<PAGE> 1
FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarter Ended September 30, 1997
Commission File Number 1-13265
NorAm Energy Corp.*
(Formerly HI Merger, Inc.)
(Exact name of registrant as specified in its charter)
Delaware 76-0511406
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1111 Louisiana
Houston, Texas 77002
(Address of principal executive offices) (Zip Code)
(713) 207-3000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes x No
----- -----
----------------------------------------------
NorAm Energy Corp. meets the conditions set forth in General Instruction
H(1)(a) and (b) of Form 10-Q and is therefore filing this form with the reduced
disclosure format specified in such instruction.
----------------------------------------------
All 1,000 shares of NorAm Energy Corp. common stock outstanding are owned
by Houston Industries Incorporated.
* On August 6, 1997, NorAm Energy Corp. merged with and into HI Merger, Inc.,
a subsidiary of Houston Industries Incorporated. HI Merger, Inc. was renamed
NorAm Energy Corp. effective upon consummation of the merger.
<PAGE> 2
INDEX
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Page
Part I. Financial Information 3
Item 1. Financial Statements
CONSOLIDATED BALANCE SHEETS:
Current NorAm
September 30, 1997 3
Predecessor NorAm
December 31, 1996 3
CONSOLIDATED STATEMENTS OF INCOME:
Current NorAm
Two Months Ended September 30, 1997 5
Predecessor NorAm
One Month Ended July 31, 1997, Seven
Months Ended July 31, 1997 and Three
Months and Nine Months Ended
September 30, 1996 5
STATEMENTS OF CONSOLIDATED CASH FLOWS:
Current NorAm
Two Months Ended September 30, 1997 6
Predecessor NorAm
Seven Months Ended July 31, 1997 and
Nine Months Ended September 30, 1996 6
STATEMENTS OF CONSOLIDATED STOCKHOLDERS' EQUITY:
Current NorAm
Two Months Ended September 30, 1997 7
Predecessor NorAm
Seven Months Ended July 31, 1997 and
Nine Months Ended September 30, 1996 7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 8
Item 2. Management's Narrative Analysis of Results
of Operations 13
Item 3. Quantitative and Qualitative Disclosures
about Market Risk 18
Part II. Other Information
Item 1. Legal Proceedings 18
Item 6. Exhibits and Reports on Form 8-K 18
Signature 19
2
<PAGE> 3
Part 1. FINANCIAL INFORMATION
Item 1. Financial Statements
NorAm Energy Corp. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(in thousands of dollars)
(unaudited)
<TABLE>
<CAPTION>
Current Predecessor
NorAm NorAm
------------- ------------
ASSETS September 30, December 31,
1997 1996
------------- -----------
<S> <C> <C>
Property, Plant and Equipment
Natural gas distribution $ 1,287,648 $ 2,158,013
Interstate pipelines 1,291,202 1,685,959
Energy marketing and gathering 161,546 252,509
Other 14,810 20,150
------------- ------------
2,755,206 4,116,631
Less accumulated depreciation and amortization 22,001 1,675,576
------------- ------------
2,733,205 2,441,055
------------- ------------
Investments and Other Assets
Goodwill, net 1,955,788 466,938
Other 216,352 178,307
------------- ------------
2,172,140 645,245
------------- ------------
Current Assets
Cash and cash equivalents 21,860 27,981
Accounts and notes receivable, net, principally customer 577,196 696,982
Accounts receivable from parent 29,395 --
Deferred income taxes 15,804 10,495
Inventories
Gas in underground storage 88,991 70,651
Materials and supplies 32,743 30,595
Other 912 631
Deferred gas cost 13,448 231
Gas purchased in advance of delivery 6,200 6,200
Other current assets 24,501 14,561
------------- ------------
811,050 858,327
Deferred Charges, net 63,653 72,850
------------- ------------
TOTAL ASSETS $ 5,780,048 $ 4,017,477
============= ============
</TABLE>
See Notes to Consolidated Financial Statements.
3
<PAGE> 4
NorAm Energy Corp. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
(in thousands of dollars)
(UNAUDITED)
<TABLE>
<CAPTION>
Current Predecessor
NorAm NorAm
------------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY September 30, December 31,
1997 1996
------------- ------------
<S> <C> <C>
Stockholders' Equity
Common stock $ 1 $ 86,193
Paid-in capital 2,460,233 1,001,053
Accumulated deficit (6,646) (286,703)
Unrealized investment gain, net of tax 3,809 5
------------- ------------
Total Stockholders' Equity 2,457,397 800,548
------------- ------------
NorAm-Obligated Mandatorily Redeemable Convertible
Preferred Securities of Subsidiary Trust Holding Solely
Subordinated Debentures of NorAm 39,117 167,768
------------- ------------
Long-Term Debt, Less Current Maturities 1,185,875 1,054,221
------------- ------------
Current Liabilities
Current maturities of long-term debt 134,236 277,000
Notes payable to banks 180,000 115,000
Receivables facility 295,000 --
Accounts payable, principally trade 456,535 762,164
Interest payable 22,387 31,928
Taxes accrued 35,933 62,766
Customers' deposits 34,698 35,711
Other current liabilities 101,095 113,628
------------- ------------
1,259,884 1,398,197
------------- ------------
Other Liabilities and Deferred Credits
Accumulated deferred income taxes 491,790 320,506
Other 345,985 276,237
------------- ------------
837,775 596,743
------------- ------------
Commitments and Contingencies
------------- ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 5,780,048 $ 4,017,477
============= ============
</TABLE>
See Notes to Consolidated Financial Statements.
4
<PAGE> 5
NorAm Energy Corp. and Subsidiaries
CONSOLIDATED STATEMENTS OF INCOME
(in thousands of dollars)
(unaudited)
<TABLE>
<CAPTION>
Current
NorAm Predecessor NorAm
------------- ------------------------------------------------------------
Two Months One Month Seven Months Three Months Nine Months
Ended Ended Ended Ended Ended
September 30, July 31, July 31, September 30, September 30,
1997 1997 1997 1996 1996
------------ ------------ ------------ ----------- -------------
<S> <C> <C> <C> <C> <C>
Operating Revenues $ 749,412 $ 396,868 $ 3,337,048 $ 899,283 $ 3,208,271
------------ ------------ ------------ ----------- -------------
Operating Expenses
Natural gas purchased, net 528,669 334,176 2,700,400 688,499 2,401,038
Operation and maintenance, cost
of sales and other 159,554 52,696 306,309 131,416 385,056
Depreciation and amortization 31,798 12,456 84,901 36,109 107,681
Taxes other than income taxes 17,767 8,419 73,142 24,625 87,263
Merger transaction costs 843 15,918 17,256 -- --
Early retirement and severance -- -- -- -- 22,344
------------ ------------ ------------ ----------- -------------
738,631 423,665 3,182,008 880,649 3,003,382
------------ ------------ ------------ ----------- -------------
Operating Income (Loss) 10,781 (26,797) 155,040 18,634 204,889
------------ ------------ ------------ ----------- -------------
Other (Income) and Deductions
Interest expense, net 18,471 10,665 78,660 30,976 101,683
Distributions on subsidiary trust
securities -- 903 6,317 2,703 3,128
Other, net (258) (1,115) (7,210) 637 6,390
------------ ------------ ------------ ----------- -------------
18,213 10,453 77,767 34,316 111,201
------------ ------------ ------------ ----------- -------------
Income (Loss) Before Income Taxes (7,432) (37,250) 77,273 (15,682) 93,688
Income Tax Expense (Benefit) (786) (14,013) 31,398 (7,499) 38,339
------------ ------------ ------------ ----------- -------------
Income (Loss) Before Extraordinary
Item (6,646) (23,237) 45,875 (8,183) 55,349
Extraordinary Gain (Loss) on Early
Retirement of Debt, less Taxes -- -- 237 477 (4,256)
------------ ------------ ------------ ----------- -------------
Net Income (Loss) (6,646) (23,237) 46,112 (7,706) 51,093
Preferred Dividend Requirement -- -- -- -- 3,597
------------ ------------ ------------ ----------- -------------
Earnings Available to Common Stock $ (6,646) $ (23,237) $ 46,112 $ (7,706) $ 47,496
============ ============ ============ =========== ============
</TABLE>
See Notes to Consolidated Financial Statements.
5
<PAGE> 6
NorAm Energy Corp. and Subsidiaries
STATEMENTS OF CONSOLIDATED CASH FLOWS
Increase (Decrease) in Cash and Cash Equivalents
(in thousands of dollars)
(unaudited)
<TABLE>
<CAPTION>
Current
NorAm Predecessor NorAm
------------ ---------------------------
Two Months Seven Months Nine Months
Ended Ended Ended
September 30, July 31, September 30,
1997 1997 1996
------------ ------------ -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (6,646) $ 46,112 $ 51,093
Adjustments to reconcile net income (loss) to cash
provided by operating activities:
Depreciation and amortization 31,798 84,901 107,681
Deferred income taxes 8,748 14,589 21,579
Early retirement and severance, less cash costs -- -- 12,941
Extraordinary (gain) loss, less taxes -- (237) 4,256
Other 3,398 1,846 2,675
Changes in certain assets and liabilities, net of non-cash
transactions:
Accounts and notes receivable, net 11,805 313,586 201,295
Inventories (30,749) 9,980 (42,894)
Deferred gas costs (5,502) (7,715) 5,613
Other current assets (8,812) (1,128) (4,939)
Accounts payable, principally trade (63,621) (224,590) (154,045)
Interest payable (6,938) (2,603) (8,524)
Taxes accrued (9,440) (17,393) (8,777)
Customers' deposits (70) (943) (1,519)
Other current liabilities 10,100 (22,633) (330)
Recoveries under gas contract disputes 500 5,500 8,800
------------ ------------ -------------
Net cash provided by (used in) operating activities (65,429) 199,272 194,905
------------ ------------ -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of NorAm, net of cash acquired (1,422,672) -- --
Capital expenditures (28,740) (88,638) (116,200)
Other, net (275) (6,424) 17,500
------------ ------------ -------------
Net cash used in investing activities (1,451,687) (95,062) (98,700)
------------ ------------ -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash portion of capital contribution from Houston
Industries 1,426,067 -- --
Retirements and reacquisitions of long-term debt (488) (230,667) (394,997)
Issuance of bank term loan -- 150,000 --
Public issuance of common stock -- -- 108,963
Issuance of subsidiary trust securities -- -- 167,756
Other interim debt borrowings (repayments) 107,500 (42,500) 48,000
Increase in receivables facility 19,000 41,000 --
Other issuance of common stock -- -- 7,572
Common and preferred stock dividends -- (19,281) (30,937)
Decrease in overdrafts (13,103) (27,348) (1,526)
------------ ------------ -------------
Net cash provided by (used in) financing activities 1,538,976 (128,796) (95,169)
------------ ------------ -------------
Net increase (decrease) in cash and cash equivalents 21,860 (24,586) 1,036
Cash and cash equivalents - beginning of period -- 27,981 13,311
------------ ------------ -------------
Cash and cash equivalents - end of period $ 21,860 $ 3,395 $ 14,347
============ =========== =============
</TABLE>
For supplemental cash flow information,see Note D.
See Notes to Consolidated Financial Statements.
6
<PAGE> 7
NorAm Energy Corp. and Subsidiaries
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(dollars in thousands)
(unaudited)
<TABLE>
<CAPTION>
Unrealized
Common Stock Preferred Stock Investment
----------------------- ---------------------- Paid-in Accumulated Gain (Loss),
Shares Amount Shares Amount Capital Deficit Net of Tax Total
------------ --------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
PREDECESSOR NORAM:
Balance at January 1, 1996 124,803,693 $ 78,002 2,600,000 $ 130,000 $ 880,885 $ (336,940) $ 15,316 $ 767,263
Net Income 51,093 51,093
Cash Dividends:
Preferred stock - $1.50 per
share (3,597) (3,597)
Common stock - $0.21 per
share (27,340) (27,340)
Change in Market Value of
Investment, net of tax (7,179) (7,179)
Conversion to Subordinated
Debentures (2,600,000) (130,000) (130,000)
Issuance of Common Stock under
Direct Stock Purchase Plan 739,235 462 7,110 7,572
Public Issuance of Common Stock 11,500,000 7,188 101,775 108,963
Other Issuances 177,982 111 4,626 4,737
------------ --------- ---------- ---------- ---------- ---------- -------- ----------
Balance at September 30, 1996 137,220,910 $ 85,763 -- -- $ 994,396 $ (316,784) $ 8,137 $ 771,512
============= ========= ========== ========== ========== ========== ======== ==========
Balance at January 1, 1997 137,908,173 $ 86,193 $1,001,053 $ (286,703) $ 5 $ 800,548
Net Income 46,112 46,112
Cash Dividends:
Common stock - $0.14 per
share (19,281) (19,281)
Change in Market Value of
Investment, net of tax 5,874 5,874
Conversion of NorAm-Obligated
Mandatorily Redeemable
Convertible Preferred
Securities of Subsidiary
Trust Holding Solely
Subordinated Debentures of
NorAm to Common Stock 11,428,262 7,143 131,425 138,568
Other Issuances 347,527 216 5,796 6,012
------------ --------- ---------- ---------- ---------- ---------- -------- ----------
Balance at July 31, 1997 149,683,962 93,552 -- -- 1,138,274 (259,872) 5,879 977,833
CURRENT NORAM (POST ACQUISITION):
Adjustments due to Acquisition:
Eliminate Predecessor NorAm
Balances (149,683,962) (93,552) (1,138,274) 259,872 (5,879) (977,833)
Capital contribution from
Houston Industries 1,000 1 2,460,233 2,460,234
Net Loss (6,646) (6,646)
Change in Market Value of
Investment, net of tax 3,809 3,809
------------ --------- ---------- ---------- ---------- ---------- -------- ----------
Balance at September 30, 1997 1,000 $ 1 -- -- $2,460,233 $ (6,646) $ 3,809 $2,457,397
============ ========= ========== ========== ========== ========== ======== ==========
</TABLE>
See Notes to Consolidated Financial Statements.
