UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Form 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
--- SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
OR
___ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-14161
KEYSPAN CORPORATION
(Exact name of Registrant as specified in its charter)
New York 11-3431358
- ------------------------------------- ---------------------
(State or other (I.R.S. Employer
jurisdiction of incorporation or organization) Identification No.)
175 East Old Country Road, Hicksville, New York 11801
One MetroTech Center, Brooklyn, New York 11201
- ------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(516) 755-6650 (Hicksville)
(718) 403-1000 (Brooklyn)
(Registrant's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
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
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class of Common Stock Outstanding at October 20, 1999
-------------------------------------------------------------
$.01 par value 133,866,077
<PAGE>
KEYSPAN CORPORATION AND SUBSIDIARIES
INDEX
Part I. FINANCIAL INFORMATION Page No.
---------
Item 1. Financial Statements
Condensed Consolidated Balance Sheet -
September 30, 1999 and December 31, 1998 3
Condensed Consolidated Statement of Income -
Three and Nine Months Ended September 30,
1999 and 1998 5
Condensed Consolidated Statement of Cash Flows -
Three and Nine Months Ended September 30,
1999 and 1998 6
Notes to Condensed Consolidated Financial
Statements 7
Item 2. Management's Discussion and Analysis Of Financial
Condition and Results of Operations 21
Item 3. Quantitative and Qualitative Disclosures
About Market Risk 40
Part II. OTHER INFORMATION
Item 1 - Legal Proceedings 41
Item 6 - Exhibits and Reports on Form 8-K 44
Signatures 45
<PAGE>
<TABLE>
<CAPTION>
CONDENSED CONSOLIDATED BALANCE SHEET
(IN THOUSANDS OF DOLLARS)
September 30, December 31,
1999 1998
----------------- ----------------
(Unaudited) (Audited)
ASSETS
CURRENT ASSETS
<S> <C> <C>
Cash and temporary cash investments $ 129,899 $ 942,776
Customer accounts receivable 174,865 320,836
Other accounts receivable 200,519 230,479
Allowance for uncollectible accounts (23,300) (20,026)
Special deposits 90,634 145,684
Gas in storage, at average cost 163,318 145,277
Materials and supplies, at average cost 74,948 74,193
Other 182,096 72,818
----------------- ----------------
992,979 1,912,037
----------------- ----------------
EQUITY INVESTMENTS 325,929 289,193
----------------- ----------------
PROPERTY
Electric 1,337,563 1,109,199
Gas 3,373,802 3,257,726
Other 368,235 345,007
Accumulated depreciation (1,563,592) (1,480,038)
Gas exploration and production, at cost 1,096,583 994,104
Accumulated depletion (500,154) (447,733)
----------------- ----------------
4,112,437 3,778,265
----------------- ----------------
DEFERRED CHARGES
Regulatory assets 313,837 279,524
Goodwill 251,023 254,040
Other 361,675 382,043
----------------- ----------------
926,535 915,607
----------------- ----------------
TOTAL ASSETS $ 6,357,880 $ 6,895,102
================= ================
</TABLE>
See accompanying notes to the Condensed Consolidated Financial Statements.
<PAGE>
<TABLE>
<CAPTION>
CONDENSED CONSOLIDATED BALANCE SHEET
(IN THOUSANDS OF DOLLARS)
September 30, December 31,
1999 1998
----------------- ----------------
(Unaudited) (Audited)
LIABILITIES AND CAPITALIZATION
CURRENT LIABILITIES
<S> <C> <C>
Current maturities of long-term debt $ 1,000 $ 398,000
Current redemption of preferred stock 363,000 -
Accounts payable and accrued expenses 451,845 519,288
Notes payable 103,950 -
Dividends payable 61,461 66,232
Taxes accrued 6,079 69,742
Customer deposits 32,021 29,774
Interest accrued 8,918 19,965
----------------- ----------------
1,028,274 1,103,001
----------------- ----------------
DEFERRED CREDITS AND OTHER LIABILITIES
Regulatory liabilities 29,129 27,854
Deferred federal income tax 197,978 71,549
Operating reserves 494,681 457,459
Other 82,815 75,740
----------------- ----------------
804,603 632,602
----------------- ----------------
CAPITALIZATION
Common stock, $.01 par value, authorized
450,000,000 shares; outstanding 134,214,473
and 144,628,654 shares stated at 2,973,388 2,973,388
Retained Earnings 438,896 474,188
Accumulated foreign currency adjustment 2,502 (952)
Treasury stock purchased (712,888) (423,716)
----------------- ----------------
Total common equity 2,701,898 3,022,908
Preferred stock 84,359 447,973
Long-term debt 1,663,040 1,619,067
----------------- ----------------
TOTAL CAPITALIZATION 4,449,297 5,089,948
----------------- ----------------
MINORITY INTEREST IN SUBSIDIARY COMPANY 75,706 69,551
----------------- ----------------
TOTAL LIABILITIES AND CAPITALIZATION $ 6,357,880 $ 6,895,102
================= ================
</TABLE>
See accompanying notes to the Condensed Consolidated Financial Statements.
