLVANIA GAS & WATER CO CENTRAL INDEX KEY: 0000077242 STANDARD INDUSTRIAL CLASSIFICATION: 4931 IRS NUMBER: 240717235 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-03490 FILM NUMBER: 94558219 BUSINESS ADDRESS: STREET 1: 39 PUBLIC SQ STREET 2: WILKES BARRE CTR CITY: WILKES-BARRE STATE: PA ZIP: 18711-0601 BUSINESS PHONE: 7178298843 FORMER COMPANY: FORMER CONFORMED NAME: SCRANTON SPRING BROOK WATER SERVICE CO DATE OF NAME CHANGE: 19660908 10-Q 1 PENNSYLVANIA GAS AND WATER COMPANY TABLE OF CONTENTS PAGE PART I. FINANCIAL INFORMATION Item 1. Financial Statements Statements of Income for the three and nine months ended September 30, 1993 and 1994. . . . . . . . . 2 Balance Sheets as of December 31, 1993, and September 30, 1994. . . . . . . . . . . . . . . . . . 3 Statements of Cash Flows for the nine months ended September 30, 1993 and 1994. . . . . . . . . 5 Notes to Financial Statements . . . . . . . . . . . . . . . 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. . . . . . . . . . . . 12 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . 29 -1- PART I. FINANCIAL INFORMATION PENNSYLVANIA GAS AND WATER COMPANY STATEMENTS OF INCOME
Three Months Ended Nine Months Ended September 30, September 30, 1993 1994 1993 1994 (Thousands of Dollars) OPERATING REVENUES: Gas $ 13,015 $ 14,356 $ 104,006 $ 121,157 Water 14,944 17,506 39,522 50,473 Total operating revenues 27,959 31,862 143,528 171,630 OPERATING EXPENSES: Cost of gas 5,722 6,552 58,009 71,366 Other operation expenses 9,654 9,712 29,175 29,755 Maintenance 2,704 2,639 7,090 7,675 Depreciation 3,090 3,652 9,263 10,956 Deferred treatment plant costs, net (390) 145 (1,916) 436 Income taxes (551) 209 4,700 9,130 Other taxes 2,968 2,728 13,458 12,541 Total operating expenses 23,197 25,637 119,779 141,859 OPERATING INCOME 4,762 6,225 23,749 29,771 OTHER INCOME (DEDUCTIONS), NET (Note 4) 949 (156) 477 (129) INCOME BEFORE INTEREST CHARGES 5,711 6,069 24,226 29,642 INTEREST CHARGES: Interest on long-term debt 5,138 5,282 15,280 15,520 Other interest 501 384 1,771 1,295 Allowance for borrowed funds used during construction 69 (102) (1,345) (241) Deferred treatment plant carrying charges (112) - (627) - Total interest charges 5,596 5,564 15,079 16,574 NET INCOME 115 505 9,147 13,068 DIVIDENDS ON PREFERRED STOCK 1,621 1,025 4,863 3,669 EARNINGS (LOSS) APPLICABLE TO COMMON STOCK $ (1,506) $ (520) $ 4,284 $ 9,399 COMMON STOCK: Earnings (loss) per share of common stock: Before premium on redemption of preferred stock $ (.37) $ (.10) $ 1.06 $ 1.84 Premium on redemption of preferred stock - - - (.10) Earnings (loss) per share of common stock $ (.37) $ (.10) $ 1.06 $ 1.74 Weighted average number of shares outstanding 4,027,119 5,385,580 4,023,233 5,101,613 Cash dividends per share $ .71 $ .425 $ 2.13 $ 1.13 The accompanying notes are an integral part of the financial statements.
-2- PENNSYLVANIA GAS AND WATER COMPANY BALANCE SHEETS
December 31, September 30, 1993 1994 (Thousands of Dollars) ASSETS UTILITY PLANT: Gas plant, at original cost less acquisition adjustments of $386,000 $ 245,969 $ 256,327 Water plant, at original cost plus acquisition adjustments of $14,577,000 and $14,581,000, respectively 360,996 373,570 Common plant, at original cost 26,212 27,162 633,177 657,059 Accumulated depreciation (86,287) (94,853) 546,890 562,206 OTHER PROPERTY AND INVESTMENTS: Restricted funds held by trustee 12,853 5,896 Other 3,291 3,020 16,144 8,916 CURRENT ASSETS: Cash and cash equivalents 2,714 227 Accounts receivable - Customers 20,533 15,294 Others 1,258 1,250 Reserve for uncollectible accounts (1,223) (1,706) Accrued utility revenues 16,123 6,237 Materials and supplies, at average cost 3,549 3,875 Gas held by suppliers, at average cost 26,650 21,993 Deferred cost of gas and supplier refunds, net 12,752 14,120 Prepaid expenses and other 2,026 2,875 84,382 64,165 DEFERRED CHARGES: Deferred taxes collectible 51,382 51,610 Natural gas transition costs collectible - 7,372 Unamortized debt expense 5,745 5,287 Deferred treatment plant costs and carrying charges 10,129 9,693 Deferred water utility billings 3,885 7,780 Other 7,751 7,254 78,892 88,996 TOTAL ASSETS $ 726,308 $ 724,283 The accompanying notes are an integral part of the financial statements.
-3- PENNSYLVANIA GAS AND WATER COMPANY BALANCE SHEETS
December 31, September 30, 1993 1994 (Thousands of Dollars) CAPITALIZATION AND LIABILITIES CAPITALIZATION: Common shareholder's investment $ 188,011 $ 211,860 Preferred stock - Not subject to mandatory redemption, net 33,615 33,615 Subject to mandatory redemption 31,840 16,760 Long-term debt 266,259 219,357 519,725 481,592 CURRENT LIABILITIES: Current portion of long-term debt and preferred stock subject to mandatory redemption 38,664 76,883 Notes payable - Bank 2,000 - Parent 3,680 - Accounts payable - Suppliers 22,401 14,562 Affiliates, net 1,888 632 Accrued general business and realty taxes 3,574 1,810 Accrued income taxes 4,984 3,078 Accrued interest 4,042 5,255 Accrued natural gas transition costs - 3,408 Other 2,440 3,746 83,673 109,374 DEFERRED CREDITS: Deferred income taxes 87,005 91,639 Accrued natural gas transition costs - 5,479 Unamortized investment tax credits 9,183 9,007 Advances for construction 10,985 11,427 Contributions in aid of construction 9,810 9,861 Operating reserves 1,863 1,955 Other 4,064 3,949 122,910 133,317 COMMITMENTS AND CONTINGENCIES (Note 5) TOTAL CAPITALIZATION AND LIABILITIES $ 726,308 $ 724,283 The accompanying notes are an integral part of the financial statements.
-4- PENNSYLVANIA GAS AND WATER COMPANY STATEMENTS OF CASH FLOWS [CAPTION] Nine Months Ended September 30, 1993* 1994 (Thousands of Dollars) [S] [C] [C] CASH FLOW FROM OPERATING ACTIVITIES: Net income $ 9,147 $ 13,068 Gain on sale of non-watershed land (35) (291) Effects of noncash charges (credits) to income - Depreciation 9,280 10,976 Deferred income taxes, net 1,002 4,375 Provisions for self insurance 1,480 1,064 Deferred treatment plant costs and carrying charges, net (2,996) 436 Allowance for equity funds used during construction (667) (44) Deferred water utility billings (421) (4,329) Other, net 3,333 2,659 Changes in working capital, exclusive of cash and current portion of long-term debt - Receivables and accrued utility revenues 16,798 16,014 Gas held by suppliers (9,500) 4,657 Accounts payable (2,013) (8,552) Deferred cost of gas and supplier refunds, net (10,973) 147 Other current assets and liabilities, net (2,492) (2,134) Other operating items, net (2,807) (2,193) Net cash provided by operating activities 9,136 35,853 CASH FLOW FROM INVESTING ACTIVITIES: Additions to utility plant (net of allowance for equity funds used during construction) (35,917) (26,884) Other, net 1,101 888 Net cash used for investing activities (34,816) (25,996) CASH FLOW FROM FINANCING ACTIVITIES: Issuance of common stock 347 20,884 Redemption of preferred stock (80) (15,080) Dividends on common and preferred stock (13,430) (9,569) Issuance of long-term debt 1,635 695 Repayment of long-term debt (12,175) (8,458) Repayment of note payable to parent - (3,680) Utilization of restricted funds held by trustee 12,357 7,203 Net increase (decrease) in bank borrowings 39,524 (3,463) Other, net (995) (876) Net cash provided by (used for) financing activities 27,183 (12,344) NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,503 (2,487) CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 570 2,714 CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 2,073 $ 227 SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest (net of amount capitalized) $ 14,465 $ 14,698 Income taxes $ 4,815 $ 5,751 *Reclassified to conform with 1994 financial statement presentation. The accompanying notes are an integral part of the financial statements. -5- PENNSYLVANIA GAS AND WATER COMPANY NOTES TO FINANCIAL STATEMENTS (1) GENERAL The interim financial statements included herein have been prepared by Pennsylvania Gas and Water Company ("PG&W"), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although PG&W believes that the disclosures are adequate to make the information presented not misleading. The results for the interim periods are not indicative of the results to be expected for the year, primarily due to the effect of seasonal variations in weather. However, in the opinion of management, all adjustments, consisting of only normal recurring accruals, necessary to present fairly the results for the interim periods have been reflected in the financial statements. It is suggested that these financial statements be read in conjunction with the financial statements and the notes thereto included in PG&W's latest annual report on Form 10-K. (2) RATE MATTERS Gas Utility Operations Annual Gas Cost Adjustment. Pursuant to the provisions of the Pennsylvania Public Utility Code (the "Code"), which require that the tariffs of larger gas distribution companies, such as PG&W, be adjusted on an annual basis to reflect changes in their purchased gas costs, the Pennsylvania Public Utility Commission (the "PPUC") ordered PG&W to make the following changes during 1992 and 1993 to the gas costs contained in its gas tariff rates: [CAPTION] Change in Calculated Effective Rate per MCF Increase (Decrease) Date From To in Annual Revenue [S] [C] [C] December 1, 1992 $2.46 $2.79 $ 9,500,000 December 1, 1993 2.79 3.74 28,800,000 Such changes in gas rates on account of purchased gas costs have no effect on PG&W's earnings since the change in revenue is offset by a corresponding change in the cost of gas. Recovery of FERC Order 636 Transition Costs. On October 15, 1993, the PPUC adopted an annual purchased gas cost ("PGC") order (the "PGC Order") regarding recovery of Federal Energy Regulatory Commission ("FERC") Order 636 transition costs. The PGC Order stated the PPUC believes that the recovery of Account 191 and New Facility Costs (the "Gas Transition Costs") are subject to recovery through the annual PGC rate filing made with the PPUC by PG&W and other larger local gas distribution companies. The PGC Order also indicated that while Gas Supply Realignment and Stranded Costs (the "Non-Gas Transition Costs") were not natural gas costs eligible for recovery under the PGC rate filing mechanism, -6- such costs were subject to full recovery by local distribution companies through the filing of a tariff pursuant to either the existing surcharge or base rate provisions of the Code. The PGC Order further stated that all such filings would be evaluated on a case-by-case basis. As of February 1, 1994, PG&W began to recover the Gas Transition Costs that are being billed to PG&W by its interstate pipelines through an increase in its PGC rate. It is currently estimated that these costs, which will be billed to PG&W over a nineteen-month period extending through March 31, 1995, will aggregate $1.2 million, of which $1.1 million had been billed to PG&W and $456,000 had been recovered from its customers as of September 30, 1994. Additionally, on January 14, 1994, PG&W filed tariffs pursuant to the surcharge provisions of the Code seeking the full recovery of the Non-Gas Transition Costs that it estimates it will be billed by its interstate pipelines. On February 24, 1994, the PPUC suspended the effectiveness of these proposed tariffs for six months (i.e., until August 28, 1994) in order to institute an investigation into the reasonableness of such