7
<PAGE> 8
NorAm Energy Corp. and Subsidiaries
Notes to Consolidated Financial Statements
(unaudited)
A. BASIS OF PRESENTATION
The accompanying interim consolidated financial statements and these
notes (collectively, "the Interim Financial Statements") include the
accounts of NorAm Energy Corp. and its subsidiaries, all of which are
wholly owned (collectively, "NorAm"). The Interim Financial Statements
are unaudited. In addition, certain information and notes that
typically are included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or
omitted in reliance upon Securities and Exchange Commission regulations
applicable to interim financial reporting. The Interim Financial
Statements should be read in conjunction with NorAm's 1996 Annual
Report on Form 10-K (File No. 1-3751) ("NorAm's Form 10-K"). For
additional information on significant accounting policies, see Note C.
The Interim Financial Statements reflect all normal recurring
adjustments that are, in the opinion of Management, necessary to
present fairly the financial position and results of operations for the
respective periods. Amounts reported in the Consolidated Statements of
Income are not necessarily indicative of amounts expected for a full
year period due to the effects of, among other things, (i) seasonal
temperature variations in energy consumption and (ii) the timing of
maintenance and other expenditures. In addition, certain amounts from
the previous year have been reclassified to conform to the current
presentation. Such reclassifications do not affect earnings.
The acquisition of NorAm by Houston Industries Incorporated ("Houston
Industries") on August 6, 1997 created a new basis of accounting,
resulting in new carrying values for certain of NorAm's assets,
liabilities and equity, see Note B.
B. ACQUISITION OF NORAM ENERGY CORP. BY HOUSTON INDUSTRIES
On August 6, 1997 (the "Acquisition Date"), pursuant to an Agreement
and Plan of Merger dated August 11, 1996, NorAm merged with and into a
wholly-owned subsidiary of Houston Industries, thereby becoming a
wholly-owned subsidiary of Houston Industries (the "Merger"). Houston
Industries is a holding company with headquarters in Houston, Texas,
whose principal pre-merger operations were conducted by Houston
Lighting & Power Company, the electric utility serving a 5,000 square
mile area of the Texas Gulf Coast, including Houston, Texas.
The Merger was recorded as a purchase for accounting purposes and,
accordingly, Houston Industries has preliminarily assigned its
purchase price of approximately $2.4 billion to the assets and
liabilities of NorAm at the Acquisition Date based on their respective
estimated fair market values (with the residual assigned to goodwill),
resulting in a "new basis" of accounting. In the Interim Financial
Statements, periods which reflect the new basis of accounting are
labeled as "Current NorAm" and periods which do not reflect the new
basis of accounting are labeled "Predecessor NorAm". Predecessor
NorAm's Consolidated Statement of Income for the seven months ended
July 31, 1997 includes certain adjustments from August 1, 1997 to the
closing date for pre-merger transactions.
NorAm's Consolidated Balance Sheets for periods after the Acquisition
Date reflect adjustments associated with Houston Industries' assignment
of purchase price, principally consisting of (1) the revaluation of
certain property, plant and equipment and long-term debt to its
estimated fair market value, (2) the recognition of certain pension and
postretirement benefit obligations previously being recognized through
amortization, (3) the recognition of goodwill as described above, (4)
the elimination of NorAm's historical goodwill, (5) the elimination of
NorAm's historical stockholders' equity balances and accumulated
depreciation and amortization as of the Acquisition Date and (6) the
recognition of the associated deferred income tax effects. In addition,
NorAm's pre-Merger common stock was canceled and replaced with 1,000
shares of common stock (all of which are owned by Houston Industries),
rendering presentation of per share data no longer meaningful. Houston
Industries' debt to fund the cash portion of the purchase consideration
has not been pushed down to NorAm. Shares of NorAm's Common Stock are
pledged as collateral under a $1.64 billion loan arrangement entered
into by a subsidiary of Houston Industries in connection with the
Merger. In addition, the common stock of any subsidiary of NorAm
which is considered to be significant in relation to Houston
Industries is pledged.
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<PAGE> 9
NorAm's Statements of Consolidated Income for periods after the
Acquisition Date are principally affected by (1) the impact of the
amortization (over 40 years) of the newly-recognized goodwill,
partially offset by the elimination of the amortization of NorAm's
historical goodwill, (2) the incremental depreciation associated with
the net increase in property, plant and equipment, (3) the amortization
(to interest expense) of the revaluation of long-term debt, (4) the
removal of the amortization previously associated with the pension and
postretirement obligations as described preceding and (5) the deferred
income tax expense associated with these adjustments. Interest expense
on Houston Industries' debt which was used to fund the cash portion of
the acquisition has not been pushed down to NorAm. For these reasons,
among others, certain financial information for periods before and
after the Acquisition Date is not comparable.
If the Merger had occurred at the beginning of the nine-month periods
ended September 30, 1997 and 1996, pro forma net income would have been
$33.1 million and $37.2 million, respectively. However, these results
are not necessarily indicative of the results which would have been
obtained had the Merger actually taken place on the dates indicated.
C. ACCOUNTING FOR RISK MANAGEMENT ACTIVITIES
NorAm's significant accounting policies are described in Note 1 of
Notes to Consolidated Financial Statements included in NorAm's Form
10-K.
NorAm utilizes a variety of derivative financial instruments, including
swaps and exchange-traded futures and options (collectively,
"Derivatives"), as part of its overall risk-management strategy and for
limited trading purposes as discussed below. To reduce the risk from
market fluctuations in the price of electric power, natural gas and
related transportation, NorAm enters into futures transactions, swaps
and options (collectively, "Energy Derivatives") in order to hedge
certain natural gas in storage, as well as certain expected purchases,
sales and transportation of natural gas and electric power (a portion
of which are firm commitments at the inception of the hedge). NorAm
utilizes interest-rate derivatives (principally interest-rate swaps) in
order to adjust the portion of its overall borrowings which are subject
to interest-rate risk, and also has utilized such derivatives to
effectively fix the interest rate on debt expected to be issued for
refunding purposes. In addition, NorAm maintains a portfolio of Energy
Derivatives (with certain limitations as described below) for trading
purposes.
NorAm's accounting for activities involving derivative financial
instruments is in accordance with the concepts established in Statement
of Financial Accounting Standards ("SFAS") No. 80, "Accounting for
Futures Contracts", American Institute of Certified Public Accountants
Statement of Position 86-2, "Accounting for Options" and various
pronouncements of the Emerging Issues Task Force of the Financial
Accounting Standards Board (the "FASB").
Unrealized changes in the market value of Energy Derivatives utilized
as hedges are not generally recognized in NorAm's consolidated
financial statements. The cash impacts associated with such derivatives
are (1) recognized as an asset or liability in the case of options or
other derivatives for which money is exchanged either (i) at the
inception of the position or (ii) as a result of margin calls, (2)
included in the measurement of the transaction that satisfies the
commitment in the case of firm commitments and (3) included in the
measurement of the subsequent transaction in the case of anticipated
transactions, whether or not the Energy Derivative position is closed
out before the date of the anticipated transaction. Once it becomes
probable that an anticipated transaction will not occur, deferred gains
and losses are recognized. In general, the financial impact of
transactions involving these Energy Derivatives is included in NorAm's
Statements of Consolidated Income under the captions (1) "Natural gas
purchased, net" in the case of natural gas transactions and (2)
"Operation and maintenance, cost of sales and other" in the case of
electric power transactions. Cash flows resulting from these
transactions in Energy Derivatives are included in NorAm's Statements
of Consolidated Cash Flows in the same category as the item being
hedged.
In the case of interest-rate swaps associated with existing
obligations, cash flows and expense associated with the interest-rate
derivative transactions are matched with the cash flows and interest
expense of the obligation being hedged, resulting in an adjustment to
the effective interest rate. When interest-rate swaps
9
<PAGE> 10
are utilized to effectively fix the interest rate for an anticipated
debt issuance, changes in the market value of the interest-rate
derivatives are deferred and recognized as an adjustment to the
effective interest rate on the newly-issued debt. If it is determined
that the anticipated issuance of debt will not occur, or that the
issuance will be for an amount or a term different from that
anticipated at the inception of the hedge, either all or a pro rata
portion (as applicable) of the deferred gain or loss is recognized
concurrently with such determination.
For transactions involving either Energy Derivatives or interest-rate
derivatives, hedge accounting is applied only if the derivative (i)
reduces the risk of the underlying hedged item and (ii) is designated
as a hedge at its inception. Additionally, the derivatives must be
expected to result in financial impacts which are inversely correlated
to those of the item(s) to be hedged. This correlation (a measure of
hedge effectiveness) is measured both at the inception of the hedge and
on an ongoing basis, with an acceptable level of variation from 80% to
125% for hedge designation. If and when correlation ceases to exist at
an acceptable level, hedge accounting ceases and "mark-to-market"
accounting (as described below) is applied.
NorAm maintains a portfolio of Energy Derivatives for trading purposes,
representing a small portion of its overall derivative positions. In
addition, the total underlying notional amounts of natural gas or
electric power associated with these trading activities represents a
small fraction of NorAm's notional transaction volume in these energy
commodities for any given period. This trading portfolio of Energy
Derivatives is "marked-to-market" on a daily basis, with unrealized
gains and losses included in income as they occur, reported in NorAm's
consolidated financial statements under the same line items as the
impacts of the energy hedging transactions as described above.
D. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
In the accompanying consolidated financial statements, all highly
liquid investments purchased with an original maturity of three months
or less are considered to be cash equivalents. Following is selected
supplemental cash flow information:
<TABLE>
<CAPTION>
Current NorAm Predecessor NorAm
------------- ----------------------------
Two Months Seven Months Nine Months
Ended Ended Ended
September 30, July 31, September 30,
(millions of dollars) 1997 1997 1996
--------------------- ------------- ------------- -------------
<S> <C> <C> <C>
Cash interest payments, net of
Capitalized interest $ 25.6 $ 67.1 $ 110.2
Net income tax payments $ 13.0 $ 20.9 $ 21.6
</TABLE>
The aggregate consideration paid to Predecessor NorAm stockholders in
connection with the Merger consisted of 47.8 million shares of Houston
Industries' common stock valued at $1 billion as well as cash payments
of $1.4 billion.
A significant portion ($139 million) of NorAm-Obligated Mandatorily
Redeemable Convertible Preferred Securities of Subsidiary Trust Holding
Solely Subordinated Debentures of NorAm (the "Subsidiary Trust
Securities") was converted to NorAm Common Stock in non-cash
transactions prior to the Merger, see Note I.
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<PAGE> 11
E. COMPONENTS OF CERTAIN FINANCIAL STATEMENT LINE ITEMS
Following are components of and information concerning certain line
items included in the accompanying consolidated financial statements:
Early Retirement and Severance
During the first quarter of 1996, NorAm instituted a reorganization
plan affecting its NorAm Gas Transmission Company ("NGT") and
Mississippi River Transmission Corporation ("MRT") subsidiaries,
pursuant to which a total of approximately 275 positions were
eliminated, resulting in expense for severance payments and enhanced
retirement benefits. Also during the first quarter of 1996, (1) NorAm's
Entex division instituted an early retirement program which was
accepted by approximately 100 employees and (2) NorAm's Minnegasco
division reorganized certain functions, resulting in the elimination of
approximately 25 positions. Collectively, these programs resulted in a
pre-tax charge of approximately $22.3 million (approximately $13.4
million after tax), which pre-tax amount is reported in the
accompanying Consolidated Statements of Income as "Early retirement and
severance".
Merger Transaction Costs
"Merger transaction costs" include expenses associated with completion
of the business combination with Houston Industries (see Note B),
principally consisting of investment banking and legal fees.
Investments and Other Assets
At November 4, 1997, the market value of NorAm's investment in Itron,
Inc. common stock had declined to $30.8 million and there was an
unrealized loss of $3.0 million (net of tax of $2.0 million) as
compared to an unrealized gain of $3.8 million at September 30, 1997.
As discussed under "Discontinued Operations" included with "Item 7.
Management Analysis" in NorAm's 1996 Annual Report on Form 10-K, the
market for this security has limited liquidity.