<PAGE>
<TABLE>
<CAPTION>
CONDENSED CONSOLIDATED STATEMENT OF INCOME
(Unaudited)
(IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
Three Months Ended Nine Months Ended
September 30, September 30,
1999 1998 1999 1998
--------- ---------- ---------- ---------
REVENUES
<S> <C> <C> <C> <C>
Gas Distribution $ 208,572 $ 203,241 $ 1,208,254 $ 629,516
Gas Exploration and Production 42,081 30,545 103,622 42,258
Electric Services 241,259 176,358 606,552 244,723
Electric Distribution - - - 885,693
Energy Related Services 46,557 24,437 124,675 30,823
--------- ---------- ---------- ---------
Total Revenues 538,469 434,581 2,043,103 1,833,013
--------- ---------- ---------- ---------
OPERATING EXPENSES
Purchased gas 62,560 56,305 470,633 247,895
Fuel and purchased power - - - 257,786
Operations and maintenance 298,679 259,895 793,197 581,474
Depreciation, depletion and amortization 63,130 59,202 180,698 147,401
Electric regulatory amortizations - - - (79,875)
Operating taxes 77,317 77,824 258,355 292,704
--------- ---------- ---------- ---------
Total Operating Expenses 501,686 453,226 1,702,883 1,447,385
--------- ---------- ---------- ---------
OPERATING INCOME 36,783 (18,645) 340,220 385,628
--------- ---------- ---------- ---------
OTHER INCOME AND (DEDUCTIONS)
Income from equity investments 4,268 3,315 9,749 3,108
Interest income 1,884 24,769 20,673 41,378
Minority interest (3,035) (750) (5,226) 4 (1,318)
Other 1,317 450 3,183 7,837
--------- ---------- ---------- ---------
Total Other Income 4,434 27,824 28,379 51,005
--------- ---------- ---------- ---------
INCOME BEFORE INTEREST CHARGES AND INCOME TAXES 41,217 9,179 368,599 436,633
--------- ---------- ---------- ---------
INTEREST CHARGES 26,661 30,945 95,001 207,797
--------- ---------- ---------- ---------
INCOME TAXES
Current (23,111) (9,853) (14,886) 133,904
Deferred 28,651 5,743 113,258 (40,601)
--------- ---------- ---------- ---------
Total Income Taxes 5,540 (4,110) 98,372 93,303
--------- ---------- ---------- ---------
NET INCOME 9,016 (17,656) 175,226 135,533
Preferred stock dividend requirements 8,688 8,694 26,067 32,857
--------- ---------- ---------- ---------
EARNINGS FOR COMMON STOCK $ 328 $ (26,350) $ 149,159 $ 102,676
Foreign Currency Adjustment (2,281) 860 3,454 (569)
========= ========== ========== =========
COMPREHENSIVE INCOME $ (1,953) $ (25,490) $ 152,613 $ 102,107
========= ========== ========== =========
AVERAGE COMMON SHARES OUTSTANDING (000) 136,506 157,328 140,079 137,720
BASIC AND DILUTED EARNINGS PER COMMON SHARE $ 0.00 $ (0.17) $ 1.06 $ 0.75
========= ========== ========== =========
</TABLE>
See accompanying notes to the Condensed Consolidated Financial Statements.
<PAGE>
<TABLE>
<CAPTION>
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
(IN THOUSANDS OF DOLLARS)
THREE Three NINE
MONTHS Months MONTHS Nine Months
ENDED Ended ENDED Ended
SEPTEMBER September SEPTEMBER September
30, 1999 30, 1998 30, 1999 30, 1998
------------- ------------- ------------ -------------
OPERATING ACTIVITIES
<S> <C> <C> <C> <C>
Net Income $ 9,016 $ (17,656) $ 175,226 $ 135,533
ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH
PROVIDED BY (USED IN) OPERATING ACTIVITIES
Depreciation, depletion and amortization
Electric regulatory amortizations 63,130 59,202 180,698 147,401
Deferred income tax - - - (79,875)
Income from equity investments 28,651 5,743 113,258 (40,601)
Dividends from equity investments (4,268) (3,315) (9,749) (3,108)
CHANGES IN ASSETS AND LIABILITIES 2,079 2,078 6,375 2,078
Accounts receivable
Materials and supplies, fuel oil and gas in 9,141 58,973 155,538 141,068
storage (67,249) (52,244) (18,997) 14,614
Accounts payable and accrued expenses 17,207 17,973 (143,858) (71,679)
Interest accrued (6,403) (20,741) (11,050) 35,565
Special deposits 17,743 (101,311) 55,050 (63,723)
Pensions and other post retirement benefits - - - (283,774)
Other (25,911) (75,546) (59,437) (173,344)
----------- ---------- ----------- ----------
Net Cash Provided by (Used in) Operating
Activities 43,136 (126,844) 443,054 (239,845)
----------- ---------- ----------- ----------
INVESTING ACTIVITIES
Capital expenditures (138,307) (114,153) (512,257) (270,088)
Net cash from KeySpan Acquisition - - - 165,168
Net proceeds from LIPA Transaction - - - 2,314,588
Other 21,222 (4,098) 10,015 (21,777)
----------- ---------- ----------- ----------
Net Cash (Used in) Provided by Investing
Activities (117,085) (118,251) (502,242) 2,187,891
----------- ---------- ----------- ----------
FINANCING ACTIVITIES
Proceeds from sale of common stock - 6,536 - 17,604
Treasury stock purchased (166,440) (101,483) (289,172) (101,483)
Issuance of preferred stock - - - 75,000
Notes payable 103,950 - 103,950 -
Issuance of long-term debt 25,523 3,000 40,523 3,000
Payment of long-term debt - - (397,000) (100,000)
Preferred stock dividends paid (8,688) (8,682) (26,067) (34,555)
Common stock dividends paid (57,692) (69,081) (185,375) (213,466)
Other (100) 32 (548) (17,265)
----------- ---------- ----------- ----------
Net Cash (Used in) Financing Activities (103,447) (169,678) (753,689) (371,165)
----------- ---------- ----------- ----------
Net (Decrease) or Increase in Cash and Cash
Equivalents (177,396) (414,773) (812,877) 1,576,881
=========== ========== =========== ==========
Cash and cash equivalents at beginning of period 307,295 2,171,649 942,776 179,995
Net (Decrease or Increase in cash and cash
equivalents $ (177,396) $ (414,773) $ (812,877) $ 1,576,881
----------- ---------- ----------- ----------
Cash and Cash Equivalents at End of Period $ 129,899 $ 1,756,876 $ 129,899 $ 1,756,876
=========== ========== =========== ==========
</TABLE>
See accompanying notes to the Condensed Consolidated Financial Statements.