tariffs. On June 30, 1994, the PPUC Administrative Law Judge assigned to conduct this investigation issued a decision recommending, among other things, that the PPUC allow PG&W full recovery of its Non-Gas Transition Costs, which decision was approved by Order of the PPUC entered August 26, 1994. Effective September 12, 1994, PG&W began recovering the Non-Gas Transition Costs that it estimates it will ultimately be billed pursuant to FERC Order 636 through the billing of a surcharge to its customers. It is currently estimated that $11.9 million of Non-Gas Transition Costs will be billed to PG&W, generally over a four-year period extending through the fourth quarter of 1997, of which $2.9 million had been billed to PG&W and $67,000 had been recovered from its customers as of September 30, 1994. PG&W has recorded a liability for the $8.9 million of such estimated transition costs that remain to be billed to it as of September 30, 1994, and both a current asset and a deferred asset (which together totaled $12.4 million as of September 30, 1994) representing the transition costs remaining to be recovered from PG&W's customers. Water Utility Operations Scranton Area Water Rate Increase. On September 25, 1992, PG&W filed an application with the PPUC seeking a water rate increase, designed to produce $9.9 million in additional annual revenue. This rate increase request involved the approximately 56,000 customers in PG&W's Scranton Water Rate Area at such date. By Order entered June 23, 1993, the PPUC rejected the proposed rate increase in its entirety "due to inadequate service" (i.e., water quality). However, by the same Order, the PPUC granted PG&W the alternative of a rate increase designed to produce an additional $5.0 million in annual revenue, provided that PG&W dedicate the entire increase to augment the improvements to its water distribution system until "...the demonstration by [PG&W] to [the PPUC] that it is providing adequate service." PG&W accepted this alternative and placed such $5.0 million rate increase into effect as of June 23, 1993. On August 19, 1993, the PPUC approved a settlement agreement resolving certain disputed issues relating to its June 23, 1993, Order. This settlement agreement provided, among other things, for (i) modification by the PPUC of its June 23, 1993, Order to reduce the amount of the revenue increase that it ordered be dedicated to distribution system improvements by the related income taxes and other expenses and the $319,000 additional expense for retiree health care and life insurance benefits that the PPUC allowed PG&W in its revenues (which resulted in the requirement for an additional annual expenditure for distribution system improvements by PG&W of $2.5 million), (ii) the agreement by PG&W (with which it was in compliance as of September 30, 1994) to spend a total of $4.9 million annually (an additional $2.5 million over its actual average annual expenditure of $2.4 million during the three-year period ended June 30, -7- 1993) for distribution system improvements in the Scranton Water Rate Area until the PPUC is satisfied that PG&W is providing adequate service, (iii) the modification by the PPUC of its June 23, 1993, Order to restore the Hollister Reservoir to PG&W's rate base, and (iv) the withdrawal by PG&W and the Office of Consumer Advocate of their appeals to the Commonwealth Court of Pennsylvania regarding the PPUC's June 23, 1993, Order. Spring Brook Water Rate Increases. Crystal Lake Service Area. On June 30, 1992, PG&W filed an application with the PPUC seeking a water rate increase, designed to produce $4.4 million in additional annual revenue, to be effective August 29, 1992. This rate increase request involved the approximately 5,000 customers in the Spring Brook Water Rate Area served exclusively by the Crystal Lake Water Treatment Plant, which became fully operational in August, 1992. On December 15, 1992, PG&W and certain parties filing objections to the rate increase request reached a settlement providing for an approximate 130% rate increase designed to produce $2.0 million of additional annual revenue to be phased-in over a two-year period under the terms of a qualified phase-in plan, pursuant to Financial Accounting Standards Board ("FASB") Statement 92 entitled "Regulated Enterprises-Accounting for Phase-in Plans." The settlement further provided that $1.1 million of the increased revenue (an approximate 72% increase in rates) was to be realized through an immediate rate increase and that the remaining $900,000 in increased revenue (an additional 58% increase in rates) was to be realized through another rate increase one year later (i.e., at the beginning of year two of the phase-in period). The settlement also specified that the $900,000 in revenue that would be deferred during the first year of the phase-in period, as well as an approximate $243,000 in carrying charges, was to be collected from customers in the form of a surcharge in years three through five of the phase-in period. By Order adopted February 25, 1993, the PPUC approved the settlement effective March 9, 1993. In accordance with the provisions of FASB Statement 92, PG&W commenced recording the entire $2.0 million increase in annual revenue allowed by the PPUC as additional revenue beginning March 9, 1993, along with the related carrying charges on revenue deferred in accordance with the phase-in plan. However, pursuant to the terms of the settlement, PG&W deferred the billing of approximately $900,000 of the increased revenue recorded during the first year of the phase-in period (i.e., the period March 9, 1993, through March 8, 1994). Effective March 9, 1995, PG&W will begin to bill, by means of the surcharge that will be in effect in years three through five of the phase-in period, the approximate $900,000 that has been so deferred, as well as the related carrying charges. Ceasetown and Watres Service Areas. On April 29, 1993, PG&W filed an application with the PPUC seeking a water rate increase, designed to produce $19.5 million in additional annual revenue. This rate increase request involved approximately 59,300 customers in PG&W's Spring Brook Water Rate Area, principally those customers (i) served by the Ceasetown Water Treatment Plant which was placed in service on March 31, 1993, (ii) served by the Watres Water Treatment Plant which was placed in service on September 30, 1993, (iii) served jointly by the Ceasetown and Watres Water Treatment Plants, and (iv) who are served exclusively by the Nesbitt Water Treatment Plant. On September 23, 1993, PG&W and certain parties filing objections to the rate increase request reached a settlement providing for an overall 119% rate increase involving approximately 44,900 customers, principally those served either exclusively or jointly by the Ceasetown and Watres Water Treatment Plants, designed to produce $11.9 million of additional annual revenue to be phased-in over a two-year period under the terms of a qualified phase-in plan, pursuant to FASB Statement 92. Under the terms of the settlement, except for approximately 200 customers who were previously served jointly by the Hillside and Nesbitt Water Treatment Plants, -8- none of the approximately 14,600 customers served exclusively by the Nesbitt Water Treatment Plant would receive an increase. The settlement further provided that $6.4 million of the increased revenue (an approximate 65% increase in rates) was to be realized through an immediate rate increase and that the remaining $5.5 million of the increased revenue (an additional 54% increase in rates) was to be realized through a further rate increase one year later (i.e., at the beginning of year two of the phase-in period). The settlement also specified that the $5.5 million in revenue to be deferred during the first year of the phase-in period, as well as an approximate $1.3 million in related carrying charges, is to be collected from customers in the form of a surcharge in years three through five of the phase-in period. By Order adopted December 15, 1993, the PPUC approved the settlement effective December 16, 1993. In accordance with the provisions of FASB Statement 92, PG&W commenced recording the entire $11.9 million increase in annual revenue allowed by the PPUC as additional revenue beginning December 16, 1993, along with the related carrying charges on revenue deferred in accordance with the phase-in plan. However, pursuant to the terms of the settlement, PG&W will defer the billing of approximately $5.5 million of the increased revenue recorded during the first year of the phase-in period (i.e., the period December 16, 1993, through December 15, 1994). Effective December 16, 1995, PG&W will begin to bill, by means of the surcharge that will be in effect in years three through five of the phase-in period, the approximate $5.5 million that is estimated will be so deferred, as well as the related carrying charges. Deferred Treatment Plant Costs and Carrying Charges. Pursuant to an Order of the PPUC entered September 5, 1990, PG&W deferred all operating expenses, including depreciation and property taxes, and the carrying charges (equivalent to the allowance for funds used during construction ("AFUDC")) relative to the four new Scranton Area water treatment plants and related facilities from the dates of commercial operation of the plants until March 23, 1991, the effective date of the Scranton Area water rate increase approved by the PPUC on March 22, 1991. By its Order entered June 23, 1993, relative to the Scranton Water Rate Area, the PPUC granted PG&W's request to recover $5.8 million of costs deferred relative to the Scranton Area water treatment plants and related facilities over a ten-year period beginning June 23, 1993, of which $740,000 had been recovered as of September 30, 1994. Similarly, as permitted by an Order of the PPUC entered September 24, 1992, PG&W has deferred all operating expenses, including depreciation and property taxes, and the carrying charges relative to the Crystal Lake Water Treatment Plant and related facilities from August 3, 1992 (the date of commercial operation of that plant), until March 9, 1993, the effective date of the water rate increase approved by the PPUC on February 25, 1993, for customers in PG&W's Spring Brook Water Rate Area served exclusively by the Crystal Lake Water Treatment Plant. Additionally, in accordance with an Order of the PPUC entered July 28, 1993, PG&W deferred all expenses and the carrying charges relative to the Ceasetown and Watres Water Treatment Plants and related facilities until December 16, 1993, the effective date of the water rate increase for customers served by the Ceasetown and Watres Water Treatment Plants approved by the PPUC on December 15, 1993. A total of $4.6 million of costs, consisting of $424,000 of operating expenses and $745,000 of carrying charges relative to the Crystal Lake Water Treatment Plant and related facilities, and $1.7 million of operating expenses and $1.7 million of carrying charges relative to the Ceasetown and Watres Water Treatment Plants and related facilities, had been so deferred pursuant to the respective PPUC Orders permitting the deferral of such costs. -9- As contemplated by the PPUC's Orders of September 24, 1992, and July 28, 1993, PG&W will seek recovery of the costs relative to the Crystal Lake, Ceasetown and