F. ACCOUNTS RECEIVABLE FACILITY
As further discussed in Note 3 of Notes to Consolidated Financial
Statements included in NorAm's Form 10-K, under an August 1996
agreement (the "Receivables Facility"), NorAm transfers (to a third
party) an undivided interest in a pool of accounts receivable, limited
to a maximum of $300 million, with limited recourse and subject to a
floating interest rate provision. The total interest in NorAm's
receivables transferred pursuant to the Receivables Facility but not
yet collected was approximately $295.0 million and $235.0 million at
September 30, 1997 and December 31, 1996, respectively. "Interest
expense, net" for the two months ended September 30, 1997, and the one
month and seven months ended July 31, 1997 includes approximately $2.8
million, $1.4 million and $8.3 million, respectively, of costs
associated with the Receivables Facility. Corresponding amounts
included in "Other, net" for the three months and nine months ended
September 30, 1996 were $2.2 million and $7.0 million, respectively. At
September 30, 1997, approximately $338.5 million of NorAm's receivables
were sold or collateral for amounts received pursuant to the
Receivables Facility.
NorAm adopted SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishment of Liabilities" effective as of
January 1, 1997 (SFAS No. 125 does not allow retroactive application).
Therefore, for periods prior to January 1, 1997, (1) amounts
transferred pursuant to the Receivables Facility are included with
"Cash Flows From Operating Activities" in NorAm's Statements of
Consolidated Cash Flows, (2) receivables transferred pursuant to the
Receivables Facility are deducted from "Accounts and notes receivable,
net, principally customer" in NorAm's Consolidated Balance Sheet and
(3) the costs associated with utilization of the Receivables Facility
are reported as a component of "Other, net" in NorAm's Statements of
Consolidated Income. Subsequent to January 1, 1997, (1) amounts
transferred pursuant to the Receivables Facility are included with
"Cash Flows from Financing Activities" in NorAm's Statements of
Consolidated Cash Flows, (2) amounts received pursuant to the
Receivables Facility are not deducted from "Accounts and notes
receivable, net, principally customer" in NorAm's Consolidated Balance
Sheet but, rather, such amounts are reported as a current liability,
and (3) the costs
11
<PAGE> 12
NorAm Energy Corp. and Subsidiaries
Notes to Consolidated Financial Statements
(unaudited)
associated with utilization of the Receivables Facility are included
with "Interest expense, net" in NorAm's Statements of Consolidated
Income.
Therefore, due to the different balance sheet classification of amounts
transferred pursuant to the Receivables Facility as described above,
the cash flow impacts reported as "Accounts and notes receivable, net",
and "Increase in receivables facility" in NorAm's Statements of
Consolidated Cash Flows for the seven months ended July 31, 1997 are
not equal to the changes in the associated balance sheet captions from
December 31, 1996 to July 31, 1997. Instead, such impacts have been
calculated as if the change in balance sheet classification had been in
effect at the beginning of the period, resulting in cash flow impacts
which are not affected by the change in classification.
G. SHORT-TERM FINANCING
On May 15, 1997, NorAm obtained an unsecured, 18-month bank term loan
(the "Term Loan") in the amount of $150.0 million. The Term Loan
carries a floating interest rate based on three-month LIBOR
(approximately 6.78% at inception and subject to adjustment based on
NorAm's credit rating) and allows prepayment without penalty. NorAm
also entered into two interest rate swaps which fixed the floating
interest rate at approximately 6.45%. Proceeds from the Term Loan were
utilized to repay maturing debt in April 1997.
H. INTEREST RATE SWAPS
In March 1997, NorAm closed out the $200.0 million of interest rate
swaps which had been serving as hedges of an anticipated debt
refinancing associated with the maturing debt in April 1997 in the
amount of $225.0 million, receiving cash proceeds of approximately $8.7
million. Approximately $1.0 million of such proceeds is serving to
reduce the effective interest rate on the Term Loan, with the balance
recorded as "Other, net" in March 1997 in the accompanying Statements
of Consolidated Income.
I. NORAM'S SUBSIDIARY TRUST SECURITIES
After the July 31, 1997 announcement of the closing date of the Merger,
a significant number of the holders of the Subsidiary Trust Securities
elected to exercise their right to convert such securities into shares
of NorAm Common Stock, resulting in the issuance of approximately 11.4
million incremental common shares. As of November 4, 1997, 421,885
shares of the Subsidiary Trust Securities remained outstanding,
representing approximately $21.1 million of liquidation value.
J. COMMITMENTS AND CONTINGENCIES
Note 1 (Accounting Policies and Components of Certain Financial
Statement Line Items) and Note 7 (Commitments and Contingencies) of
Notes to Consolidated Financial Statements included in NorAm's Form
10-K relate to material contingencies. These notes, as updated by notes
contained in this 10-Q and the notes contained in NorAm's Quarterly
Report on Form 10-Q for the periods ended March 31, 1997 and June 30,
1997 are incorporated herein by reference.
12
<PAGE> 13
Item 2. Management's Narrative and Analysis of Results of Operations
General
NorAm principally conducts operations in the natural gas industry, including
gathering, transmission, marketing, storage and distribution which,
collectively, account for in excess of 90% of NorAm's total revenues, income or
loss and identifiable assets. NorAm also makes sales of electricity, non-energy
sales and provides certain non-energy services, principally to certain of its
retail gas distribution customers. The following discussion and analysis should
be read in combination with Management's Discussion and Analysis of Financial
Condition and Results of Operations in Item 7 of NorAm's Form 10-K, the
financial statements and notes contained in Item 8 of NorAm's Form 10-K and the
Interim Financial Statements contained in this Form 10-Q.
Effective August 6, 1997, NorAm became a wholly-owned subsidiary of Houston
Industries, see Note 1 in NorAm's Form 10-K and Note B of the accompanying Notes
to Consolidated Financial Statements.
Statements contained in this Form 10-Q that are not historical facts are
forward-looking statements as defined in the Private Securities Litigation
Reform Act of 1995. Forward looking statements are based on management's beliefs
as well as assumptions made by and information currently available to
management. Because such statements are based on expectations as to future
economic performance and are not statements of fact, actual results may differ
materially from those projected. Important factors that could cause future
results to differ include (i) the effects of competition, (ii) legislative and
regulatory changes, (iii) fluctuations in the weather, (iv) fluctuations in
energy commodity prices, (v) environmental liabilities, (vi) changes in the
economy and (vii) other factors discussed in this and other filings by NorAm
with the Securities and Exchange Commission. When used in NorAm's documents or
oral presentations, the words "anticipate", "estimate", "expect", "objective",
"projection", "forecast", "goal" or similar words are intended to identify
forward-looking statements.
Regulatory Matters
In August 1995, Minnegasco filed a rate case requesting an annual increase of
$24.3 million. In December 1996, the Minnesota Public Utilities Commission (the
"MPUC") granted Minnegasco an annual rate increase of $13.3 million compared to
the $17.8 million that had been put into effect in October 1995 as an interim
rate increase, subject to refund. Consistent with the Minnesota Supreme Court's
decision in June 1996, the MPUC decided that Minnegasco's unregulated appliance
sales and service operations were not required to pay a fee for goodwill
associated with its usage of the Minnegasco name, even though the MPUC had
imputed revenues associated with such goodwill in Minnegasco's 1993 rate case.
The MPUC did not, however, allow Minnegasco to recover certain gas leak costs in
rates. The MPUC interim rate order was stayed pending appeal of the 1995 rate
case gas leak cost issue.
In July 1997, the Minnesota Supreme Court ruled that Minnegasco was entitled to
recover an amount equal to the goodwill revenues imputed as a result of the 1993
rate case. Later in July 1997, the Minnesota Court of Appeals ruled that, in
Minnegasco's 1995 rate case, the MPUC must give effect to the Minnesota Supreme
Court's decision that the cost of gas leak checks be included in rates. The
Court of Appeals remanded the case to the MPUC for further proceedings in
accordance with its decision. Minnegasco filed a motion in August to reaffirm
the 1995 rate case settlement, increased by an amount equal to the annual costs
of performing gas leak checks. Minnegasco asked the MPUC to reduce the 1995
interim rate refund for the gas leak costs from October 1995 through the date of
the final Commission Order, as well as the imputed goodwill revenues from the
1993 rate case.
In September 1997, the MPUC issued its final order granting Minnegasco's
requests. As a result, Minnegasco's annual increase resulting from its 1995 rate
case is $14.9 million. Both the 1993 and 1995 Minnegasco rate cases are now
final.
In April 1996, Mississippi River Transmission Corporation ("MRT") filed a
general rate case with the Federal Energy Regulatory Commission (the "FERC")
under Docket No. RP96-199 as required by a previous rate case settlement. In
July 1997, MRT filed a comprehensive Stipulation and Agreement (the
"Settlement") in its rate case resolving all issues in the proceeding. The
Settlement provides for slight changes in transmission, storage and depreciation
rates, but no significant overall impact. In addition, under the terms of the
Settlement, MRT agreed to file another general rate case no earlier than
October 1, 1999, but no later than April 1,
13
<PAGE> 14
2001. Also as a part of the Settlement and to accommodate increased firm
transportation requests, MRT filed an application (Docket No. CP97-693) to
return to service, for a limited period of time, a 90-mile segment of its Main
Line No. 1 which had been slated for abandonment. An order approving the
application is expected in November 1997. The settlement was approved by the
FERC in October 1997 and will become effective upon expiration of the rehearing
period and acceptance of filings to effectuate the terms of the Settlement.
In September 1997, NorAm Gas Transmission Company ("NGT") filed an application
(Docket No. CP97-724) to replace 63 miles of its North Louisiana mainline and
increase delivery capacity by 170,000 MMBtu per day. NGT anticipates approval of
this application in the first half of 1998.
Material Changes in the Results of Operations
NorAm's results of operations are seasonal due to seasonal fluctuations in the
demand for and, to a lesser extent, the price of natural gas and, accordingly,
the results of operations for interim periods are not necessarily indicative of
the results to be expected for an entire year. NorAm's results of operations are
affected by regulatory actions (see "Regulatory Matters" in NorAm's Form 10-K
and elsewhere herein), competition and, below the operating income line, by (1)
the level of borrowings and interest rates thereon and (2) income tax expense.
NorAm changed its business unit presentation of operating results beginning
January 1, 1997 with reclassification of previously reported amounts (see
"Material Changes in the Results of Operations" included with "Item 2.
Management's Discussion and Analysis of Financial Condition and Results of
Operations" in NorAm's Quarterly Report on Form 10-Q for the period ended March
31, 1997).
As further discussed in Note B of the accompanying Notes to Consolidated
Financial Statements, the acquisition of NorAm by Houston Industries on August
6, 1997 (the "Merger") created a new basis of accounting, resulting in new
carrying values for certain of NorAm's assets, liabilities and equity. This new
basis is reflected in NorAm's consolidated financial statements beginning with
the date of the acquisition. In order to present data which is useful for
comparative purposes, the following pro forma tabular data and related
discussion have been prepared as if the Merger had taken place at the beginning
of each period presented. These results do not necessarily reflect the results
which would have been obtained if the Merger had actually occurred on the dates
indicated or the results which may be expected in the future.
NorAm's operations for periods after the Acquisition Date are principally
affected by (1) the impact of the amortization of the newly-recognized goodwill,
partially offset by the elimination of the amortization of NorAm's historical
goodwill, (2) the incremental depreciation associated with the net increase in
property, plant and equipment, (3) the amortization (to interest expense) of the
revaluation of long-term debt, (4) the removal of the amortization previously
associated with the pension and postretirement obligations and (5) the deferred
income tax expense associated with these adjustments. Interest expense and
related debt incurred by Houston Industries to fund the cash portion of the
purchase consideration have not been pushed down to NorAm. For these reasons,
among others, certain financial information for periods before and after the
Acquisition Date is not comparable.