<PAGE>
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION OF THE COMPANY
KeySpan Corporation, d/b/a KeySpan Energy (the "Company"), a New York
corporation, is the successor to Long Island Lighting Company ("LILCO"), as
a result of the transaction with the Long Island Power Authority
("LIPA")and following the acquisition of KeySpan Energy Corporation
("KSE"). The Company is a "predominately intrastate" public utility holding
company exempt from most of the provisions of the Public Utility Holding
Company Act of 1935, as amended.
On May 28, 1998, the Company completed two business combinations as a
result of which it (i) became the successor operator of the non-nuclear
electric generating facilities, gas distribution operations and common
plant formerly owned by LILCO and entered into long-term service agreements
to operate the electric transmission and distribution ("T&D") system
acquired by LIPA (the "LIPA Transaction"); and (ii) acquired KSE, the
parent company of The Brooklyn Union Gas Company ("Brooklyn Union")(the
"KeySpan Acquisition").
With the exception of a small portion of Queens County, the Company's
subsidiaries are the only providers of gas distribution services in the New
York City counties of Kings, Richmond and Queens and the Long Island
counties of Nassau and Suffolk. Brooklyn Union provides gas distribution
services to customers in the New York City boroughs of Brooklyn, Queens and
Staten Island, and KeySpan Gas East Corporation d/b/a Brooklyn Union of
Long Island ("Brooklyn Union of Long Island"), a Company subsidiary,
provides gas distribution services to customers in the Long Island counties
of Nassau and Suffolk and the Rockaway Peninsula of Queens County.
In addition, Company subsidiaries operate the electric T&D system owned by
LIPA, own and sell capacity and energy to LIPA from the Company's
generating facilities located on Long Island and manage fuel supplies for
LIPA to fuel the Company's Long Island generating facilities through
long-term service contracts that range from eight to fifteen years.
Moreover, Company subsidiaries own, lease and operate the 2,168 megawatt
Ravenswood electric generation facility, ("Ravenswood Facility") located in
Long Island City, Queens. (See Note 10 "Contractual Obligations and
Contingencies" for a description of the Ravenswood transaction.)
Other Company subsidiaries are involved in gas and oil exploration and
production; wholesale and retail gas and electric marketing; appliance,
heating, ventilation and air conditioning services; large energy-system
ownership, installation and management; and electric infrastructure
construction. Further, certain subsidiaries have investments in natural gas
pipelines and gas distribution facilities; midstream natural gas processing
and gathering facilities and gas storage facilities, domestically and
internationally. (See Note 9 "Business Segments" for additional
information.)
2. BASIS OF PRESENTATION
The financial statements presented herein reflect the results of operations
of the consolidated Company for the three and nine months ended September
30, 1999, as well as for the three months ended September 30, 1998. For
financial reporting purposes, LILCO is deemed the acquiring company
pursuant to a purchase accounting transaction in which KSE was acquired.
Consequently, the financial statements presented herein for the nine months
ended September 30, 1998 reflect the results of operations of the
consolidated Company from May 29, 1998 through September 30, 1998. Periods
prior to May 29, 1998, (i.e., January 1, 1998 through May 28, 1998)reflect
results of operations of LILCO only. Since the acquisition of KSE was
accounted for as a purchase, purchase accounting adjustments, including
goodwill, have been reflected in the financial statements included herein.
In the opinion of the Company, the accompanying unaudited Condensed
Consolidated Financial Statements contain all adjustments necessary to
present fairly the financial position of the Company as of September 30,
1999, and the results of its operations and cash flows for the three and
nine months ended September 30, 1999 and 1998. Certain reclassifications
were made to conform prior period financial statements with the current
period financial statement presentation. Other than as noted, adjustments
were of a normal, recurring nature.