Watres Water Treatment Plants that have been deferred pursuant to such Orders in its next rate increase request relative to the Spring Brook Water Rate Area. Although it cannot be certain, PG&W believes that the recovery of such costs by PG&W will be allowed by the PPUC in future rate increases, particularly in view of the PPUC's action allowing the recovery of the costs deferred with respect to the Scranton Area water treatment plants and related facilities. (3) ACCOUNTING CHANGES Postemployment Benefits In December, 1992, FASB Statement 112, "Employers' Accounting for Postemployment Benefits," was issued. The provisions of this statement require the recording of a liability for postemployment benefits (such as disability benefits, including workers' compensation, salary continuation and the continuation of benefits such as health care and life insurance) provided to former or inactive employees, their beneficiaries and covered dependents. PG&W consistently recorded liabilities for benefits of this nature prior to the effectiveness of FASB Statement 112 and, as a result, the provisions of FASB Statement 112, which PG&W adopted effective January 1, 1994, did not have a material impact on its financial position or results of operations. (4) OTHER INCOME (DEDUCTIONS), NET Other income (deductions), net was comprised of the following elements: [CAPTION] Three Months Ended Nine Months Ended September 30, September 30, 1993 1994 1993 1994 (Thousands of Dollars) [S] [C] [C] [C] [C] Allowance for equity funds used during construction $ 667 $ 18 $ 667 $ 44 Equity component of deferred treatment plant carrying charges 453 - 453 - Gain on sale of non-watershed land, net of related income taxes - - 20 166 Net interest expense on proceeds remaining in construction fund (179) (64) (633) (289) Amortization of capital stock expense, net of related income taxes (17) (8) (50) (112) Premium on the redemption of debt - - (61) 2 Other 25 (102) 81 60 Total $ 949 $ (156) $ 477 $ (129) (5) COMMITMENTS AND CONTINGENCIES Valve Maintenance On November 16, 1993, the PPUC staff issued an Emergency Order, subsequently ratified by the PPUC (the "Emergency Order"), requiring PG&W by January 31, 1994, to survey its gas distribution system to verify the location and spacing of its gas shut off valves, to add or repair valves where needed and to establish programs for the periodic inspection and maintenance of all such valves and the verification of all gas service line information. The Emergency Order was issued following the occurrence of two gas incidents (one concerning an explosion and the other a fire) in PG&W's service area in June and October, 1993, respectively, involving nearby gas shut off valves that had been paved over by third parties and that could not be readily located due to alleged -10- inaccurate service line records. The Emergency Order also cited four additional incidents occurring since January 31, 1991, in which shut off valves had been paved over or records were inaccurate. In connection with these incidents, the PPUC has alleged that PG&W has violated certain federal and state regulations related to gas pipeline valves. The PPUC has the authority to assess fines for such violations. The PPUC ordered PG&W to develop a plan, including a timetable, by December 30, 1993, for compliance with the terms of the Emergency Order. PG&W met the December 30, 1993, deadline for submission of this plan. However, PG&W included in such plan, a timetable, which, in effect, requested an extension of the January 31, 1994, deadline contained in the Emergency Order, which PG&W viewed as unrealistic. On February 2, 1994, the PPUC staff notified PG&W that it considered the plan submitted by PG&W "only a general plan of action to address the problem with valving in [PG&W's] system" and that the plan "is lacking in detail and more information is needed." By letter dated February 2, 1994, the PPUC staff indicated that it would initiate an informal investigation of the matter, including PG&W's responsibility for the incidents referred to in the Emergency Order. Following discussions between the PPUC staff and PG&W regarding the development of a mutually acceptable plan, PG&W submitted a detailed plan of action for complying with the Emergency Order to the PPUC on April 11, 1994, which plan has been subsequently revised. This plan is presently being reviewed by the PPUC staff. While it is not presently possible to determine what action the PPUC will ultimately take with respect to alleged violations of law and the matters raised by the Emergency Order, PG&W does not believe that compliance with, or any liability that might result from such violations or the Emergency Order will have a material adverse effect on its financial position or results of operations. Environmental Matters PG&W, like many gas distribution companies, once utilized manufactured gas plants in connection with providing gas service to its customers. None of these plants has been in operation since 1960, and several of the plant sites are no longer owned by PG&W. Pursuant to the Comprehensive Environmental Response, Compensation and Liability Act of 1980 ("CERCLA"), PG&W filed notices with the United States Environmental Protection Agency (the "EPA") with respect to the former plant sites. None of the sites is or was formerly on the proposed or final National Priorities List. The EPA has conducted site inspections and made preliminary assessments of each site and has concluded that no further remedial action is planned. While this conclusion does not constitute a legal prohibition against further regulatory action under CERCLA or other applicable federal or state law, PG&W does not believe that additional costs, if any, related to these manufactured gas plant sites would be material to its financial position or results of operations since environmental remediation costs generally are recoverable through rates over a period of time. -11- PENNSYLVANIA GAS AND WATER COMPANY MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS The following table expresses certain items in PG&W's statements of income as percentages of total operating revenues for each of the three and nine-month periods ended September 30, 1993, and September 30, 1994: [CAPTION] Percentage of Operating Revenues Three Months Ended Nine Months Ended September 30, September 30, 1993 1994 1993 1994 [S] [C] [C] [C] [C] OPERATING REVENUES: Gas................................. 46.6% 45.1% 72.5% 70.6% Water............................... 53.4 54.9 27.5 29.4 Total operating revenues.......... 100.0 100.0 100.0 100.0 OPERATING EXPENSES: Cost of gas......................... 20.5 20.6 40.4 41.6 Other operation expenses............ 34.5 30.5 20.3 17.3 Maintenance and depreciation........ 20.7 19.7 11.4 10.9 Deferred treatment plant costs, net. (1.4) 0.5 (1.3) 0.3 Income and other taxes.............. 8.7 9.2 12.7 12.6 Total operating expenses.......... 83.0 80.5 83.5 82.7 OPERATING INCOME...................... 17.0 19.5 16.5 17.3 OTHER INCOME (DEDUCTIONS), NET........ 3.4 (0.5) 0.3 (0.1) INTEREST CHARGES...................... 20.0 17.4 10.5 9.6 DIVIDENDS ON PREFERRED STOCK.......... 5.8 3.2 3.3 2.1 EARNINGS (LOSS) APPLICABLE TO COMMON STOCK........................ (5.4)% (1.6)% 3.0% 5.5% Three Months Ended September 30, 1993, Compared With Three Months Ended September 30, 1994 Operating Revenues. PG&W's operating revenues increased $3.9 million (14.0%) from $28.0 million for the three-month period ended September 30, 1993, to $31.9 million for the three-month period ended September 30, 1994. Gas operating revenues increased by $1.3 million (10.3%) from $13.0 million for the three-month period ended September 30, 1993, to $14.4 million for the three-month period ended September 30, 1994, primarily as a result of a price increase averaging 19.0% effective December 1, 1993, due to increased costs of purchased gas. Also contributing to the increase in gas operating revenues in 1994 was a 35 million cubic feet (2.8%) increase in sales to residential and commercial heating customers, primarily as a result of the addition of new customers, and the implementation of surcharges to recover Order 636 transition costs, as more fully discussed below under "-Rate Matters-Gas Rate Filings." The effects of these factors were partially offset by the switching of certain customers from sales to transportation service. -12- Water operating revenues increased by $2.6 million (17.1%) from $14.9 million for the three-month period ended September 30, 1993, to $17.5 million for the three-month period ended September 30, 1994. This increase in revenues was largely the result of an $11.9 million annual rate increase which the Pennsylvania Public Utility Commission (the "PPUC") allowed PG&W effective December 16, 1993, for customers in the Spring Brook Water Rate Area served by the Ceasetown and Watres Water Treatment Plants, as more fully explained below under "-Rate Matters-Water Rate Filings." Operating Expenses. Operating expenses, including depreciation and income taxes, increased $2.4 million (10.5%) from $23.2 million for the three-month period ended September 30, 1993, to $25.6 million for the three-month period ended September 30, 1994. As a percentage of operating revenues, total operating expenses decreased from 83.0% during the third quarter of 1993 to 80.5% during the third quarter of 1994. Operating expenses related to gas utility operations increased by $962,000 (7.3%) from $13.2 million in the three- month period ended September 30, 1993, to $14.1 million in the three-month period ended September 30, 1994, primarily as a result of an $830,000 increase in the cost of gas and increased depreciation and other taxes. Operating expenses related to water utility operations increased by $1.5 million (14.7%) from $10.0 million in the third quarter of 1993 to $11.5 million in the third quarter of 1994, primarily as a result of increases in depreciation, net deferred treatment plant costs and income taxes. The cost of gas increased $830,000 (14.5%) from $5.7 million for the three- month period ended September 30, 1993, to $6.6 million for the three-month period ended September 30, 1994. The effect of this increase, which was the result of higher costs for purchased gas and the implementation of surcharges to recover Order 636 transition costs (see "-Rate Matters-Gas Rate Filings"), was partially offset by a 5.7% (110 million cubic feet) decrease in the volume of gas sold during the three-month period ended September 30, 1994, compared to the similar period in 1993. This decreased volume was largely attributable to the aforementioned switching of certain customers from sales to transportation service. The gross margin on gas operations (gas operating revenues less the cost of gas) increased $511,000 (7.0%) in the third quarter of 1994, primarily as a result of a higher level of sales to residential and commercial heating customers. Other than the cost of gas and income taxes, operating expenses increased by $850,000 (4.7%) from $18.0 million for the three-month period ended September 30, 1993, to $18.9 million for the three-month period ended September 30, 1994. This increase was largely attributable to a $535,000 increase in net deferred treatment plant costs during 1994, as more fully discussed below, as well as a $562,000 increase in depreciation (primarily as a result of capital additions and the change in December, 1993, from a 4% compound interest to a straight-line method of depreciation with respect to water plant in the Ceasetown and Watres Service Areas). The effects of these increases were partially offset by a $240,000 decrease in other taxes. Income taxes increased by $760,000 from a credit of $551,000 in the third quarter of 1993 to an expense of $209,000 in the third quarter of 1994 due to increased income before income taxes (for this purpose, operating income net of interest charges). Deferred Treatment Plant Costs, Net and Carrying Charges. Pursuant to an Order of the PPUC entered September 5, 1990, PG&W deferred all operating expenses, including depreciation and property taxes, and the carrying charges (equivalent to the allowance for funds used during construction ("AFUDC")) -13- relative to the four new Scranton Area water treatment plants and related facilities from the dates of commercial operation of the plants until March 23, 1991, the effective date of the Scranton Area water rate increase approved by the PPUC on March 22, 1991. By its Order entered June 23, 1993, relative to the Scranton Water Rate Area, the PPUC granted PG&W's request to recover $5.8 million of costs deferred with respect to the Scranton Area water treatment plants and related facilities over a ten-year period beginning June 23, 1993, of which $740,000 had been recovered as of September 30, 1994. Similarly, as permitted by an Order of the PPUC entered September 24, 1992, PG&W deferred all operating expenses, including depreciation and property taxes, and the carrying charges relative to the Crystal Lake Water Treatment Plant and related facilities from August 3, 1992 (the date of commercial operation of that plant), until March 9, 1993, the effective date of the water rate increase approved by the PPUC on February 25, 1993, for customers in PG&W's Spring Brook Water Rate Area served exclusively by the Crystal Lake Water Treatment Plant. Additionally, in accordance with an Order of the PPUC entered July 28, 1993, PG&W deferred all expenses and the carrying charges relative to the Ceasetown and Watres Water Treatment Plants and related facilities incurred prior to December 16, 1993, the effective date of the water rate increase approved by the PPUC on December 15, 1993, for customers served by the Ceasetown and Watres Water Treatment Plants. As of September 30, 1994, a total of $4.6 million of costs, consisting of $424,000 of operating expenses and $745,000 of carrying charges relative to the Crystal Lake Water Treatment Plant and related facilities and $1.7 million of expenses and $1.7 million of carrying charges relative to the Ceasetown and Watres Water Treatment Plants and related facilities, had been deferred pursuant to the PPUC's Orders of September 24, 1992, and July 28, 1993. PG&W will seek recovery of the costs that have been so deferred in its next rate increase request relating to the Spring Brook Water Rate Area. Although it cannot be certain, PG&W believes that the recovery of such costs will be allowed by the PPUC in future rate increases, particularly in view of the PPUC's action allowing the recovery of the costs deferred with respect to the Scranton Area water treatment plants and related facilities. Operating Income. As a result of the above, total operating income increased by $1.5 million (30.7%) from $4.8 million for the three-month period ended September 30, 1993, to $6.2 million for the three-month period ended September 30, 1994, and increased as a percentage of total operating revenues for such periods from 17.0% in 1993 to 19.5% in 1994. Operating income from gas utility operations increased $379,000 from a loss of $147,000 in the third quarter of 1993 to income of $232,000 in the third quarter of 1994, primarily as a result of a $511,000 increase in the gross margin, the effect of which was partially offset by higher levels of depreciation and other taxes. Operating income from water utility operations increased $1.1 million (22.1%) from $4.9 million in the third quarter of 1993 to $6.0 million in the third quarter of 1994. This increase was primarily the result of a rate increase effective December 16, 1993, the effects of which were partially offset by increases in depreciation, net deferred treatment plant costs and income taxes, as discussed above. Other Income (Deductions), Net. Other income (deductions), net decreased $1.1 million from income of $949,000 for the three-month period ended September 30, 1993, to a deduction of $156,000 for the three-month period ended September 30, 1994, primarily as a result of the recalculation by PG&W, in September, 1993, of its AFUDC and deferred treatment plant carrying costs for 1993 based on its overall capital structure. Prior to 1993, PG&W had calculated both the -14- AFUDC and deferred treatment plant carrying charges based on the interest rates of its bank borrowings and other relevant indebtedness. As a result of such recalculation, during the three-month period ended September 30, 1993, approximately $508,000 of PG&W's allowance for borrowed funds used during construction recorded during the first two quarters of 1993 was reclassified as an allowance for equity funds used during construction, which is a component of other income (deductions), net. Similarly, approximately $276,000 of PG&W's deferred treatment plant carrying charges, which had been recorded as a reduction in interest charges during the first two quarters of 1993, was reclassified as the equity component of such carrying charges and reported as other income (deductions), net in these financial statements during the three- month period ended September 30, 1993. Also contributing to the decrease in other income (deductions), net for the quarter ended September 30, 1994, was a lower level of allowance for equity funds used during construction (which exclusive of the aforementioned adjustment decreased $141,000, primarily because of the completion of the Watres Water Treatment Plant on September 30, 1993) and the absence of any deferred treatment plant carrying charges. See "-Deferred Treatment Plant Costs, Net and Carrying Charges." The effects of these items were partially offset by a reduction in the net interest expense associated with the unutilized portion of the proceeds from the issuance on December 22, 1992, of the Luzerne County Industrial Development Authority (the "Authority") Exempt Facilities Revenue Bonds, 1992 Series B (Pennsylvania Gas and Water Company Project) (the "1992 Series B Bonds"). See "-Liquidity and Capital Resources-Long-Term Debt and Capital Stock Financings." The proceeds from the issuance of the 1992 Series B Bonds were deposited in a construction fund held by PNC Bank (formerly Northeastern Bank of Pennsylvania), as trustee for the 1992 Series B Bonds (the "IDA Trustee"), pending their utilization to finance the construction of various additions and improvements to PG&W's water facilities for which construction commenced subsequent to September 23, 1992. Interest expense relative to the funds so utilized for the benefit of PG&W is reflected as interest on long-term debt. The interest expense relating to the portion of the funds held by the IDA Trustee, net of the income earned on the temporary investment of such funds, is reflected in other income (deductions), net. Interest Charges. Interest charges decreased by $32,000 (0.6%) during the quarter ended September 30, 1994, after the effect of the aforementioned reclassifications in September, 1993 (to other income (deductions), net), involving AFUDC and deferred treatment plant carrying charges. Interest on long-term debt increased $144,000 (2.8%) from $5.1 million for the three-month period ended September 30, 1993, to $5.3 million for the three-month period ended September 30, 1994 (as more fully described in the following paragraph). Other interest decreased $117,000 (23.4%) from $501,000 for the three-month period ended September 30, 1993, to $384,000 for the three-month period ended September 30, 1994, largely as a result of the recording of carrying charges (which are credited against other interest) relative to deferred water utility billings. See "-Rate Matters-Water Utility Operations-Crystal Lake Service Area and -Ceasetown and Watres Service Areas." The allowance for borrowed funds used during construction increased by $171,000 from a charge of $69,000 in the three- month period ended September 30, 1993, to a credit of $102,000 in the three- month period ended September 30, 1994, largely because of the aforementioned reclassification of $508,000 to other income (deductions), net in September, 1993. Absent such reclassification, the allowance for borrowed funds would have decreased $337,000 from $439,000 for the three-month period ended September 30, 1993, to $102,000 for the three-month period ended September 30, 1994, reflecting a lower level of construction, primarily as a result of the completion of the Watres Water Treatment Plant on September 30, 1993. The -15- discontinuance of the deferral of the carrying charges associated with the Ceasetown and Watres Water Treatment Plants (see "-Deferred Treatment Plant Costs, Net and Carrying Charges"), which totaled $112,000 during the third quarter of 1993, acted to partially offset the decrease in interest charges. Interest on long-term debt increased by $144,000 (2.8%) from $5.1 million during the three-month period ended September 30, 1993, to $5.3 million during the three-month period ended September 30, 1994. The increase was principally the result of an additional $205,000 of interest expense relative to the 1992 Series B Bonds being reflected as interest on long-term debt (see "-Other Income (Deductions), Net") and an increase in the weighted average interest rate on indebtedness from 7.63% during the third quarter of 1993 to 7.90% during the third quarter of 1994. Partially offsetting the effect of these items was a $14.9 million (5.0%) decrease from $298.0 million during the third quarter of 1993 to $283.1 million in the third quarter of 1994 in the weighted average indebtedness outstanding and reductions in the letter of credit and commitment fees paid to certain of PG&W's lenders. Dividends on Preferred Stock. Dividends on preferred stock decreased $596,000 (36.8%) from $1.6 million for the three-month period ended September 30, 1993, to $1.0 million for the three-month period ended September 30, 1994, as a result of the redemption by PG&W on December 23, 1993, of 100,000 shares ($10.0 million), and on May 31, 1994, of 150,000 shares ($15.0 million), of its 9.50% cumulative preferred stock, $100 par value. Earnings (Loss) Applicable to Common Stock. The loss applicable to common stock decreased $986,000 (65.5%) from $1.5 million for the quarter ended September 30, 1993, to $520,000 for the quarter ended September 30, 1994. The decreased loss in 1994 was the result of the matters discussed above, principally the increases in water operating revenues resulting from the rate increase which the PPUC allowed PG&W effective December 16, 1993, and the increase in gross margin on gas operations resulting primarily from the higher level of sales to residential and commercial heating customers. The effects of these factors were partially offset by increased operating expenses.