14
<PAGE> 15
Following are selected financial and operating data, followed by a discussion of
significant variances in period-to-period results:
SELECTED FINANCIAL RESULTS
(dollars in thousands)
<TABLE>
<CAPTION>
Actual (1) Pro Forma (2)
--------- -------------
Nine Months Ended
September 30, Nine Months Ended September 30,
------------------------- ----------------------------------------------------------
Increase (Decrease) in
1997 1996 1997 1996 Net Income
----------- ----------- ----------- ----------- -----------------------
Operating Revenues $ %
--------- ----------
<S> <C> <C> <C> <C> <C> <C>
Natural Gas Distribution $ 1,490,020 $ 1,417,549 $ 1,490,020 $ 1,417,549 $ 72,471 5.1%
Interstate Pipelines 225,746 266,359 225,746 266,359 (40,613) (15.2)%
Energy Marketing and Gathering 2,535,348 1,835,563 2,535,348 1,835,563 699,785 38.1%
Corporate and Other 57,517 38,369 57,517 38,369 19,148 49.9%
Elimination of Intersegment Revenues (222,171) (349,569) (222,171) (349,569) 127,398 36.4%
----------- ----------- ----------- ----------- ---------
4,086,460 3,208,271 4,086,460 3,208,271 878,189 27.4%
----------- ----------- ----------- ----------- ---------
Operating Income (Loss)
Natural Gas Distribution 105,695 111,846 92,836 95,313 (2,477) (2.6)%
Interstate Pipelines 90,467 90,095 77,100 72,909 4,191 5.7%
Energy Marketing and Gathering 7,982 40,182 3,783 34,782 (30,999) (89.1)%
Corporate and Other (20,224) (14,890) (12,309) (4,712) (7,597) (161.2)%
----------- ----------- ----------- ----------- ---------
183,920 227,233 161,410 198,292 (36,882) (18.6)%
Merger Transaction Costs (3) 18,099 -- 18,099 -- (18,099) N/A
Early Retirement and Severance (4) -- 22,344 -- 22,344 22,344 (100.0)%
----------- ----------- ----------- ----------- ---------
Consolidated 165,821 204,889 143,311 175,948 (32,637) (18.5)%
Interest Expense, Net 97,131 101,683 83,442 84,082 640 0.8%
Distributions on Subsidiary Trust
Securities 6,317 3,128 1,200 594 (526) (88.5)%
Other (Income) and Deductions (7,468) 6,390 (7,468) 6,390 13,778 215.6%
Income Tax Expense (Benefit) 30,612 38,339 33,254 43,399 10,145 23.4%
Extraordinary (Gain) Loss, Less Taxes (237) 4,256 (237) 4,256 4,493 105.6%
----------- ----------- ----------- ----------- ---------
Net Income $ 39,466 $ 51,093 $ 33,120 $ 37,227 $ (4,107) (11.0)%
=========== =========== =========== =========== =========
</TABLE>
<TABLE>
<CAPTION>
SELECTED OPERATING STATISTICS Actual
---------------------
Nine Months Ended
September 30, Increase (Decrease)
---------------------- -------------------
1997 1996 $ %
------- ----- ----- ----
<S> <C> <C> <C> <C>
Natural Gas Distribution (Bcf):
Sales:
Residential and Commercial 219.7 230.5 (10.8) (4.7)%
Industrial 42.6 41.8 0.8 1.9%
Transportation 30.8 32.5 (1.7) (5.2)%
------- ----- ------
Total Throughput 293.1 304.8 (11.7) (3.8)%
======= ===== ======
Interstate Pipelines (million MMBtu):
Sales 13.8 28.0 (14.2) (50.7)%
Transportation 667.2 714.2 (47.0) (6.6)%
Elimination (12.9) (26.4) 13.5 51.1%
------- ----- -----
Total Throughput 668.1 715.8 (47.7) (6.7)%
======= ===== ======
Energy Marketing and Gathering:
Natural Gas (Bcf):
Sales 846.0 749.8 96.2 12.8%
Transportation 17.3 19.7 (2.4) (12.2)%
Gathering 181.5 170.0 11.5 6.8%
------- ----- -----
Total 1,044.8 939.5 105.3 11.2%
======= ===== ======
Electricity (thousand Megawatt
hours)
Wholesale Power Volume 17,660 1,335 16,325 1,222.8%
======= ===== ======
</TABLE>
(1) Actual results for the nine months ended September 30, 1997 combine
Predecessor NorAm's results for the seven months ended July 31, 1997 with
Current NorAm's results for the two months ended September 30, 1997,
including purchase accounting adjustments reflecting the new basis of
accounting.
(2) Pro forma results reflect purchase accounting adjustments as if the Merger
had occurred on January 1,1996 or 1997, as applicable. Adjustments for
goodwill have been allocated to the respective business units.
15
<PAGE> 16
(3) Expenses associated with completion of the business combination with
Houston Industries, see Note B of the accompanying Notes to Consolidated
Financial Statements.
(4) Expenses associated with an early retirement and severance plan, see
Note E of the accompanying Notes to Consolidated Financial Statements.
The increase of approximately $72.5 million (5.1%) in pro forma Natural Gas
Distribution operating revenue for the nine months ended September 30, 1997 in
comparison to the corresponding period of 1996 is almost entirely due to the
increase in purchased gas cost. The 1997 average margin per unit of sales did
increase, principally due to rate increases in certain jurisdictions in 1996
and 1997. However, a weather-related decline in residential and commercial
sales volumes and a small increase in 1997 operating expenses caused the
decrease of approximately $2.5 million (2.6%) in pro forma operating income
(before the charge for early retirement and severance) for the nine months
ended September 30, 1997 in comparison to the corresponding period of 1996.
Pro forma operating revenues for Interstate Pipelines decreased by $40.6
million (15.2%) for the nine months ended September 30, 1997 in comparison to
the corresponding period of 1996 due to reduced sales to Natural Gas
Distribution and the decrease in transportation throughput in 1996 compared to
1997. Operating margins declined only modestly because (i) current year
transportation revenues for Natural Gas Distribution are at higher rates due to
removal in late 1996 of a rate cap and (ii) declines in transportation volume
have a less than proportional impact on margins due to Interstate Pipelines'
rate design. The increase of approximately $4.2 million (5.7%) in pro forma
Interstate Pipelines operating income (before the charge for early retirement
and severance) for the nine months ended September 30, 1997 in comparison to
the corresponding period of 1996 was principally due to reduced 1997 operating
expenses associated with cost reduction initiatives implemented in
first-quarter 1996, together with the 1996 incurrence of certain consulting and
other non-recurring costs associated with these initiatives.
Pro forma operating revenues for Energy Marketing and Gathering ("EM&G")
increased by $699.8 million (38.1%) for the nine months ended September 30,
1997 in comparison to the corresponding period of 1996 due to increased natural
gas and electricity trading. Increased volumes in 1997 had minimal effect on
operating income due to low operating margins in both periods. EM&G's pro forma
operating income decreased by approximately $31.0 million (89.1%) for the nine
months ended September 30, 1997 in comparison to the corresponding period of
1996 primarily due to (i) hedging losses associated with anticipated
first-quarter 1997 sales under peaking contracts and (ii) losses from the sale
of natural gas held in storage and unhedged in the first quarter 1997 for a
total of approximately $17.4 million. For additional information, see
"Management Analysis - Material Changes in the Results of Continuing Operations
- - Wholesale Energy Marketing" in NorAm's Form 10-K. In addition, EM&G's general
and administrative expenses for 1997 increased by approximately $8 million
primarily due to increased staffing and marketing activities. Partially
offsetting these unfavorable impacts were increased margins from natural gas
gathering and products extraction activities.
While pro forma operating revenue for "Corporate and Other" increased by $19.1
million (49.9%) from the nine months ended September 30,1996 to the
corresponding period of 1997, the pro forma operating loss for "Corporate and
Other" increased by $7.6 million (161.2%). This increased revenue and operating
loss were principally due to 1997 increased activities and development costs
associated with NorAm's utility services and consumer services businesses.
The $0.6 million (0.8%) decrease in "Interest Expense, Net" on a pro forma basis
for the nine months ended September 30, 1997 in comparison to the corresponding
period of 1996 reflects the impact of the inclusion, in 1997 results, of $11.0
million of expense associated with NorAm's receivable sales facility, which
corresponding costs of $7.0 million are included with "Other (Income) and
Deductions" in 1996. For additional information, see Note F of the accompanying
Notes to Consolidated Financial Statements. After consideration of the impact of
the receivable facility, the $11.6 million decrease in interest expense in 1997
reflected $5.2 million and $6.5 million of reduction due to a decrease in the
average interest rate and a decrease in the average level of debt, respectively.
After adjustment for the costs associated with NorAm's receivable sales facility
as described above, there was a favorable variance of $6.8 million in "Other
(Income) and Deductions" on a pro forma basis from the nine months ended
September 30, 1996 to the corresponding period of 1997. Substantially all of
this favorable variance was due
16
<PAGE> 17
to the close-out of certain interest rate swaps. For additional
information, see Note H of the accompanying Notes to Consolidated Financial
Statements.
The net favorable variance of $10.1 million (23.4%) in pro forma income tax
expense from the nine months ended September 30, 1996 to the corresponding
period of 1997 reflects (i) a $9.5 million favorable variance due to decreased
1997 pre-tax income, and (ii) a $0.6 million favorable variance due to a
decrease in the 1997 interim federal effective tax rate. The decrease in the
effective tax rate for Current NorAm's actual two months ended September 30,
1997 is due to the incremental goodwill amortization of $5.8 million.
As discussed in Note C of the accompanying Notes to Consolidated Financial
Statements, NorAm utilizes a variety of derivative financial instruments as part
of its overall risk management strategy. In the table which follows, the term
"notional amount" refers to the contract unit price times the contract volume
for the relevant derivative category and, in general, such amounts are not
indicative of the cash requirements associated with these derivatives. The
notional amount is intended to be indicative of NorAm's level of activity in
such derivatives, although the amounts at risk are significantly smaller
because, in view of the price movement correlation required for hedge
accounting, changes in the market value of the majority of these derivatives are
expected to be offset by changes in the value associated with the underlying
physical transactions or in other derivatives. Following is certain information
concerning NorAm's derivative activities:
Natural Gas Swaps (1)
(volumes in Bcfs, dollars in millions)
<TABLE>
<CAPTION>
Volume
---------------------------------- Estimated
Fixed Price Fixed Price Mkt. Value
Payor Receiver Gain (2)
----------- ----------- ----------
<S> <C> <C> <C>
September 30, 1997 118.2 41.1 $26.0
December 31, 1996 126.6 52.9 9.7
</TABLE>
Natural Gas Futures (3)
(volumes in Bcfs, dollars in millions)
<TABLE>
<CAPTION>
Purchased Sold
-------------------------- -------------------------- Estimated
Notional Notional Mkt. Value
Volume Amount Volume Amount Gain (Loss) (2)
------ -------- ------ -------- ---------------
<S> <C> <C> <C> <C> <C>
September 30, 1997 35.2 95.8 29.2 81.4 $1.2
December 31, 1996 23.7 64.1 13.6 40.0 0.1
</TABLE>
(1) The financial impact of these natural gas swaps was to decrease earnings
by $4.4 million and $5.9 million during the nine months ended September
30, 1997 and 1996, respectively.
(2) Represents the amount which would have been realized upon termination of
the relevant derivative as of the date indicated. As further discussed in
Note 7 to NorAm's Form 10-K, for swaps associated with certain agreements
pursuant to which NorAm has committed to supply gas to a distribution
affiliate through April 1999, no earnings impact is expected due to
existing accruals. Swaps associated with these commitments and included
above had a fair market value of $5.1 million at September 30, 1997.
(3) The financial impact of these natural gas futures was to decrease
earnings by $18.4 million and $ 0.2 million during the nine months ended
September 30, 1997 and 1996, respectively.
At September 30, 1997, NorAm held options covering the purchase of 6.7 Bcf of
gas, principally in conjunction with the commitment to supply gas to a
distribution affiliate as described above. As described in Note 7 to NorAm's
Form 10-K, NorAm has provided an accrual for the expected total costs associated
with this commitment, including the market value of the related options.
17
<PAGE> 18
Item 3: Quantitative and Qualitative Disclosures about Market Risk.
Not applicable.
Part II. Other Information
Item 1. Legal Proceedings
For a description of legal and regulatory proceedings affecting NorAm, reference
is made to the information set forth in Note 7 of Notes to Consolidated
Financial Statements, "Item 3. Legal Proceedings" and "Item 7. Management
Analysis -- Material Changes, The Results of Operations -- Regulatory Matters in
NorAm's 1996 Annual Report on Form 10-K, Notes G and H of Notes to Consolidated
Financial Statements, "Item 2. Management"s Discussion and Analysis of Financial
Condition and Results of Operation -- Regulatory Matters" and "Item 1. Legal
Proceedings" included in NorAm's Quarterly Report on Form 10-Q for the period
ended March 31, 1997 and Notes K and L of Notes to Consolidated Financial
Statements, "Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operation -- Regulatory Matters" and "Item 1. Legal Proceedings"
included in NorAm's Quarterly Report on Form 10-Q for the period ended June 30,
1997, which information is incorporated herein by reference.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit 27 - Financial Data Schedule.
Exhibit 99(a) - Note 7 of Notes to Consolidated Financial Statements,
"Item 3. Legal Proceedings" and "Item 7. Management
Analysis -- Material Changes in the Results of
Continuing Operations -- Regulatory Matters" included
on page(s) 83-88, 14 and 22-24 of NorAm's 1996 Annual
Report on Form 10-K.
Exhibit 99(b) - Notes G and H of Notes to Consolidated Financial
Statements, "Item 2. Management's Discussion and
Analysis of Financial Condition and Results of
Operation -- Regulatory Matters" and "Item 1. Legal
Proceedings" included on page(s) 11-12, 14 and 32 of
NorAm's Quarterly Report on Form 10-Q for the period
ended March 31, 1997.
Exhibit 99(c) - Notes K and L of Notes to Consolidated Financial
Statements, "Item 2. Management's Discussion and
Analysis of Financial Condition and Results of
Operation -- Regulatory Matters" and "Item 1. Legal
Proceedings" included on page(s) 12-14, 15 and 37 of
NorAm's Quarterly Report on Form 10-Q for the period
ended June 30, 1997.
(b) Reports on Form 8-K
Current Report on Form 8-K dated (1) August 6, 1997 with
respect to "Item 1. Changes in Control of Registrant"
announcing a change in control of NorAm resulting from its
acquisition by Houston Industries effective August 6, 1997 and
(2) August 18, 1997 with respect to "Item 4. Changes in
Registrant's Certifying Accountants" announcing a change in
NorAm's certifying accountants from Coopers & Lybrand L.L.P.
to Deloitte & Touche LLP (the certifying accountants of
Houston Industries) in order to consolidate the external audit
functions into one audit firm.
18
<PAGE> 19
SIGNATURE
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.
NorAm Energy Corp.