3. REVENUES
The Gas Distribution segment of the Company is influenced by seasonal
weather conditions. Annual gas revenues are substantially realized during
the heating season (November 1 to April 30) as a result of the large
proportion of heating sales, primarily residential, compared with total
sales. Accordingly, results of operations for gas distribution operations
historically are most favorable in the three months ended March 31, with
results of operations being next most favorable in the three months ended
December 31. Results for the quarter ended June 30 are marginally
profitable or unprofitable, and losses are generally incurred in the
quarter ended September 30.
The Company's gas distribution subsidiaries each operate under a utility
tariff that contains a weather normalization adjustment that largely
offsets shortfalls or excesses of firm net revenues (i.e., revenues less
gas costs and revenue taxes) during a heating season due to variations from
normal weather.
Electric Services revenues are derived from billings to LIPA for the
management and operation of LIPA's T&D system, electric generation, and
fuel management. (For a description of the various services agreements with
LIPA, see the Company's Annual Report on Form 10-K for the transition
period ended December 31, 1998.) In addition, electric revenues also
include revenues from the Ravenswood Facility from June 18, 1999 to
September 30, 1999. Revenues from electric generation generally are
unaffected by weather variations since virtually all costs of production
are recovered in fixed fee billings to LIPA and Con Edison, the Company's
electric generation customers.
Prior to the LIPA Transaction, electric revenues were comprised of cycle
billings rendered to residential, commercial and industrial customers and
the accrual of electric revenues for services rendered to customers not
billed at month-end. In addition, LILCO's rate structure provided for a
revenue reconciliation mechanism which eliminated the impact on earnings of
electric sales that were above or below the levels reflected in rates.
4. GAS EXPLORATION AND PRODUCTION
The Houston Exploration Company ("THEC"), a 64% owned subsidiary of the
Company which is engaged in gas and oil exploration and production, uses
the full cost method of accounting for its investment in natural gas and
oil properties. Under the full cost method of accounting, all costs of
acquisition, exploration and development of natural gas and oil reserves
are capitalized into a "full cost pool". To the extent that such
capitalized costs (net of accumulated depreciation, depletion and
amortization) less deferred taxes, exceed the present value (using a 10%
discount rate) of estimated future net cash flows from proved natural gas
and oil reserves and the lower of cost or fair value of unproved
properties, such excess costs are charged to operations.
As of September 30, 1999, THEC estimates, using prices in effect as of such
date, that the ceiling limitation imposed under full cost accounting rules
exceeded actual capitalized costs.
5. GOODWILL
At September 30, 1999, the Company had recorded goodwill in the amount of
$251.0 million, representing the excess of acquisition cost over the fair
value of net assets acquired related to its purchases of certain
investments, including $165.2 million, net of accumulated amortization of
$5.7 million, relating to the KeySpan Acquisition.
Goodwill is being amortized over 15 to 40 years.
6. ENVIRONMENTAL MATTERS
The Company has recorded a liability of approximately $125.2 million
associated with investigation and remedial obligations with respect to 14
of the Company's former manufactured gas plant ("MGP")sites, three of which
are designated as "Class II Sites." Three MGP sites (one Class II Site) are
associated with Brooklyn Union's operations or its predecessors; 11 MGP
sites are associated with the operations of Brooklyn Union of Long Island
or its predecessors (two of which are designated as Class II Sites). With
respect to the Brooklyn Union MGP sites, a total of $47.3 million has been
accrued, representing the best estimate of remedial costs for two sites
that are subject to Administrative Orders on Consent ("AOC's") with the New
York State Department of Environmental Conservation ("DEC") and the minimum
range of an estimate for the investigation and/or remediation of other
sites. Discussions with the DEC are ongoing with regards to investigation
of other sites. With respect to Brooklyn Union of Long Island MGP sites, a
total of $77.9 million has been accrued as a minimum of an estimated range
of costs for the 11 sites that will be investigated/remediated. Two AOC's
were executed on March 31, 1999 for Brooklyn Union of Long Island MGP
sites. One AOC addressed two MGP sites classified as Class II Sites on the
State registry of inactive hazardous waste sites. The other AOC addressed
four other MGP sites. Both AOC's generally require Brooklyn Union of Long
Island to investigate the condition of each site and conduct remediation
activities depending on the results of the investigation. Brooklyn Union of
Long Island also has entered into an AOC with the DEC requiring the Company
to conduct preliminary site assessments for the five other former MGP sites
that are no longer owned by the Company.
Under prior rate orders, the Public Service Commission of the State of New
York ("NYPSC") has allowed recovery of costs related to certain Brooklyn
Union MGP sites. At September 30, 1999, the Company has a total remaining
regulatory asset of approximately $100 million. The Company believes that
current rate plans in effect for both Gas Distribution subsidiaries provide
for recovery of environmental costs attributable to the Gas Distribution
segment.