PG&W's loss per share of common stock decreased $.27, from $.37 per share for the quarter ended September 30, 1993, to $.10 per share for the quarter ended September 30, 1994. This improvement was the result of the $986,000 decrease in loss applicable to common stock and occurred despite a 33.7% increase in the weighted average number of shares outstanding in 1994 that was caused primarily by PG&W's sale of common stock to Pennsylvania Enterprises, Inc. (PEI), the parent company of PG&W, at various times during 1993 and 1994.
Nine Months Ended September 30, 1993, Compared With Nine Months Ended September 30, 1994 Operating Revenues. PG&W's operating revenues increased $28.1 million (19.6%) from $143.5 million for the nine-month period ended September 30, 1993, to $171.6 million for the nine-month period ended September 30, 1994. Gas operating revenues increased by $17.2 million (16.5%) from $104.0 million for the nine-month period ended September 30, 1993, to $121.2 million for the nine-month period ended September 30, 1994, primarily as a result of a price increase averaging 19.0% (designed to total $28.8 million on an annual basis) effective December 1, 1993, due to increased costs of purchased gas (see "-Rate Matters-Gas Rate Filings"). Also contributing to the increase in gas operating revenues in 1994 was a 1.3 billion cubic feet (9.2%) increase in sales to residential and commercial heating customers, primarily as a result of -16- heating degree days* that were 6.4% higher than normal during the first nine months of 1994 and 10.0% higher than during the similar period in 1993. Additionally, the implementation of surcharges to recover Order 636 transition costs (as more fully discussed below under "-Rate Matters-Gas Rate Filings") acted to increase gas operating revenues by $547,000 in 1994. The effects of the price increase, colder weather and surcharges on gas operating revenues were partially offset by the switching of certain commercial and industrial customers from sales to transportation service. Water operating revenues increased by $11.0 million (27.7%) from $39.5 million for the nine-month period ended September 30, 1993, to $50.5 million for the nine-month period ended September 30, 1994. This increase in revenues was largely the result of rate increases which the PPUC allowed PG&W, including a $2.0 million annual rate increase effective March 9, 1993, for customers in the Spring Brook Water Rate Area served exclusively by the Crystal Lake Water Treatment Plant, a $5.0 million annual rate increase effective June 23, 1993, for customers in the Scranton Water Rate Area, and an $11.9 million annual rate increase effective December 16, 1993, for customers in the Spring Brook Water Rate Area served by the Ceasetown and Watres Water Treatment Plants, as more fully explained below under "-Rate Matters-Water Rate Filings." Operating Expenses. Operating expenses, including depreciation and income taxes, increased $22.1 million (18.4%) from $119.8 million for the nine-month period ended September 30, 1993, to $141.9 million for the nine-month period ended September 30, 1994. As a percentage of operating revenues, total operating expenses decreased from 83.5% during the nine-month period ended September 30, 1993, to 82.7% during the nine-month period ended September 30, 1994. Operating expenses related to gas utility operations increased by $15.7 million (17.0%) from $92.4 million in the nine-month period ended September 30, 1993, to $108.1 million in the nine-month period ended September 30, 1994, primarily as a result of a $13.4 million increase in the cost of gas, a higher level of maintenance expense because of colder than normal weather and increased income and other taxes. Operating expenses related to water utility operations increased by $6.4 million (23.3%) from $27.3 million in the first nine months of 1993 to $33.7 million in the first nine months of 1994, primarily as a result of increases in operation and maintenance costs, depreciation, net deferred treatment plant costs and income taxes. The cost of gas increased $13.4 million (23.0%) from $58.0 million for the nine-month period ended September 30, 1993, to $71.4 million for the nine-month period ended September 30, 1994. The effect of this increase, which was the result of higher costs for purchased gas and the implementation of surcharges to recover Order 636 transition costs (see "-Rate Matters-Gas Rate Filings"), was partially offset by a 5.7% (1.1 billion cubic feet) decrease in the volume of gas sold during the nine-month period ended September 30, 1994, compared to the similar period in 1993. This decreased volume was largely attributable to the aforementioned switching of certain customers from sales to transportation service. The gross margin on gas operations (gas operating revenues less the cost of gas) increased $3.8 million or 8.2% in the first nine months of 1994, primarily as a result of the increased sales to residential and commercial heating customers due to the colder weather. * A heating degree day ("degree day") represents each degree by which the average of the high and low temperatures for a given day is below 650 Fahrenheit. Actual degree days represent the sum of the degree days for the period. -17- Other than the cost of gas and income taxes, operating expenses increased by $4.3 million (7.5%) from $57.1 million for the nine-month period ended September 30, 1993, to $61.4 million for the nine-month period ended September 30, 1994. This increase was largely attributable to a $1.2 million increase in other operation and maintenance expenses (principally as a result of a $612,000 increase in payroll costs, increased provisions for uncollectible accounts of $329,000 and a $378,000 increase in charges for professional services) and a $2.4 million increase in net deferred treatment plant costs during 1994 (see "- Deferred Treatment Plant Costs, Net and Carrying Charges"), as well as a $1.7 million increase in depreciation (primarily because of capital additions and the change in December, 1993, from a 4% compound interest to a straight-line method of depreciation with respect to water plant in the Ceasetown and Watres Service Areas). The effects of these increases were partially offset by a $917,000 decrease in other taxes and a $331,000 decrease in the provision for injuries and damages. Income taxes increased by $4.4 million (94.3%) from $4.7 million in the nine-month period ended September 30, 1993, to $9.1 million in the nine-month period ended September 30, 1994, due to a higher level of income before income taxes (for this purpose, operating income net of interest charges). Deferred Treatment Plant Costs, Net and Carrying Charges. As more fully discussed above, pursuant to an Order of the PPUC entered September 24, 1992, PG&W deferred all operating expenses, including depreciation and property taxes, and the carrying charges (equivalent to the AFUDC) relative to the Crystal Lake Water Treatment Plant and related facilities from August 3, 1992 (the date of commercial operation of that plant), until March 9, 1993, the effective date of the water rate increase approved by the PPUC on February 25, 1993, for customers in PG&W's Spring Brook Water Rate Area served exclusively by the Crystal Lake Water Treatment Plant. Similarly, in accordance with an Order of the PPUC entered July 28, 1993, PG&W deferred all expenses and the carrying charges relative to the Ceasetown and Watres Water Treatment Plants and related facilities incurred prior to December 16, 1993, the effective date of the water rate increase approved by the PPUC on December 15, 1993, for customers served by the Ceasetown and Watres Water Treatment Plants. As contemplated by the PPUC's Orders, PG&W will seek recovery of the costs that have been so deferred in its next rate increase request relating to the Spring Brook Water Rate Area. Pursuant to an Order of the PPUC entered September 5, 1990, PG&W deferred all operating expenses and the carrying charges relative to the four new Scranton Area water treatment plants and related facilities from the dates of commercial operation of the plants until March 23, 1991, the effective date of the Scranton Area water rate increase approved by the PPUC on March 22, 1991. By its Order entered June 23, 1993, relative to the Scranton Water Rate Area, the PPUC granted PG&W's request to recover $5.8 million of costs deferred with respect to the Scranton Area water treatment plants and related facilities over a ten-year period beginning June 23, 1993, of which $740,000 had been recovered as of September 30, 1994. Operating Income. As a result of the above, total operating income increased by $6.0 million (25.4%) from $23.7 million for the nine-month period ended September 30, 1993, to $29.8 million for the nine-month period ended September 30, 1994, and increased as a percentage of total operating revenues for such periods from 16.5% in 1993 to 17.3% in 1994. Operating income from gas utility operations increased $1.5 million (12.6%) from $11.6 million in the first nine months of 1993 to $13.0 million in the first nine months of 1994, primarily as a result of a $3.8 million increase in the gross margin, the effect of which was partially offset by a higher level of maintenance expense because -18- of colder than normal weather and increased income and other taxes. Operating income from water utility operations increased $4.6 million (37.5%) from $12.2 million in the first nine months of 1993 to $16.8 million in the first nine months of 1994. This increase was primarily the result of rate increases effective March 9, 1993, June 23, 1993, and December 16, 1993, and decreased other taxes, the effects of which were partially offset by increases in operation and maintenance costs, depreciation, net deferred treatment plant costs and income taxes, as discussed above. Other Income (Deductions), Net. Other income (deductions), net decreased $606,000 from income of $477,000 for the nine-month period ended September 30, 1993, to a deduction of $129,000 for the nine-month period ended September 30, 1994. This decrease was primarily attributable to a $623,000 (93.4%) decrease in the allowance for equity funds used during construction because of a lower level of construction in progress, largely as a result of the completion of the Crystal Lake, Watres and Ceasetown Water Treatment Plants in 1993, and the discontinuance of the deferral of carrying charges relative to those plants, of which the equity component included in other income (deductions), net totaled $453,000 for the nine-month period ended September 30, 1993. The effect of such items was partially offset by a $291,000 gain ($166,000 net of related income taxes) on the sale of non-watershed land and a decrease in net interest expense associated with the unutilized portion of the proceeds from the issuance on December 22, 1992, of the Authority's 1992 Series B Bonds. See "-Liquidity and Capital Resources-Long-Term Debt and Capital Stock Financings." The proceeds from the issuance of the 1992 Series B Bonds were deposited in a construction fund held by the IDA Trustee, pending their utilization to finance the construction of various additions and improvements to PG&W's water facilities for which construction commenced subsequent to September 23, 1992. Interest expense relative to the funds so utilized for the benefit of PG&W is reflected as interest on long-term debt. The interest expense relating to the portion of the funds held by the IDA Trustee, net of the income earned on the temporary investment of such funds, is reflected in other income (deductions), net. Interest Charges. Interest charges increased by $1.5 million (9.9%) from $15.1 million for the nine-month period ended September 30, 1993, to $16.6 million for the nine-month period ended September 30, 1994. This increase was primarily attributable to a $1.1 million decrease in AFUDC, largely because of the completion of the Crystal Lake, Ceasetown and Watres Treatment Plants, and the discontinuance of the deferral, which totaled $627,000 during the nine-month period ended September 30, 1993, of the carrying charges associated with those plants. Interest on long-term debt increased by $240,000 (1.6%) from $15.3 million during the nine-month period ended September 30, 1993, to $15.5 million during the nine-month period ended September 30, 1994. The increase was principally the result of an additional $687,000 of interest expense relative to the 1992 Series B Bonds being reflected as interest on long-term debt (see "-Other Income (Deductions), Net"). Largely offsetting the effect of this item was a decrease in the weighted average interest rate on indebtedness from 7.98% during the first nine months of 1993 to 7.74% during the first nine months of 1994, a $2.1 million (0.7%) decrease from $286.1 million during the first nine months of 1993 to $284.0 million during the first nine months of 1994 in the weighted average indebtedness outstanding and reductions in the letter of credit and commitment fees paid to certain of PG&W's lenders. Dividends on Preferred Stock. Dividends on preferred stock decreased $1.2 million (24.6%) from $4.9 million for the nine-month period ended September 30, 1993, to $3.7 million for the nine-month period ended September 30, 1994, as a -19- result of the redemption by PG&W on December 23, 1993, of 100,000 shares ($10.0 million), and on May 31, 1994, of 150,000 shares ($15.0 million), of its 9.50% cumulative preferred stock, $100 par value. Earnings (Loss) Applicable to Common Stock. Earnings applicable to common stock increased $5.1 million (119.4%) from $4.3 million for the nine-month period ended September 30, 1993, to $9.4 million for the nine-month period ended September 30, 1994. The increased earnings in 1994 were the result of the matters discussed above, principally the increases in water operating revenues resulting from the rate increases which the PPUC allowed PG&W effective March 9, 1993, June 23, 1993, and December 16, 1993, and the increase in gross margin on gas operations resulting primarily from the higher level of sales to residential and commercial heating customers due to the colder weather in 1994. The effects of these factors were partially offset by increased operating expenses.