(Registrant)
By: /s/ Mary P. Ricciardello
------------------------------
Mary P. Ricciardello
Vice President & Comptroller
(Principal Accounting Officer)
Dated: November 14, 1997
19
<PAGE> 20
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Exhibit
Number Description
------- -----------
<S> <C>
Exhibit 27 - Financial Data Schedule.
Exhibit 99(a) - Note 7 of Notes to Consolidated Financial Statements,
"Item 3. Legal Proceedings" and "Item 7. Management
Analysis" Material Changes in the Results of Continuing
Operations -- Regulatory Matters" included on page(s)
83-88, 14 and 22-24 of NorAm's 1996 Annual Report on
Form 10-K.
Exhibit 99(b) - Notes G and H of Notes to Consolidated Financial
Statements, "Item 2. Management's Discussion and
Analysis of Financial Condition and Results of
Operation -- Regulatory Matters" and "Item 1. Legal
Proceedings" included on page(s) 11-12, 14 and 32 of
NorAm's Quarterly Report on Form 10-Q for the period
ended March 31, 1997.
Exhibit 99(c) - Notes K and L of Notes to Consolidated Financial
Statements, "Item 2. Management's Discussion and
Analysis of Financial Condition and Results of
Operation -- Regulatory Matters" and "Item 1. Legal
Proceedings" included on page(s) 12-14, 15 and 37 of
NorAm's Quarterly Report on Form 10-Q for the period
ended June 30, 1997.
</TABLE>
<TABLE> <S> <C>
<ARTICLE> OPUR1
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM NORAM ENERGY
CORP. FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 2-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> SEP-30-1997
<BOOK-VALUE> PER-BOOK
<TOTAL-NET-UTILITY-PLANT> 2,712,518
<OTHER-PROPERTY-AND-INVEST> 2,192,827
<TOTAL-CURRENT-ASSETS> 811,050
<TOTAL-DEFERRED-CHARGES> 63,653
<OTHER-ASSETS> 0
<TOTAL-ASSETS> 5,780,048
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<RETAINED-EARNINGS> (6,646)
<TOTAL-COMMON-STOCKHOLDERS-EQ> 2,457,397
0
0
<LONG-TERM-DEBT-NET> 1,185,875
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<LONG-TERM-NOTES-PAYABLE> 475,000
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<LONG-TERM-DEBT-CURRENT-PORT> 134,236
0
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<OTHER-ITEMS-CAPITAL-AND-LIAB> 1,527,540
<TOT-CAPITALIZATION-AND-LIAB> 5,780,048
<GROSS-OPERATING-REVENUE> 749,412
<INCOME-TAX-EXPENSE> (786)
<OTHER-OPERATING-EXPENSES> 738,631
<TOTAL-OPERATING-EXPENSES> 738,631
<OPERATING-INCOME-LOSS> 10,781
<OTHER-INCOME-NET> 258
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</TABLE>
<PAGE> 1
EXHIBIT 99(A)
7. COMMITMENTS AND CONTINGENCIES
LEASE COMMITMENTS
Following is certain information concerning the Company's obligations under
operating leases:
(1) Principally consisting of rental agreements for building space, data
processing equipment and vehicles (including major work equipment).
Lease payments related to assets transferred under the Company's leasing
arrangements (see "Other Long-Term Financing" included in Note 3) are included
in the preceding table for only their primary (non-cancelable) term. Subsequent
to the primary term, the Company could terminate its obligations under these
arrangements by electing to purchase the relevant assets for an amount
approximating fair market value. Total rental expense for all leases was $33.4
million, $48.9 million and $36.8 million in 1996, 1995 and 1994, respectively.
LETTERS OF CREDIT
At December 31, 1996, the Company was obligated under letters of credit
incidental to its ordinary business operations totalling approximately $21.7
million.
INDEMNITY PROVISIONS
In June 1993, the Company completed the sale of Louisiana Intrastate Gas
Corporation ("LIG"), its former subsidiary engaged in the intrastate pipeline
and liquids extraction business, to Equitable Resources, Inc. In December 1992,
the Company completed the sale of Arkla Exploration Company ("AEC"), its former
subsidiary engaged in oil and gas exploration and production activities, to
Seagull Energy Corporation. In June 1991, the Company completed the sale of
Dyco Petroleum Company ("Dyco"), the oil and gas exploration and production
company acquired in conjunction with the Company's acquisition of Diversified
Energies Inc., to Continental Drilling Company, Inc., a subsidiary of Samson
Investment Company. In each instance, the relevant sale agreement required the
Company to indemnify the purchaser against certain exposures, for which the
Company has established reserves based on, among other factors, its estimates
of potential claims. These reserves are included in the Company's Consolidated
Balance Sheet under the caption "Estimated obligations under indemnification
provisions of sale agreements".
SALE OF RECEIVABLES
Certain of the Company's receivables are collateral for receivables which have
been transferred pursuant to a sale of receivables facility, see "Sale of
Receivables" included in Note 3.
GAS PURCHASE CLAIMS
In conjunction with settlements of "take-or-pay" claims, the Company has
prepaid for certain volumes of gas, which prepayments have been recorded at
their net realizable value and, to the extent that the Company is unable to
realize at least the carrying amount as the gas is delivered and sold, the
Company's earnings will be adversely affected, although such impact is not
expected to be material. In addition to these prepayments, the Company is a
party to a number of agreements which require it to either purchase or sell gas
in the future at prices which may differ from then-prevailing market prices or
which require it to deliver gas at a point other than the expected receipt
point for volumes to be purchased. As discussed under "Credit Risk and
Off-Balance-Sheet Risk" following, the Company operates an ongoing risk
management program designed to eliminate or limit the Company's exposure from
its obligations under these purchase/sale commitments. To the extent that the
Company expects that these commitments will result in losses over the contract
term, the Company has established reserves equal to such expected losses.
TRANSPORTATION AGREEMENT
The Company had an agreement ("the ANR Agreement") with ANR Pipeline Company
("ANR") which contemplated a transfer to ANR of an interest in certain of the
Company's pipeline and related assets, representing capacity of 250
<PAGE> 2
MMcf/day, and pursuant to which ANR had advanced $125 million to the Company.
The ANR Agreement has been restructured as a lease of capacity and, after
refunds of $50 million and $34 million in 1995 and 1993, respectively, the
Company currently retains $41 million (recorded as a liability) in exchange for
ANR's use of 130 MMcf/day of capacity in certain of the Company's
transportation facilities. The level of transportation will decline to 100
MMcf/day in the year 2003 with a refund of $5 million to ANR and the ANR
Agreement will terminate in 2005 with a refund of the remaining balance.
CREDIT RISK AND OFF-BALANCE-SHEET RISK
The Company's gas supply, marketing, gathering and transportation activities
subject the Company's earnings to variability based on fluctuations in both the
market price of natural gas and the value of transportation as measured by
changes in the delivered price of natural gas at various points in the nation's
natural gas grid. In order to mitigate the financial risk associated with these
activities both for itself and for certain customers who have requested the
Company's assistance in managing similar exposures, the Company routinely
enters into natural gas swaps, futures contracts and options, collectively
referred to in this discussion as "derivatives". The use of derivatives for the
purpose of reducing exposure to risk is generally referred to as hedging and,
through deferral accounting, results in matching the financial impact of these
derivative transactions with the cash impact resulting from consummation of the
transactions being hedged, see "Accounting for Price Risk Management
Activities" included in Note 1.
The futures contracts are purchased and sold on the NYMEX and generally are
used to hedge a portion of the Company's storage gas, manage intra-month and
inter-month actual and anticipated short or long commodity positions and
provide risk management assistance to certain customers, to whom the cost of
the derivative activity is generally passed on as a component of the sales
price of the service being provided. Futures contracts are also utilized to fix
the price of compressor fuel or other future operational gas requirements,
although usage to date for this purpose has not been material. The options are
entered into with various third parties and principally consist of options
which serve to limit the year-to-year escalation from January 1998 to April
1999 in the purchase price of gas which the Company is committed to deliver to
a distribution affiliate. These options covered 2.4 Bcf, 13.2 Bcf and 30.5 Bcf
at December 31, 1996, 1995 and 1994, respectively and, due to their nature and
term, have no readily determinable fair market value. The Company previously
established a reserve equal to its projected maximum exposure to losses during
the term of this commitment and, accordingly, no impact on earnings is
expected. The Company also utilizes options in conjunction with meeting
customers' needs for custom risk management services and for other limited
purposes. The Company had an immaterial amount of such options outstanding at
December 31, 1996. The impact of such options was to decrease 1996 earnings by
approximately $2.6 million and the effect on prior periods was not material.
The swaps, also entered into with various third parties, are principally
associated with the Company's marketing and transportation activities and
generally require that one party pay either a fixed price or fixed differential
from the NYMEX price per MMBtu of gas while the other party pays a price based
on a published index. These swaps allow the Company to (1) commit to purchase
gas at one location and sell it at another location without assuming
unacceptable risk with respect to changes in the cost of the intervening
transportation, (2) effectively set the value to be received for transportation
of certain volumes on the Company's facilities in the future and (3)
effectively fix the base price for gas to be delivered in conjunction with the
commitment described preceding. None of these derivatives are held for
speculative purposes and the Company's risk management policy requires that
positions taken in derivatives be offset by positions in physical transactions
(actual or anticipated) or in other derivatives.
In the table which follows, the term "notional amount" refers to the contract
unit price times the contract volume for the relevant derivative category and,
in general, such amounts are not indicative of the cash requirements associated
with these derivatives. The notional amount is intended to be indicative of the
Company's level of activity in such derivatives, although the amounts at risk
are significantly smaller because, in view of the price movement correlation
required for hedge accounting, changes in the market value of these derivatives
generally are offset by changes in the value associated with the underlying
physical transactions or in other derivatives. When derivative positions are
closed out in advance of the underlying commitment or anticipated transaction,
however, the market value changes may not offset due to the fact that price
movement correlation ceases to exist when the positions are closed. Under such
circumstances, gains or losses are deferred and recognized when the underlying
commitment or anticipated transaction was scheduled to occur. Following is
certain information concerning the Company's derivative activities:
<PAGE> 3
(1) The financial impact of these swaps was to increase(decrease) earnings
by $(1.0) million, $1.0 million and $2.8 million during 1996, 1995 and
1994, respectively, as swap transactions were matched with hedged
transactions during these periods.
(2) Represents the estimated amount which would have been realized upon
termination of the relevant derivatives as of the date indicated. The
amount which is ultimately charged or credited to earnings is affected
by subsequent changes in the market value of these derivatives and, in
the case of certain commitments described preceding, no earnings
impact is expected due to existing accruals. Swaps associated with
these commitments and included in the above totals had fair market
values of $2.8 million, $(1.0) million and $(17.6) million at December
31, 1996, 1995 and 1994, respectively.
(3) There was no material financial impact from these futures contracts in
1994 and the effect during 1996 and 1995 was to decrease earnings by
$9.3 million and $4.1 million, respectively, as futures transactions
were matched with hedged transactions during these periods. At
December 31, 1996, the Company had deferred losses of approximately
$11.9 million associated with expected sales under "peaking" contracts
with certain customers which, in effect, give the customer a "call" on
certain volumes of gas. All such losses were recognized in January
1997 when the anticipated transactions were scheduled to occur.
While, as yet, the Company has experienced no significant losses due to the
credit risk associated with these arrangements, the Company has
off-balance-sheet risk to the extent that the counterparties to these
transactions may fail to perform as required by the terms of each such
contract. In order to minimize this risk, the Company enters into such
transactions solely with firms of acceptable financial strength, in the
majority of cases limiting such transactions to counterparties whose debt
securities are rated "A" or better by recognized rating agencies. For long-
term arrangements, the Company periodically reviews the financial condition of
such firms in addition to monitoring the effectiveness of these financial
contracts in achieving the Company's objectives. Should the counterparties to
these arrangements fail to perform, the Company would seek to compel
performance at law or otherwise, or to obtain compensatory damages in lieu
thereof, but the Company might be forced to acquire alternative hedging
arrangements or be required to honor the underlying commitment at then-current
market prices. In such event, the Company might incur additional loss to the
extent of amounts, if any, already paid to the counterparties. In view of its
criteria for selecting counterparties, its process for monitoring the financial
strength of these counterparties and its experience to date in successfully
completing these transactions, the Company believes that the risk of incurring
a significant loss due to the nonperformance of counterparties to these
transactions is minimal.
<PAGE> 4
LITIGATION
On August 14, 1996, an action styled Shaw vs. NorAm Energy Corp., et al. was
filed in the District Court of Harris County, Texas by a purported NorAm
stockholder against the Company, certain of its officers and directors and
Houston Industries to enjoin the merger between the Company and Houston
Industries (see "Merger With Houston Industries" included in Note 1) or to
rescind such merger and/or to recover damages in the event that the Transaction
is consummated. The complaint alleges, among other things, that the merger
consideration is inadequate, that the Company's Board of Directors breached its
fiduciary duties and that Houston Industries aided and abetted such breaches of
fiduciary duties. In addition, the plaintiff seeks certification as a class
action. The Company believes that the claims are without merit and intends to
vigorously defend against the lawsuit. Management believes that the effect on
the Company's results of operations, financial position or cash flows, if any,
from the disposition of this matter will not be material.