7. REGULATORY ASSETS AND LIABILITIES
The Company's regulated subsidiaries are subject to the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 71, "Accounting
for the Effects of Certain Types of Regulation". Regulatory assets arise
from the allocation of costs and revenues to accounting periods for utility
ratemaking purposes differently from bases generally applied by
nonregulated companies. Regulatory assets and liabilities are recognized in
accordance with SFAS-71.
The Company's regulatory assets of $313.8 million are primarily comprised
of regulatory tax assets, costs associated with the KeySpan Acquisition,
certain environmental remediation and investigation costs and
postretirement benefits other than pensions. In the opinion of management,
regulatory assets are fully recoverable in rates.
In the event that the provisions of SFAS-71 were no longer applicable, the
Company estimates that the related write-off of net regulatory assets
(regulatory assets less regulatory liabilities) could result in a charge to
net income of approximately $185.1 million, or approximately $1.36 per
share of common stock, which would be classified as an extraordinary item.
<PAGE>
8. EXTINGUISHMENT OF LONG-TERM DEBT AND FINANCING
In June 1999, the Company extinguished its obligation under a promissory
note to LIPA relating to the 7.30% Debentures due July 15, 1999. The
Company's obligation for these debentures of $411.5 million consisted of
the principal amount of $397.0 million and $14.5 million of interest
accrued and unpaid.
At September 30, 1999, the Company had available unsecured bank lines of
credit of $300 million. Borrowings were made during the month of September
1999. The average outstanding daily balance during the month was $40.2
million at a weighted average annualized rate of 5.52%. At September 30,
1999, the Company had $103.9 million in short-term borrowings outstanding
at a weighted average annualized rate of 5.83%.
9. BUSINESS SEGMENTS
The Company has six reportable segments: Gas Distribution, Gas Exploration
and Production, Electric Services, Energy Related Investments, Energy
Related Services and Other.
The Gas Distribution segment consists of Brooklyn Union and Brooklyn Union
of Long Island, providers of gas distribution services in the New York City
counties of Kings, Richmond and Queens and the Long Island counties of
Nassau and Suffolk.
The Gas Exploration and Production segment is engaged in gas and oil
exploration and production, and the development and acquisition of domestic
natural gas and oil properties. This segment consists of our 64% equity
interest in THEC, an independent natural gas and oil exploration company,
as well as KeySpan Exploration and Production LLC, our wholly owned
subsidiary engaged in a joint venture with THEC. The Company is currently
reviewing its strategic alternatives for THEC, which may include the sale
of all or a portion of THEC. (See Management's Discussion and Analysis of
Financial Condition and Results of Operations, "Capital Requirements" for
further information.)
The Electric Services segment consists of subsidiaries that own and operate
oil and gas fired generating plants in Queens and Long Island, and through
long-term contracts, manage the electric T&D system, the fuel and electric
purchases, and the off-system electric sales for LIPA. In addition a
subsidiary provides services in electric infrastructure construction to
Company affiliates and to third parties.
Subsidiaries in the Energy Related Investments segment include a 20% equity
interest in the Iroquois Gas Transmission System LP; a 50% interest in the
Premier Transco Pipeline and a 24.5% interest in Phoenix Natural Gas, both
in Northern Ireland; and investments in certain midstream natural gas
assets in Western Canada owned jointly with Gulf Canada Resources Limited,
through the Gulf Midstream Services Partnership ("GMS"). These subsidiaries
are accounted for under the equity method since the Company's ownership
interests are 50% or less. Accordingly, equity income from these
investments is reflected in Other Income and (Deductions) in the Condensed
Consolidated Income Statement.
The Company's Energy Related Services segment primarily includes KeySpan
Energy Management Inc. ("KEM"), KeySpan Energy Services Inc. ("KES"),
KeySpan Communications Corporation, KeySpan Energy Solutions, LLC
("KESol"), Fritze KeySpan, LLC ("Fritze"), and Delta KeySpan Inc.
("Delta"). KEM owns, designs and/or operates energy systems for commercial
and industrial customers and provides energy-related services to clients
located primarily within the New York City metropolitan area. KES markets
gas and electricity, and arranges transportation and related services,
largely to retail customers, including those served by the Company's two
gas distribution subsidiaries. KeySpan Communications Corporation owns a
300-mile fiber optic network on Long Island and in New York City. KESol,
Fritze and Delta provide various appliance, heating, ventilation and air
conditioning services to customers within the Company's service territory,
New Jersey and Rhode Island. KESol was established in April 1998, Fritze
was acquired in November 1998 and Delta was acquired in September 1999.
The Other segment primarily represents unallocated administrative expenses
of the Company, preferred stock dividends, and earnings from the investment
of cash proceeds from the LIPA Transaction.