Before the $534,000 premium paid on the redemption of 150,000 shares of PG&W's 9.50% cumulative preferred stock on May 31, 1994, the earnings per share of common stock increased $.78 (73.6%) from $1.06 per share for the nine-month period ended September 30, 1993, to $1.84 per share for the nine-month period ended September 30, 1994. This improvement was the result of a 119.4% increase in net income and occurred despite a 26.8% increase in the weighted average number of shares outstanding in 1994 that was caused primarily by PG&W's sale of common stock to PEI at various times in 1993 and 1994. While premiums on the redemption of preferred stock are charged to retained earnings and are not a determinant of earnings applicable to common stock, the premiums associated with any redemptions occurring subsequent to January 20, 1994, must be taken into account in calculating the earnings (loss) per share of common stock. As a consequence, the premium on the redemption of the 150,000 shares of PG&W's 9.50% cumulative preferred stock acted to reduce PG&W's earnings per share for the nine-month period ended September 30, 1994, by $.10 per share, resulting in earnings of $1.74 per share of common stock for the period, an increase of $.68 per share (64.2%) over the earnings of $1.06 per share for the nine-month period ended September 30, 1993.
RATE MATTERS In accordance with the Pennsylvania Public Utility Code (the "Code"), PG&W files an annual purchased gas cost rate with the PPUC. From time to time, PG&W also files for adjustments to its gas and water rates to, among other reasons, recover interest charges and depreciation expenses relating to capital expenditures, recover increased operating expenses and make adjustments to existing surcharge rates approved by the PPUC. The following is a summary of such filings (exclusive of those solely involving tax adjustment surcharges) with respect to which the PPUC has issued an order since the beginning of 1993, or which are currently pending. Gas Rate Filings. Pursuant to the provisions of the Code which require that the tariffs of larger gas distribution companies, such as PG&W, be adjusted on an annual basis to reflect changes in their purchased gas costs, the PPUC, by Order adopted October 28, 1993, authorized PG&W to increase the gas costs contained in its gas tariff rates from $2.79 to $3.74 per thousand cubic feet effective December 1, 1993. This change in gas rates on account of purchased gas costs was designed to produce an increase in annual revenue of $28.8 million. In accordance with the same provisions of the Code, PG&W is presently seeking the approval of the PPUC to implement a purchased gas cost rate of $3.68 per thousand cubic feet effective December 1, 1994, that would result in a decrease in annual revenue calculated to be $1.8 million. The annual changes in -20- gas rates on account of purchased gas costs have no effect on PG&W's earnings since the changes in revenue are offset by corresponding changes in the cost of gas. The PPUC has issued proposed regulations that would provide for the quarterly adjustment of the purchased gas cost rate of larger gas distribution companies, including PG&W. Except for reducing the amount of any over or undercollections of gas costs, the adoption of these proposed regulations would not have any material effect on PG&W's financial position or results of operations. On October 15, 1993, the PPUC adopted an annual purchased gas cost ("PGC") order (the "PGC Order") regarding recovery of Federal Energy Regulatory Commission ("FERC") Order 636 transition costs. The PGC Order stated the PPUC believes that the recovery of Account 191 and New Facility Costs (the "Gas Transition Costs") are subject to recovery through the annual PGC rate filing made with the PPUC by PG&W and other larger local gas distribution companies. The PGC Order also indicated that while Gas Supply Realignment and Stranded Costs (the "Non-Gas Transition Costs") were not natural gas costs eligible for recovery under the PGC rate filing mechanism, such costs were subject to full recovery by local distribution companies through the filing of a tariff pursuant to either the existing surcharge or base rate provisions of the Code. The PGC Order further stated that all such filings would be evaluated on a case-by-case basis. As of February 1, 1994, PG&W began to recover the Gas Transition Costs that are being billed to PG&W by its interstate pipelines through an increase in its PGC rate. It is currently estimated that these costs, which will be billed to PG&W over a nineteen-month period extending through March 31, 1995, will aggregate $1.2 million, of which $1.1 million had been billed to PG&W and $456,000 had been recovered from its customers as of September 30, 1994. Additionally, on January 14, 1994, PG&W filed tariffs pursuant to the surcharge provisions of the Code seeking the full recovery of the Non-Gas Transition Costs that it estimates it will be billed by its interstate pipelines. On February 24, 1994, the PPUC suspended the effectiveness of these proposed tariffs for nine months (i.e., until August 28, 1994) in order to institute an investigation into the reasonableness of such tariffs. On June 30, 1994, the PPUC Administrative Law Judge (the "ALJ") assigned to conduct this investigation issued a decision recommending, among other things, that the PPUC allow PG&W full recovery of its Non-Gas Transition Costs, which decision was approved by Order of the PPUC entered August 26, 1994. Effective September 12, 1994, PG&W began recovering the Non-Gas Transition Costs that it estimates it will ultimately be billed pursuant to FERC Order 636 through the billing of a surcharge to its customers. It is currently estimated that $11.9 million of Non-Gas Transition Costs will be billed to PG&W, generally over a four-year period extending through the fourth quarter of 1997, of which $2.9 million had been billed to PG&W and $67,000 had been recovered from its customers as of September 30, 1994. PG&W has recorded a liability for the $8.9 million of such estimated transition costs that remain to be billed to it as of September 30, 1994, and both a current asset and a deferred asset (which together totaled $12.4 million as of September 30, 1994) representing the transition costs remaining to be recovered from PG&W's customers. Water Rate Filings. The rate relief granted in the past to PG&W by the PPUC has been less than the full amounts requested. Generally, the amounts granted have been determined through negotiated settlements with certain parties to the proceedings in order to obtain rate relief earlier than expected and to avoid the substantial expenses associated with further administrative and possible appellate proceedings. However, the rate increase request filed by PG&W on September 25, 1992, with respect to the Scranton Water Rate Area was fully -21- litigated, and PG&W was only granted approximately 50% of its requested increase, as more fully discussed below. Nonetheless, PG&W expects that its investments in water treatment facilities mandated by the Pennsylvania Department of Environmental Resources will be recognized in PG&W's future rates. PG&W believes that it will be able to obtain adequate future rate relief as it makes further improvements to its distribution system and is able to demonstrate it is providing water that is suitable for all "household purposes," i.e., meeting federal and state primary (health-related) and secondary (aesthetics- related, particularly taste, odor and color) drinking water standards, and that meets all applicable water quality standards. However, there can be no assurance that such adequate rate relief will be granted. See "-Liquidity and Capital Resources-Failure to Obtain Adequate Rate Relief." Crystal Lake Service Area. On June 30, 1992, PG&W filed an application with the PPUC seeking a water rate increase, designed to produce $4.4 million in additional annual revenue. This rate increase request involved the approximately 5,000 customers in the Spring Brook Water Rate Area served exclusively by the Crystal Lake Water Treatment Plant, which became fully operational in August, 1992. On December 15, 1992, PG&W and certain parties filing objections to the rate increase request reached a settlement providing for an approximate 130% rate increase designed to produce $2.0 million of additional annual revenue to be phased-in over a two-year period under the terms of a qualified phase-in plan pursuant to Financial Accounting Standards Board ("FASB") Statement 92. The settlement further provided that $1.1 million of the increased revenue (an approximate 72% increase in rates) was to be realized through an immediate rate increase and that the remaining $900,000 in increased revenue (an additional 58% increase in rates) was to be realized through another rate increase one year later (i.e., at the beginning of year two of the phase-in period). The settlement also specified that the $900,000 in revenue that would be deferred during the first year of the phase-in period, as well as an approximate $243,000 in related carrying charges, was to be collected from customers in the form of a surcharge in years three through five of the phase-in period. By Order adopted February 25, 1993, the PPUC approved the settlement effective March 9, 1993. In accordance with the provisions of FASB Statement 92, PG&W commenced recording the entire $2.0 million increase in annual revenue allowed by the PPUC as additional revenue beginning March 9, 1993, along with the related carrying charges on revenue deferred in accordance with the phase-in plan. However, pursuant to the terms of the settlement, PG&W deferred the billing of approximately $900,000 of the increased revenue recorded during the first year of the phase-in period (i.e., the period March 9, 1993, through March 8, 1994). Effective March 9, 1995, PG&W will begin to bill, by means of the surcharge that will be in effect in years three through five of the phase-in period, the approximate $900,000 that has been so deferred, as well as the related carrying charges. Scranton Area. On September 25, 1992, PG&W filed an application with the PPUC seeking a water rate increase, designed to produce $9.9 million in additional annual revenue. This rate increase request involved the approximately 56,000 customers in PG&W's Scranton Water Rate Area at such date. By Order entered June 23, 1993, the PPUC rejected the proposed rate increase in its entirety "due to inadequate service" (i.e., water quality). However, by the same Order, the PPUC granted PG&W the alternative of a rate increase designed to produce an additional $5.0 million in annual revenue, provided that PG&W dedicate the entire increase to augment the improvements to its water distribution system until "the demonstration by [PG&W] to [the PPUC] that it is providing adequate service." PG&W accepted this alternative and placed such $5.0 million rate increase into effect as of June 23, 1993. -22- On August 19, 1993, the PPUC approved