The Company is a party to litigation (other than that specifically noted) which
arises in the normal course of business. Management regularly analyzes current
information and, as necessary, provides accruals for probable liabilities on
the eventual disposition of these matters. Management believes that the effect
on the Company's results of operations, financial position or cash flows, if
any, from the disposition of these matters will not be material.
ENVIRONMENTAL MATTERS
The Company and its predecessors operated a manufactured gas plant ("MGP")
adjacent to the Mississippi River in Minnesota known as the former Minneapolis
Gas Works ("FMGW") until 1960. The Company is working with the Minnesota
Pollution Control Agency to implement an appropriate remediation plan. There
are six other former MGP sites in the Company's Minnesota service territory. Of
the six sites, the Company believes that two were neither owned nor operated by
the Company; two were owned at one time but were operated by others and are
currently owned by others; and one was operated by the Company and is now owned
by others. The Company believes it has no liability with respect to the sites
it neither owned nor operated.
At December 31, 1996, the Company has estimated a range of $10 million to $170
million for possible remediation of the Minnesota sites. The low end of the
range was determined using only those sites presently owned or known to have
been operated by the Company, assuming the Company's proposed remediation
methods. The upper end of the range was determined using the sites once owned
by the Company, whether or not operated by the Company, using more costly
remediation methods. The cost estimates for the FMGW site are based on studies
of that site. The remediation costs for other sites are based on industry
average costs for remediation of sites of similar size. The actual remediation
costs will be dependent upon the number of sites remediated, the participation
of other potentially responsible parties, if any, and the remediation methods
used.
In its 1993 rate case, Minnegasco was allowed $2.1 million annually to recover
amortization of previously deferred and ongoing clean-up costs. Any amounts in
excess of $2.1 million annually were deferred for future recovery. In its 1995
rate case, Minnegasco asked that the annual allowed recovery be increased to
approximately $7 million and that such costs be subject to a true-up mechanism
whereby any over or under recovered amounts, net of certain insurance
recoveries as described following, plus carrying charges, would be deferred for
recovery or refund in the next rate case. Such accounting was approved by the
Minnesota Public Utilities Commission ("MPUC") and was implemented effective
October 1, 1995. The amount of insurance recoveries to be flowed back to
ratepayers is determined by multiplying insurance recoveries received by the
ratio of total costs incurred to-date as a percentage of the probable total
costs of environmental remediation. At December 31, 1996 and 1995, the Company
had under-collected, through rates, net environmental clean-up costs of $1.4
million and $1.3 million, respectively. In addition, at December 31, 1996 and
1995, the Company had received insurance proceeds that will be refunded through
rates in the future as clean-up expenditures are made of $4.3 million and $3.3
million, respectively. At December 31, 1996 and 1995, the Company had recorded
a liability of $35.9 million and $45.2 million, respectively, to cover the cost
of future remediation. In addition, the Company has receivables from insurance
settlements of $5.2 million at December 31, 1996. These insurance settlements
will be collected through 1999. The Company expects that the majority of its
accrual as of December 31, 1996 will be expended within the next five years. In
accordance with the provisions of SFAS 71, a regulatory asset has been recorded
equal to the liability accrued. The Company is continuing to pursue recovery of
at
<PAGE> 5
least a portion of these costs from insurers. The Company believes the
difference between any cash expenditures for these costs and the amounts
recovered in rates during any year will not be material to the Company's
overall cash requirements.
In addition to the Minnesota MGP sites described above, the Company's
distribution divisions are investigating the possibility that the Company or
predecessor companies may be or may have been associated with other MGP sites
in the service territories of the distribution divisions. At the present time,
the Company is aware of some plant sites in addition to the Minnesota sites and
is investigating certain other locations. While the Company's evaluation of
these other MGP sites remains in its preliminary stages, it is likely that some
compliance costs will be identified and become subject to reasonable
quantification. To the extent that such potential costs are quantified, as with
the Minnesota remediation costs for MGP described preceding, the Company
expects to provide an appropriate accrual and seek recovery for such
remediation costs through all appropriate means, including regulatory relief.
On October 24, 1994, the United States Environmental Protection Agency advised
the Company that MRT and a number of other companies have been named under
federal law as potentially responsible parties for a landfill site in West
Memphis, Arkansas and may be required to share in the cost of remediation of
this site. However, considering the information currently known about the site
and the involvement of MRT, the Company does not believe that this matter will
have a material adverse effect on its financial position, results of operations
or cash flows.
On December 18, 1995, the Louisiana Department of Environmental Quality advised
the Company that the Company, through one of its subsidiaries and together with
several other unaffiliated entities, had been named under state law as a
potentially responsible party with respect to a hazardous substance site in
Shreveport, Louisiana and may be required to share in the remediation cost, if
any, of the site. However, considering the information currently known about
the site and the involvement of the Company and its subsidiaries with respect
to the site, the Company does not believe that the matter will have a material
adverse effect on its financial position, results of operations or cash flows.
In addition, the Company, as well as other similarly situated firms in the
industry, is investigating the possibility that it may elect or be required to
perform remediation of various sites where meters containing mercury were
disposed of improperly, or where mercury from such meters may have leaked or
been disposed of improperly. While the Company's evaluation of this issue
remains in its preliminary stages, it is likely that compliance costs will be
identified and become subject to reasonable quantification.
At December 31, 1996 and 1995, the Company had recorded an accrual of $3.3
million (with a maximum estimated exposure of approximately $18 million) and an
offsetting regulatory asset for environmental matters in connection with a
former fire training facility and a landfill for which future remediation may
be required. This accrual is in addition to the accrual for MGP sites as
discussed preceding.
While the nature of environmental contingencies makes complete evaluation
impracticable, the Company currently is aware of no other environmental matter
which could reasonably be expected to have a material impact on its results of
operations, financial position or cash flows.
<PAGE> 6
ITEM 3. LEGAL PROCEEDINGS
On August 14, 1996, an action styled Shaw vs. NorAm Energy Corp., et al. was
filed in the District Court of Harris County, Texas by a purported NorAm
stockholder against the Company, certain of its officers and directors and
Houston Industries to enjoin the Transaction or to rescind the Transaction
and/or to recover damages in the event that the Transaction is consummated.
The complaint alleges, among other things, that the merger consideration is
inadequate, that the Company's Board of Directors breached its fiduciary duties
and that Houston Industries aided and abetted such breaches of fiduciary
duties. In addition, the plaintiff seeks certification as a class action. The
Company believes that the claims are without merit and intends to vigorously
defend against the lawsuit. The Company does not believe that the matter will
have a material adverse effect on the financial position, results of operations
or cash flows of the Company.
On December 18, 1995, the Louisiana Department of Environmental
Quality advised the Company, that the Company, through one of its subsidiaries,
and together with several other unaffiliated entities, have been named under
state law as potentially responsible parties with respect to a hazardous
substance site in Shreveport, Louisiana and may be required to share in the
remediation cost, if any are incurred. However, considering the information
currently known about the site and the involvement of the Company and its
subsidiaries with respect to the site, the Company does not believe that the
matter will have a material adverse effect on the financial position, results
of operations or cash flows of the Company.
On October 24, 1994, the United States Environmental Protection Agency
(the "EPA") advised the Company that MRT and a number of other companies have
been named under federal law as potentially responsible parties for a landfill
site in West Memphis, Arkansas and may be required to share in the cost of
remediation of this site. The EPA is continuing to investigate the possibility
that other companies may have sent waste material to this site. Considering
the information currently known about the site and the involvement of MRT, the
Company does not believe that this matter will have a material adverse effect
on the financial position, results of operations or cash flows of the Company.
The Company is a party to litigation (other than that specifically
noted) which arises in the normal course of business. Management regularly
analyzes current information and, as necessary, provides accruals for probable
liabilities on the eventual disposition of these matters. Management believes
that the effect on the Company's results of operations, financial position or
cash flows, if any, from the disposition of theses matters will not be
material.
<PAGE> 7
MATERIAL CHANGES IN THE RESULTS
OF CONTINUING OPERATIONS
GENERAL
In recognition of the manner in which the Company manages its portfolio of
businesses, and in order to facilitate a more detailed understanding of the
various activities in which the Company engages, the Company has segregated its
results of operations into (1) Natural Gas Distribution, (2) Interstate
Pipelines, (3) Wholesale Energy Marketing, (4) Natural Gas Gathering, (5)
Retail Energy Marketing and (6) Corporate and Other. The Company's results of
operations are seasonal due to weather-related fluctuations in the demand for
and price of natural gas although, as discussed following and elsewhere herein,
(1) the Company has obtained rate design changes in its rate-regulated
businesses which generally have reduced the sensitivity of the Company's
earnings to seasonal weather patterns (further such changes may occur) and (2)
the Company is seeking to derive a larger portion of its earnings from
businesses which exhibit less earnings seasonality.
Since the Company's December 1992 sale of its oil and gas exploration
and production business, the substantial majority of the Company's earnings
have been attributable to operations which are rate regulated. While these
businesses have been subjected to varying levels of competition through changes
in the form of regulation (further such changes may occur), in general, they
continue to be regulated on a cost-of-service basis and the potential for
growth in earnings and increased rates of return is limited. The Company seeks
to improve its returns from these businesses through increased efficiency,
aggressive marketing and by rate initiatives which allow these businesses to
compete more effectively and retain more of the value added through improved
operations and expanded services.
The Company continues to believe that its greatest potential for
significant increases in overall profitability lies in those businesses which
are, in some instances, subject to regulation as to the nature of services
offered, the manner in which services are provided or the allocation of joint
costs between cost-of-service regulated and other operations, but generally are
not subject to direct regulation as to the rates which may be charged. Such
operations are sometimes referred to herein for convenience as "unregulated".
The Company has separated its strategically significant unregulated activities
into discrete management units and formulated plans for increasing the future
financial contribution from these businesses. The Company has and expects to
continue to (1) expand both the range of products and services offered by these
businesses and the geographic areas served and (2) increase the percentage of
the Company's overall earnings derived from these activities.
In addition, the Company is investigating opportunities for
international investment. To date, the Company's efforts have focused on
opportunities emerging in Latin America due to privatization initiatives
currently underway in a number of countries, as well as broad-based efforts to
encourage international investment. While such investments involve increased
risks such as political, economic or regulatory instability and foreign
currency exchange rate fluctuations, the Company believes that, together with
carefully selected partners (both within the target countries and otherwise),
it can effectively apply its natural gas industry expertise to selected
projects in Latin America, thereby increasing its overall returns on invested
capital while keeping the increased risk within acceptable limits. In general,
the international investment is expected to build up gradually over a period of
years as the Company (1) identifies and creates working relationships with
strategic business partners, (2) selects projects which meet its risk/return
requirements, (3) develops specific country experience and (4) in some cases,
increases its investment in specific projects as facilities are constructed,
see the following discussion and "Capital Expenditures - Continuing Operations"
under "Net Cash Flows from Investing Activities" elsewhere herein.
In early 1997, the Company learned that four consortiums ("the
Consortiums"), each of which included the Company, were the apparent successful
bidders for the right to build and operate natural gas distribution facilities
in each of four defined service areas ("the Concessions") within Colombia.
Contracts, which extend through the year 2014 and grant the exclusive right to
distribute gas to consumers of less than 500 Mcf per day (and the right to
compete for other customers), are expected to be awarded in April 1997. The
Company estimates that the Concessions ultimately will have approximately
400,000 customers, connected over approximately a five-year period at a total
cost of approximately $160 million, with construction expected to begin no
later than the fourth quarter of 1997. The Company's ownership interest in the
Consortiums, while subject to change through continuing negotiations with its
existing and potential partners ranges from 15% to approximately 33% and, based
on the expected number of customers, represents a weighted average ownership
interest of approximately 23%. Depending upon, among other factors, its
ownership percentage and success in finalizing financing arrangements at
estimated levels and with expected terms (see
<PAGE> 8
the discussion following), the Company currently estimates that the net cash
outflows to support its investment in the Concessions will not exceed
approximately $4 million in any year, and that its investment in the
Concessions will become a net source of cash in approximately year four.
Debt is currently expected to make up a significant portion of the
financing for the Concessions in the early years of the project, reaching a
maximum level of approximately $90 million and declining thereafter. While such
debt is expected to be without direct recourse to members of the Consortiums
("the Partners"), the terms of the debt will likely require that each Partner
enter into an agreement which commits it to make pro rata capital contributions
as funds are borrowed to finance construction, and that lenders will be granted
a security interest in such agreements. The Company is considering extending an
offer of support to its Partners such that, in the event that any Partner fails
to make capital contributions as required, the Company would make such
contributions and assume the underlying ownership interest. The Company
currently estimates that, in the event this arrangement is agreed to by all
parties and finalized, and the Company is required to assume all such
interests, the Company's maximum investment in the Concessions will not exceed
$50 million and its net cash outflows in support of the Concessions will not
exceed $18 million in any year.
In January 1997, the Company participated in a bid for a permit
authorizing the construction, ownership and operation of a natural gas
distribution system for the geographic area that includes the cities of
Chihuahua, Delicias and Cuauchtemoc/Anahuac in North Central Mexico. In March
1997, the Company learned that its group was not the successful bidder. The
Company had previously announced its intention to participate in a similar
bidding process for a permit to provide natural gas distribution service to all
or a portion of Mexico City, although no date has yet been set for submission
of bids.