The accounting policies of the segments are the same as those used for the
preparation of the Condensed Consolidated Financial Statements. The
Company's segments are strategic business units that are managed separately
because of their different operating and regulatory environments. At
September 30, 1999, the total assets of certain reportable segments have
increased from levels reported at December 31, 1998 as follows: the Gas
Exploration and Production segment's assets increased by $14.5 million due
to our formation of and investment in KeySpan Exploration and Production
LLC; the Electric Services segment's assets increased by $230.0 million due
to the acquisition of the Ravenswood Facility (see Note 10 "Contractual
Obligations and Contingencies" for more details), and $4.9 million due to
the formation of KeySpan Energy Construction; the Energy Related
Investments segment's assets increased by $7.4 million due to the
acquisition by GMS of 37% of Paddle River Gas Plant; and the assets of the
Energy Related Services segment increased by $21.2 million due to the
acquisition of Delta Mechanical of New England, Inc., a heating,
ventilation and air conditioning company in Rhode Island. (See Management's
Discussion and Analysis of Financial Condition and Results of Operations,
"Capital Requirements" for further information on these acquisitions.) The
segment information presented below reflects amounts reported in the
Condensed Consolidated Financial Statements, excluding special charges, for
the three and nine months ended September 30, 1999 and 1998.
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended September 30, 1999 (In Thousands of Dollars)
- ------------------------------------------------------------------------------------------------------------------------------------
Gas Gas Exploration Electric Services Energy Related Energy Related
Distribution and Production Investments Services Other Total
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue $208,572 $ 42,081 $241,259 $ - $ 46,557 $ - $ 538,469
- ------------------------------------------------------------------------------------------------------------------------------------
Cost of Gas 62,560 - - - - - 62,560
Operations
and
Maintenance 106,101 7,532 131,403 1,276 45,325 7,042 298,679
Depreciation
Depletion
&
Amortization 24,630 18,644 12,395 196 993 6,272 63,130
Operating Taxes 41,168 107 36,724 - - (682) 77,317
Intercompany
Billings 2,748 - 11,345 - - (14,093) -
- ------------------------------------------------------------------------------------------------------------------------------------
Total Expense $237,207 $26,283 $191,867 $1,472 $46,318 $(1,461) $501,686
- ------------------------------------------------------------------------------------------------------------------------------------
Operating Income $(28,635) $15,798 $ 49,392 $(1,472) $ 239 $ 1,461 $ 36,783
- ------------------------------------------------------------------------------------------------------------------------------------
Earnings
for
Common Stock $(29,037) $ 5,435 $ 28,164 $ 2,651 $ 286 $(7,171) $ 328
- ------------------------------------------------------------------------------------------------------------------------------------
Basic and
Diluted
EPS $ (0.21) $ 0.04 $ 0.21 $ 0.02 $ 0.00 $(0.06) $ 0.00
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Three Months Ended September 30, 1998 (In Thousands of Dollars)
- ------------------------------------------------------------------------------------------------------------------------------------
Gas Gas Exploration Electric Services Energy Related Energy Related
Distribution and Production Investments Services Other Total
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue $203,241 $ 30,545 $ 176,358 $ 89 $ 24,348 $ - $ 434,581
- ------------------------------------------------------------------------------------------------------------------------------------
Cost of Gas 56,305 - - - - - 56,305
Operations
and
Maintenance 101,939 6,994 111,712 1,396 $ 23,938 13,916 259,895
Depreciation
Depletion
&
Amortization 23,647 19,759 9,824 108 426 5,438 59,202
Operating Taxes 38,779 171 30,243 1 349 8,281 77,824
Intercompany
Billings 581 - 12,955 - - (13,536) -
- ------------------------------------------------------------------------------------------------------------------------------------
Total Expense $221,251 $26,924 $164,734 $1,505 $24,713 $14,099 $453,226
- ------------------------------------------------------------------------------------------------------------------------------------
Operating Income $(18,010) $ 3,621 $ 11,624 $(1,416) $ (365) $(14,099) $(18,645)
- ------------------------------------------------------------------------------------------------------------------------------------
Earnings
for
Common Stock $(26,842) $ 1,315 $ 4,380 $ 1,174 $ 77 $ (2,639) $(22,535)(a)
- ------------------------------------------------------------------------------------------------------------------------------------
Basic and
Diluted
EPS $ (0.17) $ 0.01 $ 0.03 $ 0.01 $ 0.00 $ (0.03) $ (0.15)(a)
- ------------------------------------------------------------------------------------------------------------------------------------
(a) Excludes $3.8 million or $0.02 per diluted share of non-recurring charges (net of tax) associated with the LIPA Transaction.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Nine Months Ended September 30, 1999 (In Thousands of Dollars)
- ------------------------------------------------------------------------------------------------------------------------------------
Gas Gas Exploration Electric Services Energy Related Energy Related
Distribution and Production Investments Services Other Total
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue $1,208,254 $ 103,622 $ 606,552 $ - $ 124,675 $ - $2,043,103
- ------------------------------------------------------------------------------------------------------------------------------------
Cost of Gas 470,633 - - - - - 470,633
Operations
and
Maintenance 299,700 19,817 334,690 3,945 125,880 9,165 793,197
Depreciation
Depletion
&
Amortization 73,235 53,673 32,660 814 2,465 17,851 180,698