a settlement agreement (the "Settlement Agreement") resolving certain disputed issues relating to its June 23, 1993, Order. The Settlement Agreement provided, among other things, for (i) modification by the PPUC of its June 23, 1993, Order to reduce the amount of the revenue increase that it ordered be dedicated to distribution system improvements by the related income taxes and other expenses and the $319,000 additional expense for retiree health care and life insurance benefits that the PPUC allowed PG&W in its revenues (which resulted in the requirement for an additional annual expenditure for distribution system improvements by PG&W of $2.5 million), (ii) the agreement by PG&W (with which it was in compliance as of September 30, 1994) to spend a total of $4.9 million annually (an additional $2.5 million over its actual average annual expenditure of $2.4 million during the three-year period ended June 30, 1993) for distribution system improvements in the Scranton Water Rate Area until the PPUC is satisfied that PG&W is providing adequate service, (iii) the modification by the PPUC of its June 23, 1993, Order to restore the Hollister Reservoir to PG&W's rate base, and (iv) the withdrawal by PG&W and the Office of Consumer Advocate (the "OCA") of their appeals to the Commonwealth Court of Pennsylvania regarding the PPUC's June 23, 1993, Order. Ceasetown and Watres Service Areas. On April 29, 1993, PG&W filed an application with the PPUC seeking a water rate increase, designed to produce $19.5 million in additional annual revenue. This rate increase request involved approximately 59,300 customers in PG&W's Spring Brook Water Rate Area, principally those customers (i) served by the Ceasetown Water Treatment Plant which was placed in service on March 31, 1993, (ii) served by the Watres Water Treatment Plant which was placed in service on September 30, 1993, (iii) served jointly by the Ceasetown and Watres Water Treatment Plants, and (iv) who are served exclusively by the Nesbitt Water Treatment Plant. On September 23, 1993, PG&W, the PPUC Office of Trial Staff, the OCA and the Office of Small Business Advocate filed a settlement petition (the "Settlement Petition") with the ALJ assigned to conduct the investigation of the rate increase request. This Settlement Petition provided for an overall 119% rate increase involving approximately 44,900 customers, principally those served either exclusively or jointly by the Ceasetown and Watres Water Treatment Plants, that was designed to produce $11.9 million of additional annual revenue to be phased-in over a two- year period under the terms of a qualified phase-in plan, pursuant to FASB Statement 92. Under the terms of the Settlement Petition, except for approximately 200 customers who were previously served jointly by the Hillside and Nesbitt Water Treatment Plants, none of the approximately 14,600 customers served exclusively by the Nesbitt Water Treatment Plant would receive an increase. The Settlement Petition further provided that $6.4 million of the increased revenue (an approximate 65% increase in rates) was to be realized through an immediate rate increase and that the remaining $5.5 million of the increased revenue (an additional 54% increase in rates) was to be realized through a further rate increase one year later (i.e., at the beginning of year two of the phase-in period). The Settlement Petition also specified that the $5.5 million in revenue that was to be deferred during the first year of the phase-in period, as well as an approximate $1.3 million in related carrying charges, was to be collected from customers in the form of a surcharge in years three through five of the phase-in period. By Order adopted December 15, 1993, the PPUC approved the Settlement Petition effective December 16, 1993. In accordance with the provisions of FASB Statement 92, PG&W commenced recording the entire $11.9 million increase in annual revenue allowed by the PPUC as additional revenue beginning December 16, 1993, along with the related carrying charges on revenue deferred in accordance with the phase-in plan. However, pursuant to the terms of the settlement, PG&W will defer the billing of approximately $5.5 million of the increased revenue recorded during the first -23- year of the phase-in period (i.e., the period December 16, 1993, through December 15, 1994). Effective December 16, 1995, PG&W will begin to bill by means of the surcharge that will be effective in years three through five of the phase-in period, the approximate $5.5 million that it is estimated will be so deferred, as well as the related carrying charges. LIQUIDITY AND CAPITAL RESOURCES Liquidity The liquidity of PG&W is influenced significantly by the capital intensive nature of its operations and the ratemaking practices of the PPUC, which together effectively require external financing of a substantial portion of PG&W's construction expenditures. See "-Construction Expenditures and Related Financing" and "-Failure to Obtain Adequate Rate Relief." Additionally, because of the seasonal nature of its gas utility operations and the ratemaking practices of the PPUC regarding the recovery of purchased gas costs (see "-Rate Matters-Gas Rate Filings"), it is necessary for PG&W to finance its gas purchases and increases in its customer accounts receivable with bank borrowings during certain periods of the year. PG&W's ability to generate sufficient internal funds and to obtain the external funds that are required for its operations and construction expenditures is affected materially by the timing and amount of rate relief it is granted. This is a problem faced by all regulated utilities, and one that had been particularly acute with respect to PG&W because of the denial by the PPUC in 1986 and again in 1988, as a result of water quality issues, of water rate increases requested by PG&W. Nonetheless, PG&W was able to generate and raise sufficient capital resources despite these denials, and PG&W believes that it will be granted sufficient rate relief to enable it to meet its future anticipated capital requirements, particularly in view of the increases in annual water revenue aggregating $35.8 million which it has been granted by the PPUC since 1991 with respect to customers being supplied with filtered water. PG&W also believes that additional rate increases will be allowed by the PPUC for its approximately 132,000 water customers, all of whom are now receiving filtered water, because of the relatively low level of earnings that PG&W is realizing from its water utility operations and its expectation that with filtration and further distribution system improvements, water quality should be less of a concern in its requests for water rate increases. See "-Construction Expenditures and Related Financing" and "-Failure to Obtain Adequate Rate Relief." If PG&W is denied future rate relief, it would be necessary, depending upon the amount so denied, for PG&W to take various actions to reduce cash expenditures. For a discussion of the actions PG&W would take to reduce cash expenditures, see "-Failure to Obtain Adequate Rate Relief." Such measures would continue until PG&W was allowed sufficient rate relief to increase its earnings to a level that would permit it to raise additional debt and equity capital. Concurrently with taking actions to reduce cash expenditures, PG&W would file appropriate appeals with the Commonwealth Court of Pennsylvania, alleging that, contrary to law, it had been denied an opportunity to earn a fair rate of return on its prudent investment in used and useful utility property devoted to public service. PEI relies on a number of sources, primarily cash dividends from PG&W, to provide the funds necessary to pay dividends on its common stock, to pay interest on its outstanding debt, and to meet all of its other obligations (other than the repayment of debt, for which PEI principally relies upon -24- periodic refinancings or sales of securities). The approximate amount of funds required, net of the amounts provided to PEI by PG&W for use of PEI's federal income tax credits, are expected to total $14.5 million in 1994, $15.0 million in 1995 and $17.4 million in 1996. Because of limitations imposed by the terms of PG&W's Restated Articles of Incorporation, as amended, PG&W is prohibited, without the consent of the holders of a majority of the outstanding shares of its preferred stock, from issuing more than $12.0 million of unsecured debt due on demand or within one year from issuance. PG&W had no unsecured debt due on demand or within one year from issuance outstanding as of September 30, 1994. In addition, PG&W is prohibited from paying any dividends to PEI in the event of a default under certain of its debt instruments or failure to make any required dividend payments due holders of PG&W's preferred stock. Furthermore, any failure by PG&W to pay preferred stock dividends for four consecutive quarters would permit the holders of the PG&W preferred stock to elect a majority of the directors of PG&W. PG&W presently has sufficient funding for its working capital needs, as well as its construction program, through at least the second quarter of 1995, and believes that it will be able to raise such funds as are required for construction expenditures, refinancings and other working capital requirements beyond the second quarter of 1995. Interim Financing Practices It is the practice of PG&W to use bank borrowings to finance certain of its construction expenditures pending the periodic issuance of stock and long-term debt. Additionally, because of the seasonal nature of its gas utility operations and the ratemaking practices of the PPUC regarding the recovery of purchased gas costs (see "-Rate Matters-Gas Rate Filings"), it is necessary for PG&W to finance its gas purchases and increases in its customer accounts receivable with bank borrowings during certain periods of the year. In order to so finance construction expenditures and to meet its seasonal borrowing requirements, PG&W has made arrangements for a total of $67.0 million of unsecured revolving bank credit. Specifically, PG&W has entered into a revolving bank credit agreement (the "Credit Agreement") with a group of six banks under the terms of which $60.0 million is available for borrowing by PG&W. The Credit Agreement terminates on April 30, 1995, at which time any borrowings outstanding thereunder are due and payable. The interest rate on borrowings under the Credit Agreement is generally less than prime. The Credit Agreement also requires the payment of a commitment fee of 3/8 of 1% per annum on the average daily amount of the unused portion of the available funds. As of November 7, 1994, $45.0 million of borrowings were outstanding under the Credit Agreement. PG&W also has three other bank lines of credit with an aggregate borrowing capacity of $7.0 million which provide for borrowings at interest rates generally less than prime and mature during mid-1995. As of November 7, 1994, PG&W had no borrowings outstanding