REGULATORY MATTERS
In general, the Company's interstate pipelines are subject to regulation by the
FERC, while its natural gas distribution operations are subject to regulation
at the state or municipal level. Historically, all of the Company's
rate-regulated businesses have followed the accounting guidance contained in
Statement of Financial Accounting Standards No. 71, "Accounting for the Effects
of Certain Types of Regulation" ("SFAS 71"). The Company discontinued
application of SFAS 71 to its NorAm Gas Transmission Company subsidiary ("NGT")
effective with year-end 1992 reporting, see "Interstate Pipelines" elsewhere
herein. As a result of the continued application of SFAS 71 to Mississippi
River Transmission Corporation ("MRT") and the Company's natural gas
distribution operations, the Company's consolidated financial statements
contain certain assets and liabilities which would not be recognized by
unregulated entities. In addition to regulatory assets related to
postretirement benefits other than pensions, the Company's only other
significant regulatory asset is related to anticipated environmental
remediation costs, see Note 5 of the accompanying Notes to Consolidated
Financial Statements and "Environmental Matters" under "Commitments and
Contingencies" elsewhere herein. Following are recent significant regulatory
actions and developments.
NGT's Negotiated Rate Filing (Docket No. RP96-200), accepted by the
FERC on April 25, 1996, allowed NGT's rates to exceed the maximum cost-based
rates set forth in its filed tariff and/or to deviate from the current
FERC-mandated rate design. NGT has negotiated certain transactions which
provide for shippers' rates to be based on various factors such as gas price
differentials between the east and west sides of the NGT system. Therefore, in
some instances, NGT will charge and collect a negotiated rate which exceeds its
then-current maximum filed tariff rate. Appeals of the FERC's negotiated rate
policy, as well as the specific authorization granted to NGT to charge
negotiated rates, have been filed with the U.S. Court of Appeals, D.C. Circuit.
Until such time as these appeals are resolved, some uncertainty will exist as
to whether the Company may be required to refund any amounts associated with
transactions billed at above the maximum tariff rate. The Company currently
believes that any such refund will not be material. The FERC accepted NGT's 4th
annual FERC Order 528 filing (Docket No. RP96-167) effective April 1, 1996,
which retained the $0.03 per MMBtu commodity surcharge for continued recovery
of 75% of eligible take-or-pay costs, to the extent that collection of such
costs is supported by market conditions. The recovery of these costs, which
commenced in 1992, will continue through the year 2002 although, as a result of
the discontinuance of the application of SFAS 71 to NGT as described preceding,
no asset has been recorded in anticipation of recovery. Additionally, in April
1996, the FERC issued certificate orders granting (1) abandonment of NGT's
Collinson Storage Facility and associated facilities and equipment (Docket No.
CP95- 250), which will not result in a material gain or loss upon abandonment
and will not be abandoned until all gas has been recovered and (2) abandonment
and transfer of NGT's Line O West facilities to NorAm Field Services Corp.
("NFS") (Docket No. RP96-105), allowing NGT to divest itself of certain
non-core facilities which supported the gas supply function in a time when NGT
was principally a merchant of natural gas.
<PAGE> 9
NGT's certificated Line F Project, constructed at a total cost of
approximately $17 million, replaced a 30 mile section of the existing Line F
from Ruston to Sterlington, Louisiana, and upgraded the maximum allowed
operating pressure of the line to 1200 psig. This replacement project was
placed in service on October 31, 1996 and allows NGT to receive gas from an
interconnect with MRT located near NGT's Ruston Compressor Station. Finally, on
November 1, 1996, both MRT and NGT filed to revise their FERC tariffs,
incorporating the Gas Industry Standards Board standards in compliance with
FERC Order 587 (Docket No. RM96-1). These filings set forth each company's
standard procedures for business practices supporting nominations, allocations,
balancing, measurement, invoicing, capacity release, and standardization of
electronic communications between pipelines and their customers. Pursuant to a
FERC acceptance order, both NGT and MRT revised and refiled specified sections
of these tariffs in February 1997.
In April 1996, MRT filed a FERC Section 4 rate case (Docket No.
RP96-199) pursuant to the settlement entered into in MRT's last rate case
(Docket No. RP93-4). MRT's proposed tariff rates would increase revenues
derived from jurisdictional service by $14.7 million annually. Motion rates,
subject to refund, were implemented October 1, 1996. As a result of a
prehearing conference in December 1996, another procedural schedule was
established, setting a hearing date of July 29, 1997.
MRT filed an application (Docket No. CP95-376) requesting spindown of
all of its gathering facilities. In May 1996, the FERC issued an order
approving MRT's abandonment of its off-system gathering facilities to NFS and
further declaring such facilities exempt from FERC jurisdiction. In March 1996,
MRT filed a second application (Docket No. CP96- 268), which is now pending,
seeking (1) FERC approval to abandon its remaining gathering facilities by
transfer and sale to NFS and (2) a FERC declaration that these facilities are
exempt from FERC jurisdiction.
Entex was granted annualized rate increases totaling $5.4 million
during 1996. In addition to annual cost-of- service adjustments in three Texas
operating divisions (approximately $0.6 million on an annualized basis),
performance- based rates were approved and implemented in Louisiana
(approximately $2.7 million on an annualized basis, effective in June ) and
Mississippi (approximately $2.1 million on an annualized basis, effective in
October). In both Louisiana and Mississippi, Entex will be allowed to earn a
return on equity ("ROE") within an approved range. Earnings will be monitored
by the public service commissions of the respective states and, while the
provisions in each state differ slightly, to the extent that Entex's ROE falls
below the lower bounds or exceeds the upper bounds of the approved range,
adjustments will be made to either adjust rates upward or refund excess
earnings to customers.
In April 1996, the Minnesota Public Utilities Commission (the "MPUC")
voted to approve Minnegasco's Performance-Based Gas Purchasing Plan (the
"PBR"), effective from September 1, 1995 to June 30, 1998. To the extent that
Minnegasco's actual purchased gas cost is either significantly higher or lower
than specified benchmarks, the PBR will require that Minnegasco and its
customers share in the savings or additional cost, resulting in a maximum
reward or penalty of up to 2% of annual gas cost (e.g. approximately $10
million using Minnegasco's 1996 gas cost) for Minnegasco during any year.
Minnegasco made a compliance filing with the MPUC on November 1, 1996, the
first year of the PBR, which filing was approved for approximately $1 million
in March 1997.
In June 1996, the MPUC issued its order in Minnegasco's August 1995
rate case. The MPUC granted an annual increase of $12.9 million as compared to
the requested increase of $24.3 million. Interim rates reflecting an increase
of $17.8 million had been put into effect in October 1995 subject to refund. As
a part of its decision, the MPUC granted Minnegasco full recovery of its
ongoing net environmental costs through the use of a true-up mechanism whereby
any amounts collected in rates which differ from actual costs incurred, plus
carrying charges, will be deferred for recovery or refund in the next rate
case. Minnegasco requested reconsideration on several issues. Among them were
(1) a request to give effect, in this rate case, to the Minnesota Supreme
Court's (the "Court") recent rulings (see the discussion following), and (2) a
request to deduct from any interim rate refund the additional amount that
Minnegasco would have realized from its 1993 rate case by applying the Court's
ruling to that case, which remained on appeal.
The MPUC decided in Minnegasco's 1993 rate case that (1) Minnegasco's
unregulated appliance sales and service operations are required to pay the
regulated utility operations a fee for the use of Minnegasco's name, image and
reputation ("goodwill") and (2) a portion of the cost of responding to certain
gas leak calls not be allowed in rates. Minnegasco appealed those decisions to
the Court of Appeals. On June 13, 1996, in a case appealed prior to the 1993
rate case, the Court reversed the MPUC's decisions on these two issues, finding
in Minnegasco's favor and, in July, the Court denied the MPUC's request for
rehearing.
In its December 4, 1996 Order After Reconsideration, the MPUC
determined that Minnegasco was entitled to an annual rate increase of $13.3
million as compared to the $12.9 million granted in June 1996. The MPUC decided
that Minnegasco's unregulated appliance sales and service operations should not
pay a fee for goodwill associated with the
<PAGE> 10
Minnegasco name, but refused to allow Minnegasco to recover certain costs
associated with gas leak check calls, and did not approve Minnegasco's request
with respect to the 1993 rate case costs. An appeal related to the 1993 rate
case is pending before the Court of Appeals. Minnegasco requested and, on
February 20, 1997, the MPUC voted to grant a stay of the Commission's order
pending Minnegasco's appeal of the gas leak issue in the 1995 rate case.
Minnegasco is accruing for any necessary interim rate refunds should the Court
deny Minnegasco's appeal.
CHANGE IN ESTIMATED SERVICE LIVES OF CERTAIN ASSETS
Pursuant to an updated study of the useful lives of certain assets, in July
1995, the Company changed the depreciation rates associated with certain of its
natural gas pipeline and gathering assets, see "Interstate Pipelines" and
"Natural Gas Gathering" elsewhere herein. This change had the effect of
increasing the Company's 1995 income before extraordinary item by approximately
$3.2 million ($0.03 per share) and represents an annualized increase of
approximately $6.5 million.
<PAGE> 1
Exhibit 99(B)
NorAm Form 10-Q (First Quarter of 1997)
G. As more fully described in the Company's 1996 Report on Form 10-K, the
Company is currently working with the Minnesota Pollution Control Agency
regarding the remediation of several sites on which gas was manufactured
from the late 1800's to approximately 1960. The Company has made an accrual for
its estimate of the costs of remediation (undiscounted and without regard
to potential third-party recoveries) and, based upon discussions to date and
prior decisions by regulators in the relevant jurisdictions, the Company
continues to believe that it will be allowed substantial recovery of these
costs through its regulated rates.
In addition, the Company has identified sites with possible mercury
contamination based on the type of facilities located on these sites. The
Company has not confirmed the existence of contamination at these sites, nor
has any federal, state or local governmental agency imposed on the Company
an obligation to investigate or remediate existing or potential mercury
contamination. To the extent that any compliance costs are ultimately
identified and quantified, the Company will provide an appropriate
accrual and, to the extent justified based on the circumstances within each of
the Company's regulatory jurisdictions, set up regulatory assets in
anticipation of recovery through the ratemaking process.
On October 24, 1994, the United States Environmental Protection Agency
advised MRT that it had been named a potentially responsible party under
federal law with respect to a landfill site in West Memphis, Arkansas, see
Note H.
On December 18, 1995, the Louisiana Department of Environmental Quality
advised the Company that it had been named a potentially responsible party
under state law with respect to a hazardous substance site in Shreveport,
Louisiana, see Note H.
While the nature of environmental contingencies makes complete evaluation
impractical, the Company is currently aware of no other environmental
matter which could reasonably be expected to have a material impact on its
results of operations, financial position or cash flows.
H. On August 14, 1996, an action styled Shaw vs. NorAm Energy Corp., et
al. was filed in the District Court of Harris County, Texas by a
purported NorAm stockholder against the Company, certain of its
officers and directors and Houston Industries to enjoin the merger between
the Company and Houston Industries (see Note B) or to rescind such merger
and/or to recover damages in the event that the Transaction is
consummated. The complaint alleges, among other things, that the merger
consideration is inadequate, the Company's Board of Directors breached its
fiduciary duties and that Houston Industries aided and abetted such breaches
of fiduciary duties. In addition, the plaintiff seeks certification as a class
action.
The Company believes that the claims are without merit and intends to
vigorously defend against the lawsuit. Management believes that the effect on
the Company's results of operations, financial position or cash flows, if
any, from the disposition of this matter will not be material.
<PAGE> 2
On October 24, 1994, the United States Environmental Protection Agency
advised MRT, a wholly-owned subsidiary of the Company, that MRT, together
with a number of other companies, had been named under federal law as a
potentially responsible party for a landfill site in West Memphis, Arkansas and
may be required to share in the cost of remediation of this site.
However, considering the information currently known about the site and the
involvement of MRT, the Company does not believe that this matter will have a
material adverse effect on the financial position, results of operations or
cash flows of the Company.
On December 18, 1995, the Louisiana Department of Environmental Quality
advised the Company that the Company, through one of its subsidiaries and
together with several other unaffiliated entities, had been named under
state law as a potentially responsible party with respect to a hazardous
substance site in Shreveport, Louisiana and may be required to share in the
remediation cost, if any, of the site. However, considering the information
currently known about the site and the involvement of the Company and its
subsidiaries with respect to the site, the Company does not believe that the
matter will have a material adverse effect on the financial position, results
of operations or cash flows of the Company.
The Company is a party to litigation (other than that specifically noted)
which arises in the normal course of business. Management regularly
analyzes current information and, as necessary, provides accruals for
probable liabilities on the eventual disposition of these matters.
Management believes that the effect on the Company's results of operations,
financial position or cash flows, if any, from the disposition of these
matters will not be material.
*******
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
Regulatory Matters
The FERC accepted NorAm Gas Transmission Company's ("NGT's") 5th annual FERC
Order 528 filing (Docket No. RP97-274) effective April 1, 1997, which
retained the $0.03 per MMBtu commodity surcharge for continued recovery of
75% of eligible take-or-pay costs, to the extent that collection of such
costs is supported by market conditions. The recovery of these costs, which
commenced in 1992, will continue through the year 2002 although, as a
result of the discontinuance of the application of SFAS 71 to NGT as
described in the Company's 1996 Report on Form 10-K, no asset has been
recorded in anticipation of recovery.