Operating Taxes 159,457 253 94,162 8 3 4,472 258,355
Intercompany
Billings 6,664 - 32,388 - - (39,052) -
- ------------------------------------------------------------------------------------------------------------------------------------
Total Expense $1,009,689 $73,743 $493,900 $4,767 $128,348 $(7,564) $1,702,883
- ------------------------------------------------------------------------------------------------------------------------------------
Operating Income $ 198,565 $29,879 $112,652 $(4,767) $ (3,673) $ 7,564 $ 340,220
- ------------------------------------------------------------------------------------------------------------------------------------
Earnings
for
Common Stock $ 92,873 $ 9,239 $ 59,786 $ 5,401 $ (1,408) $16,732) $ 149,159
- ------------------------------------------------------------------------------------------------------------------------------------
Basic and
Diluted
EPS $ 0.66 $ 0.07 $0.43 $ 0.04 $ (0.01) $ (0.13) $ 1.06
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30, 1998 (In Thousands of Dollars)
- ------------------------------------------------------------------------------------------------------------------------------------
Gas Gas Exploration Electric Services Energy Related Energy Related
Distribution and Production Investments Services Other Total
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue $ 629,516 $ 42,258 $1,130,416 $ 117 $ 30,706 $ - $1,833,013
- ------------------------------------------------------------------------------------------------------------------------------------
Cost of Gas 247,895 - - - - - 247,895
Fuel and Purchased
Power - - 257,786 - - - 257,786
Operations
and
Maintenance 196,824 9,132 326,173 1,996 30,639 16,710 581,474
Depreciation
Depletion
&
Amortization 43,169 26,540 69,548 108 588 7,448 147,401
Electric
Regulatory
Amortization - - (79,875) - - - (79,875)
Operating Taxes 89,160 216 193,451 1 517 9,359 292,704
Intercompany
Billings 4,075 - 14,127 - - (18,202) -
- ------------------------------------------------------------------------------------------------------------------------------------
Total Expense $581,123 $35,888 $781,210 $2,105 $31,744 $15,315 $1,447,385
- ------------------------------------------------------------------------------------------------------------------------------------
Operating Income $48,393 $6,370 $349,206 $(1,988) $(1,038) $(15,315) $ 385,628
- ------------------------------------------------------------------------------------------------------------------------------------
Earnings
for
Common Stock $(3,680) $2,343 $118,984 $1,222 $ (240) $ (5,688) $ 112,941(a)
- ------------------------------------------------------------------------------------------------------------------------------------
Basic and
Diluted
EPS $(0.03) $ 0.02 $0.86 $ 0.01 $0.00 $ (0.04) $ 0.82(a)
- ------------------------------------------------------------------------------------------------------------------------------------
(a) Excludes $10.3 million or $0.07 per diluted share of non-recurring charges (net of tax) associated with the LIPA Transaction.
</TABLE>
<PAGE>
10. CONTRACTUAL OBLIGATIONS AND CONTINGENCIES
The Company acquired the 2,168 megawatt Ravenswood electric generating
facility located in Long Island City, Queens, New York from Consolidated
Edison Company of New York, Inc. ("Con Ed"), on June 18 1999 for
approximately $597 million.
As a means of financing this acquisition, the Company entered into a
lease agreement with a special purpose, unaffiliated financing entity
that acquired a portion of the facility directly from Con Ed and leased
it to a subsidiary of the Company under a ten year lease. The Company has
guaranteed all payment and performance obligations of its subsidiary
under the lease. Another subsidiary of the Company provides all
operating, maintenance and construction services for the facility. The
lease program was established in order for the Company to finance
approximately $425 million of the acquisition cost of the facility. The
lease qualifies as an operating lease for financial reporting purposes
while preserving the Company's ownership of the facility for federal and
state income tax purposes. The balance of the funds needed to acquire the
facility were provided from cash on hand.
The Company will be responsible for environmental obligations relating to
facility operations other than liabilities arising from pre-closing
disposal of waste at off-site locations and any monetary fines arising
from Con Ed's pre-closing conduct. Based on information currently
available for environmental contingencies related to the Ravenswood
acquisition, the Company has accrued $5 million as the minimum liability
to be incurred.
The Company intends to seek regulatory approvals to expand the Ravenswood
Facility through the installation of a gas-fired combined cycle
generation unit with a capacity of approximately 250 megawatts that would
increase electric generation capacity at the plant by 12%. The new
capacity could be operational by 2002 depending upon the timing of
regulatory approvals.
<PAGE>
11. ACQUISITION OF EASTERN ENTERPRISES
On November 4, 1999, The Company and Eastern Enterprises ("Eastern")
announced that the companies have signed a definitive merger agreement
under which the Company will acquire all of the common stock of Eastern
for $64.00 per share in cash. This represents a premium of 24% over the
Eastern closing price of $51.56 on November 3, 1999, and a 45% premium
over the average of the last 90-day trading period. The Agreement and
Plan of Merger was filed as an exhibit to the Company's Form 8-K filed on
November 5, 1999.
The transaction has a total value of approximately $2.5 billion ($1.7
billion in equity and $0.8 billion in assumed debt and preferred stock).
The transaction will be accounted for as a purchase. The increased size
and scope of the combined organization should enable the combined company
to provide enhanced, cost-effective customer service and to capitalize on
the above-average growth opportunities for natural gas in the Northeast
and provide additional resources to the Company's unregulated businesses.
The combined companies will serve 2.4 million customers.