under these bank lines of credit. Current Maturities of Long-Term Debt and Preferred Stock On May 31, 1994, PG&W redeemed all 150,000 outstanding shares of its 9.50% 1988 series cumulative preferred stock, $100 par value, at a price of $103.5625 per share, plus accrued dividends. This redemption, which included a voluntary redemption premium of $3.5625 per share ($534,375 in the aggregate), was funded -25- by PG&W with proceeds from the sale of $20.0 million of its common stock to PEI on May 31, 1994. See "-Long-Term Debt and Capital Stock Financings." As of September 30, 1994, $76.9 million of PG&W preferred stock and long- term debt was required to be repaid within twelve months. Such amount included $46.1 million outstanding under the Credit Agreement which is due on April 30, 1995. Also included in such current maturities is the 1987 Series B Note in the principal amount of $30.0 million, that is subject to repayment on December 1, 1994, which was issued in 1987 to PNC Bank (formerly Northeastern Bank of Pennsylvania) as trustee (the "IDA Trustee") in connection with the issuance by the Luzerne County Industrial Development Authority (the "Authority") of $30.0 million of its Exempt Facilities Revenue Bonds, 1987 Series B (Pennsylvania Gas and Water Company Project) due 2017 (the "1987 Series B Bonds"). It is intended that the 1987 Series B Bonds will be redeemed with the proceeds from the sale by the Authority of $30.0 million of its Exempt Facilities Revenue Refunding Bonds, 1994 Series A (Pennsylvania Gas and Water Company Project) due 2017 (the "1994 Series A Bonds"). In this regard, PG&W has entered into an agreement with the Authority and Wheat First Butcher & Singer, on behalf of itself and Legg Mason Wood Walker, Incorporated (the "Underwriters"), providing for the sale of the 1994 Series A Bonds to the Underwriters and the use of proceeds therefrom, along with monies provided by PG&W, to redeem the 1987 Series B Bonds on December 1, 1994, and thereby discharge PG&W of its obligations with respect to the 1987 Series B Note. As security for and as evidence of its obligations with respect to the 1994 Series A Bonds, PG&W will issue $30.0 million of its 7% Series First Mortgage Bonds to the IDA Trustee for the benefit of the holders of the 1994 Series A Bonds. PG&W believes that it will have sufficient cash flow and borrowing capacity to repay current maturities of its preferred stock and long-term debt and to meet its other obligations based on its present earnings and financing capabilities, capitalization and banking arrangements and relationships. Long-Term Debt and Capital Stock Financings PG&W periodically engages in long-term debt and capital stock financings in order to obtain funds required for construction expenditures, the refinancing of existing debt and various working capital purposes. On May 31, 1994, PG&W issued 500,000 shares of its common stock to PEI for aggregate net proceeds of $20.0 million. PG&W used a portion of the proceeds it so received to redeem $15.0 million of its 9.50% cumulative preferred stock and to fund the $534,375 premium in connection with such redemption. The remaining $4.5 million of proceeds were used by PG&W to repay a portion of its bank borrowings and for working capital purposes. On July 28, 1994, PEI implemented a Customer Stock Purchase Plan (the "Customer Plan") which provides the residential customers of PG&W with a method of purchasing newly-issued shares of PEI common stock at a 5% discount from the market price. PEI uses proceeds from the issuance of shares through the Customer Plan to purchase common stock of PG&W. On October 3, 1994, PG&W realized $1.7 million from the issuance of common stock to PEI in connection with the Customer Plan. During 1994 (through November 7) PG&W realized $1.4 million from the issuance of common stock to PEI in connection with PEI's Dividend Reinvestment and Stock Purchase Plan ("DRIP"). PEI uses the proceeds from the DRIP to purchase common stock of PG&W. The DRIP was amended on May 5, 1994, to provide PEI's shareholders with a method of reinvesting cash dividends and making -26- supplemental cash payments to purchase newly-issued shares of PEI's common stock at a 5% discount from the market price. Prior to such amendment, cash dividends were reinvested at 100% of the market price and supplemental cash payments were used to purchase shares of PEI's common stock on the open market. In addition, during the nine-month period ended September 30, 1994, PG&W utilized $7.2 million of the proceeds from the issuance by the Authority on December 22, 1992, of its $30.0 million of 1992 Series B Bonds and with respect to which PG&W issued its $30.0 million of 7.125% Series First Mortgage Bonds to the IDA Trustee on December 22, 1992, as security for the 1992 Series B Bonds. The proceeds from the issuance of the 1992 Series B Bonds were deposited in a construction fund held by the IDA Trustee for the Authority's 1992 Series B Bonds, pending their utilization to finance the construction of various additions and improvements to PG&W's water facilities for which construction commenced subsequent to September 23, 1992. As of September 30, 1994, $5.9 million was held by the IDA Trustee and was available to finance the future construction of qualified water facilities for PG&W. PG&W's rated first mortgage bonds are currently rated BBB- (investment grade) by Standard & Poor's Corporation ("S&P"), Baa3 (investment grade) by Moody's Investors Services ("Moody's") and Class 2 by the National Association of Insurance Commissioners ("NAIC"). On July 25, 1994, S&P said PG&W's outlook was "stable" and that "continued though slow financial improvement is expected with the phase-in of water rate relief." However, S&P noted that "significant capital expenditures and an excessive dividend payout...will continue to challenge management over the intermediate term." If PG&W's rated first mortgage bonds are downgraded below Class 2 (i.e., below investment grade) by the NAIC, this downgrade would cause the stated interest rate on PG&W's $50.0 million of 9.57% Series First Mortgage Bonds due 1996 to increase to 11.17% per annum (which increase would cost PG&W $800,000 per year in additional interest expense, exclusive of tax benefits). Also, any downgrading of PG&W's rated first mortgage bonds below investment grade by either S&P or Moody's would result in the interest rate charged on borrowings under the Credit Agreement being increased by one half percent per annum (which increase could cost PG&W as much as $300,000 per year in additional interest expense, exclusive of tax benefits, depending on the amount of borrowings outstanding under the Credit Agreement). Additionally, any downgrading of PG&W's rated first mortgage bonds by S&P, Moody's or the NAIC could have a material adverse effect on the cost and difficulty of issuing additional debt and preferred stock, which in turn could significantly impair PEI's and PG&W's ability to refinance debt and fund future capital expenditures. See "-Failure to Obtain Adequate Rate Relief." Construction Expenditures and Related Financing Expenditures for the construction of utility plant totaled $26.4 million during the first nine months of 1994 and are currently estimated to be $8.7 million during the remainder of the year. A portion of PG&W's expenditures for water facilities during 1994, which it is presently estimated will total $19.2 million, are being financed with proceeds from the issuance of the Authority's 1992 Series B Bonds being held by the IDA Trustee for the benefit of PG&W and with revenues from the water rate increase for Scranton Water Rate Area customers which was effective June 23, 1993 (see "-Rate Matters-Water Rate Filings"). The balance of PG&W's expenditures for water facilities, as well as its currently estimated $15.9 million in expenditures for gas facilities, are being financed with internally-generated funds and bank borrowings, pending the periodic issuance of stock and long-term debt. -27- Failure to Obtain Adequate Rate Relief If PG&W is unable to obtain adequate rate relief in future rate increase applications filed with the PPUC, PG&W would be forced to restrict its cash expenditures by, among other actions, possibly reducing dividends on its common stock, and PG&W would be forced to restrict its cash expenditures by, among other actions, curtailing or deferring work on various capital projects and reducing its operating expenses, all of which could negatively impact the quality and reliability of services rendered to the public by PG&W. Notwithstanding the PPUC's decision in its June 23, 1993, Order (see "-Rate Matters-Water Rate Filings"), PG&W believes it will be able to obtain adequate future rate relief, although there can be no assurance that such rate relief will be obtained. However, if PG&W were unable to obtain adequate rate relief from the PPUC under circumstances where PG&W believed that it is entitled as a matter of law to such rate relief, PG&W would file appropriate appeals with the Commonwealth Court of Pennsylvania, claiming that, contrary to law, the PPUC by its actions had denied PG&W an opportunity to earn a fair rate of return on its prudent investment in property which is used and useful in providing public utility service. -28- PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 10-1 Employment Agreement effective September 1, 1994, between PEI and Dean T. Casaday -- filed as Exhibit 10-1 to PEI's Quarterly Report on Form 10-Q for the quarter ended September 30, 1994, File No. 0- 7812. 27-1 Financial Data Schedule -- filed herewith. (b) No reports on Form 8-K have been filed during the quarter for which this report is filed. -29- PENNSYLVANIA GAS AND WATER COMPANY SIGNATURES 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. PENNSYLVANIA GAS AND WATER COMPANY (Registrant) Date: November 9, 1994 By: /s/ Thomas J. Ward Thomas J. Ward Secretary Date: November 9, 1994 By: /s/ John F. Kell, Jr. John F. Kell, Jr. Vice President, Finance (Principal Financial Officer and Principal Accounting Officer) -30- PENNSYLVANIA GAS AND WATER COMPANY SIGNATURES 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. PENNSYLVANIA GAS AND WATER COMPANY (Registrant) Date: November 9, 1994 By: Thomas J. Ward Secretary Date: November 9, 1994 By: John F. Kell, Jr. Vice President, Finance (Principal Financial Officer and Principal Accounting Officer) EX-27 2
UT THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE SHEET, STATEMENTS OF INCOME AND CASH FLOW, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 9-MOS DEC-31-1994 SEP-30-1994 PER-BOOK $562,206,000 8,916,000 64,165,000 88,996,000 0 $724,283,000 $53,919,000 88,295,000 69,646,000 211,860,000 16,760,000 33,615,000 219,357,000 0 0 0 76,803,000 80,000 0 0 165,808,000 $724,283,000 $171,630,000 9,130,000 132,729,000 141,859,000 29,771,000 (129,000) 29,642,000 16,574,000 13,068,000 3,669,000 $9,399,000 $5,900,000 $16,791,000 $35,853,000 1.74 1.74
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