On November 1, 1996, both Mississippi River Transmission Corporation ("MRT")
and NGT filed to revise their FERC tariffs, incorporating the Gas Industry
Standards Board standards in compliance with FERC Order 587 (Docket No.
RM96-1). These filings set forth each company's
<PAGE> 3
standard procedures for business practices supporting nominations,
allocations, balancing, measurement, invoicing, capacity release, and
standardization of electronic communications between pipelines and their
customers. Pursuant to a FERC acceptance order, both NGT and MRT revised and
refiled specified sections of these tariffs in February 1997. Further
revisions were made and filed in May 1997 to satisfy a second compliance
order. NGT and MRT also made filings in May 1997 to comply with additional
standards issued in FERC Order 587-C. These standards are effective November
1997, except for the internet standards which are effective August 1997.
In April 1996, MRT filed a FERC Section 4 rate case (Docket No.RP96-199)
pursuant to the settlement entered into in MRT's last rate case
(Docket No. RP93-4). MRT's proposed tariff rates would increase revenues
derived from jurisdictional service by $14.7 million annually. Motion rates,
subject to refund, were implemented October 1, 1996. As a result of a
prehearing conference in December 1996, another procedural schedule was
established, setting a hearing date of July 29, 1997. On April 30, 1997, MRT
filed its rebuttal testimony which revised the increase in revenue from $14.7
million to $9.9 million.
The Oklahoma Corporation Commission has initiated a rulemaking
proceeding on the unbundling of gas utility services and the restructuring of
the gas industry. The rules will be developed by the parties to the
proceeding throughout the remainder of 1997, with Oklahoma legislative
approval and subsequent implementation scheduled to occur by the summer of
1998. Arkla and NGT are participating in this proceeding but, as yet, it
is unclear what the final rules will contain or what degree of financial
impact, if any, there will be on the Company.
************
Part II. Other Information
Item 1. Legal Proceedings
On August 14, 1996, an action styled Shaw vs. NorAm Energy Corp., et al. was
filed in the District Court of Harris County, Texas by a purported NorAm
stockholder against the Company, certain of its officers and directors
and Houston Industries to enjoin the merger between the Company and
Houston Industries (see Note B) or to rescind such merger and/or to recover
damages in the event that the Transaction is consummated. The complaint
alleges, among other things, that the merger consideration is inadequate, the
Company's Board of Directors breached its fiduciary duties and that Houston
Industries aided and abetted such breaches of fiduciary duties. In addition,
the plaintiff seeks certification as a class action. The Company believes
that the claims are without merit and intends to vigorously defend against
the lawsuit. Management believes that the effect on the Company's results
of operations, financial position or cash flows, if any, from the disposition
of this matter will not be material.
On October 24, 1994, the United States Environmental Protection Agency advised
MRT, a wholly-owned subsidiary of the Company, that MRT, together with a number
of other companies, had been named under federal law as a potentially
responsible party for a landfill site in West
<PAGE> 4
Memphis, Arkansas and may be required to share in the cost of remediation of
this site. However, considering the information currently known about the
site and the involvement of MRT, the Company does not believe that this matter
will have a material adverse effect on the financial position, results of
operations or cash flows of the Company.
On December 18, 1995, the Louisiana Department of Environmental Quality advised
the Company that the Company, through one of its subsidiaries and
together with several other unaffiliated entities, had been named under
state law as a potentially responsible party with respect to a hazardous
substance site in Shreveport, Louisiana and may be required to share in the
remediation cost, if any, of the site. However, considering the information
currently known about the site and the involvement of the Company and its
subsidiaries with respect to the site, the Company does not believe that
the matter will have a material adverse effect on the financial position,
results of operations or cash flows of the Company.
The Company is a party to litigation (other than that specifically noted) which
arises in the normal course of business. Management regularly analyzes current
information and, as necessary, provides accruals for probable liabilities on
the eventual disposition of these matters. Management believes that the effect
on the Company's results of operations, financial position or cash flows, if
any, from the disposition of these matters will not be material.
<PAGE> 1
EXHIBIT 99 (C)
K. As more fully described in the Company's 1996 Report on Form 10-K, the
Company is currently working with the Minnesota Pollution Control Agency
regarding the remediation of several sites on which gas was manufactured from
the late 1800's to approximately 1960. The Company has made an accrual for its
estimate of the costs of remediation (undiscounted and without regard to
potential third-party recoveries) and, based upon discussions to date and prior
decisions by regulators in the relevant jurisdictions, the Company continues to
believe that it will be allowed substantial recovery of these costs through its
regulated rates.
In addition, the Company has identified sites with possible mercury
contamination based on the type of facilities located on these sites. The
Company has not confirmed the existence of contamination at these sites, nor
has any federal, state or local governmental agency imposed on the Company an
obligation to investigate or remediate existing or potential mercury
contamination. To the extent that any compliance costs are ultimately
identified and quantified, the Company will provide an appropriate accrual and,
to the extent justified based on the circumstances within each of the Company's
regulatory jurisdictions, set up regulatory assets in anticipation of recovery
through the ratemaking process.
On June 18, 1997, the Mississippi Department of Environmental Quality advised
the Company that the Company, through its Entex Distribution Division, had been
identified as a potentially responsible party at a former manufactured gas
plant site in Biloxi, Mississippi, see Note L.
On October 24, 1994, the United States Environmental Protection Agency advised
MRT that it had been named a potentially responsible party under federal law
with respect to a landfill site in West Memphis, Arkansas, see Note L.
On December 18, 1995, the Louisiana Department of Environmental Quality advised
the Company that it had been named a potentially responsible party under state
law with respect to a hazardous substance site in Shreveport, Louisiana, see
Note L.
While the nature of environmental contingencies makes complete evaluation
impractical, the Company is currently aware of no other environmental matter
which could reasonably be expected to have a material impact on its results of
operations, financial position or cash flows.
L. On June 18, 1997, the Mississippi Department of Environmental Quality
advised the Company that the Company, through its Entex Distribution Division,
had been identified as a potentially responsible party at a former manufactured
gas plant site in Biloxi, Mississippi. Considering the information currently
known about the site, the Company does not believe that the matter will have a
material adverse effect on the financial position, results of operations or
cash flows of the Company.
On August 14, 1996, an action styled Shaw vs. NorAm Energy Corp., et al. was
filed in the District Court of Harris County, Texas by a purported NorAm
stockholder against the Company, certain of its officers and directors and HI
to enjoin the merger between the Company and HI (see Note B) or to rescind such
merger and/or to recover damages in the event that the HI merger transaction is
consummated. The complaint alleges, among other things, that the merger
consideration is inadequate, the Company's Board of Directors breached its
fiduciary duties and that HI aided and abetted such breaches of fiduciary
duties. In addition, the plaintiff seeks certification as a class action. The
Company believes that the claims are without merit and intends to vigorously
defend against the lawsuit. Management believes that the effect on the
Company's results of operations, financial position or cash flows, if any, from
the disposition of this matter will not be material.
On October 24, 1994, the United States Environmental Protection Agency advised
MRT, a wholly-
<PAGE> 2
owned subsidiary of the Company, that MRT, together with a number of other
companies,had been named under federal law as a potentially responsible party
for a landfill site in West Memphis, Arkansas and may be required to share in
the cost of remediation of this site. However, considering the information
currently known about the site and the involvement of MRT, the Company does not
believe that this matter will have a material adverse effect on the financial
position, results of operations or cash flows of the Company.
On December 18, 1995, the Louisiana Department of Environmental Quality advised
the Company that the Company, through one of its subsidiaries and together with
several other unaffiliated entities, had been named under state law as a
potentially responsible party with respect to a hazardous substance site in
Shreveport, Louisiana and may be required to share in the remediation cost, if
any, of the site. However, considering the information currently known about
the site and the involvement of the Company and its subsidiaries with respect
to the site, the Company does not believe that the matter will have a material
adverse effect on the financial position, results of operations or cash flows
of the Company.
The Company is a party to litigation (other than that specifically noted) which
arises in the normal course of business. Management regularly analyzes current
information and, as necessary, provides accruals for probable liabilities on
the eventual disposition of these matters. Management believes that the effect
on the Company's results of operations, financial position or cash flows, if
any, from the disposition of these matters will not be material.
<PAGE> 3
Regulatory Matters
In August 1995, Minnegasco filed a rate case requesting an annual increase of
$24.3 million. In December 1996, the Minnesota Public Utilities Commission
("the MPUC") granted Minnegasco an annual rate increase of $13.3 million
compared to the $17.8 million that had been put into effect in October 1995 as
an interim rate increase, subject to refund. Consistent with the Minnesota
Supreme Court's decision in June 1996, the MPUC decided that Minnegasco's
unregulated appliance sales and service operations were not required to pay a
fee for goodwill associated with its usage of the Minnegasco name, even though
the MPUC had imputed revenues associated with such goodwill in Minnegasco's
1993 rate case. The MPUC did not, however, allow Minnegasco to recover certain
gas leak costs in rates. The MPUC interim rate order was stayed pending appeal
of the 1995 rate case gas leak cost issue.
On July 3, 1997, the Minnesota Supreme Court ruled that Minnegasco was entitled
to recover an amount equal to the goodwill revenues imputed as a result of the
1993 rate case. On July 29, 1997, the Minnesota Court of Appeals ruled that,
in Minnegasco's 1995 rate case, the MPUC must give effect to the Minnesota
Supreme Court's decision that the cost of gas leak checks be included in rates.
The Court of Appeals remanded the case to the MPUC for further proceedings in
accordance with its decision. Minnegasco anticipates filing a motion in early
August to reaffirm the 1995 rate case settlement, increased by an amount equal
to the annual costs of performing gas leak checks. Minnegasco will ask the
MPUC to reduce the 1995 interim rate refund for the gas leak costs from October
1995 through the date of the final Commission Order, as well as the imputed
goodwill revenues from the 1993 rate case.
In April 1996, Mississippi River Transmission Corporation ("MRT") filed a
Federal Energy Regulatory Commission ("the FERC") Section 4 rate case (Docket
No. RP96-199) pursuant to the settlement entered into in MRT's last rate case
(Docket No. RP93-4). MRT's proposed tariff rates would increase revenues
derived from jurisdictional services by $14.7 million annually. Motion rates,
subject to refund, were implemented October 1, 1996. A tentative agreement has
been reached among all parties and a settlement stipulation and agreement was
filed on July 25, 1997. The procedural schedule has been suspended pending
FERC approval of the stipulation and agreement.
<PAGE> 4
Item 1. Legal Proceedings
On June 18, 1997, the Mississippi Department of Environmental Quality advised
the Company that the Company, through its Entex Distribution Division, had been
identified as a potentially responsible party at a former manufactured gas
plant site in Biloxi, Mississippi. Considering the information currently known
about the site, the Company does not believe that the matter will have a
material adverse effect on the financial position, results of operations or
cash flows of the Company.
On August 14, 1996, an action styled Shaw vs. NorAm Energy Corp., et al. was
filed in the District Court of Harris County, Texas by a purported NorAm
stockholder against the Company, certain of its officers and directors and
Houston Industries Incorporated ("HI") to enjoin the merger between the Company
and HI (see "Merger with Houston Industries Incorporated" under "Recent
Developments" elsewhere herein) or to rescind such merger and/or to recover
damages in the event that the merger transaction is consummated. The complaint
alleges, among other things, that the merger consideration is inadequate, the
Company's Board of Directors breached its fiduciary duties and that HI aided
and abetted such breaches of fiduciary duties. In addition, the plaintiff
seeks certification as a class action. The Company believes that the claims
are without merit and intends to vigorously defend against the lawsuit.
Management believes that the effect on the Company's results of operations,
financial position or cash flows, if any, from the disposition of this matter
will not be material.
On October 24, 1994, the United States Environmental Protection Agency advised
MRT, a wholly-owned subsidiary of the Company, that MRT, together with a number
of other companies, had been named under federal law as a potentially
responsible party for a landfill site in West Memphis, Arkansas and may be
required to share in the cost of remediation of this site. However,
considering the information currently known about the site and the involvement
of MRT, the Company does not believe that this matter will have a material
adverse effect on the financial position, results of operations or cash flows
of the Company.
On December 18, 1995, the Louisiana Department of Environmental Quality advised
the Company that the Company, through one of its subsidiaries and together with
several other unaffiliated entities, had been named under state law as a
potentially responsible party with respect to a hazardous substance site in
Shreveport, Louisiana and may be required to share in the remediation cost, if
any, of the site. However, considering the information currently known about
the site and the involvement of the Company and its subsidiaries with respect
to the site, the Company does not believe that the matter will have a material
adverse effect on the financial position, results of operations or cash flows
of the Company.
The Company is a party to litigation (other than that specifically noted) which
arises in the normal course of business. Management regularly analyzes current
information and, as necessary, provides accruals for probable liabilities on
the eventual disposition of these matters. Management believes that the effect
on the Company's results of operations, financial position or cash flows, if
any, from the disposition of these matters will not be material.