It is anticipated that the combined company will have assets of $8.8
billion, $4.3 billion in revenues, and EBITDA of approximately $950
million. The Company expects pre-tax annual cost savings will be
approximately $30 million. These cost savings result primarily from the
elimination of duplicate corporate and administrative programs, greater
efficiencies in operations and business processes, and increased
purchasing efficiencies. The Company expects to achieve reductions due to
the merger through a variety of programs which would include hiring
freezes, attrition and separation programs. All union contracts will be
honored.
The Company expects to raise $1.7 billion of initial financing for the
transaction in short term markets which will ultimately be replaced with
long term financing. Going forward, the Company will actively manage its
balance sheet to maintain strong investment grade ratings at each of its
rated entities.
The Company anticipates continuing its current annual dividend of $1.78.
Eastern will continue to pay its dividend at the annual rate of $1.72.
Upon completion of the transaction Mr. Robert B. Catell will remain
chairman and CEO of the combined company and Mr. J. Atwood Ives,
currently chairman and CEO of Eastern, will retire from active management
at Eastern and will join the Company's board of directors. The Company's
corporate headquarters will remain in New York and a headquarters in
Boston will serve the New England operations.
The merger is conditioned, among other things, upon the approval of
Eastern shareholders, the Securities and Exchange Commission and the New
Hampshire Public Utility Commission. The Company anticipates that the
transaction can be completed in 9 to 12 months but is unable to determine
when or if all required approvals will be obtained.
In connection with the merger, Eastern has amended its merger agreement
with EnergyNorth, Inc. ("EnergyNorth") to provide for an all cash
acquisition of EnergyNorth shares at a price per share of $61.13. The
restructured EnergyNorth merger is expected to close contemporaneously
with the KeySpan/Eastern Enterprises transaction.
Following the announcement that the Company has entered into an agreement
to purchase Eastern Enterprises, Standard & Poor's Rating Services placed
the Company's and certain of its subsidiaries', as well as Eastern's
corporate credit, senior unsecured debt, and preferred stock on CreditWatch
with negative implications. Similarly, Moody's Investors Service also
placed the Company's and certain of its subsidiaries', as well as Eastern's
corporate credit, senior unsecured debt, commercial paper and preferred
stock on review for possible downgrade.
Eastern Enterprises owns and operates Boston Gas Company, Colonial Gas
Company, Essex Gas Company, Midland Enterprises Inc. ("Midland"),
Transgas Inc. ("Transgas"), and ServicEdge Partners, Inc. ("ServicEdge")
Upon completion of the pending merger with EnergyNorth, Inc., Eastern
will serve over 800,000 natural gas customers in Massachusetts and New
Hampshire. Midland, headquartered in Cincinnati, Ohio, is the leading
carrier of coal and a major carrier of other dry bulk cargoes on the
nation's inland waterways. Transgas is the nation's largest over-the-road
transporter of liquefied natural gas. ServicEdge is the largest
unregulated provider of residential HVAC equipment installation and
service to customers in Massachusetts.
12. NEW FINANCIAL ACCOUNTING STANDARDS
In June 1999, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 137, "Accounting for Derivative Instruments and Hedging
Activities - Deferral of the Effective Date of SFAS No. 133." SFAS No.
137 defers the effective date of SFAS No. 133 from fiscal years beginning
after July 15, 1999 to fiscal years beginning after July 15, 2000. The
Company will therefore, adopt SFAS No. 133 in the first quarter of fiscal
year 2001. SFAS No. 133 establishes accounting and reporting standards
for derivative instruments and for hedging activities. It requires that
an entity recognize all derivatives as either assets or liabilities in
the statement of financial position and measure those instruments at fair
value. The Company does not expect any material earnings effect from
adoption of this statement.
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Results of operations for the three and nine months ended September 30, 1999
reflect the operations of the consolidated Company, which includes all
KSE-acquired companies, Brooklyn Union of Long Island and subsidiaries providing
electric services. Since the KeySpan Acquisition occurred on May 28, 1998,
results of operations for the three months ended September 30, 1998 reflect the
operations of the consolidated Company for that entire three month period.
However, as required under purchase accounting rules for the KeySpan
Acquisition, results of operations for the nine months ended September 30, 1998
reflect the results of LILCO only for the period prior to the KeySpan
Acquisition (January 1, 1998 through May 28, 1998) as well as the results of the
consolidated Company for the period after the KeySpan Acquisition (May 29, 1998
through September 30, 1998). (Capitalized terms used in the discussions to
follow but not otherwise defined, have the same meaning as when used in the
Footnotes to the Condensed Consolidated Financial Statements included under Item
1.)
Earnings Summary
Consolidated earnings for the quarter ended September 30, 1999 were $0.3 million
compared to a loss of $26.4 million, or $0.17 per diluted share, in the
corresponding quarter last year. Earnings for the quarter ended September
generally are marginal due to the seasonal nature of gas heating sales from our
core gas distribution operations. The increase in comparative earnings for the
quarter ended September 30, 1999 when compared to the same period of the prior
year reflects, primarily, earnings from the acquisition of the Ravenswood
Facility. (See Note 9. to the Condensed Consolidated Financial Statements
"Business Segments" for a summary of earnings for each business segment and Note
10. to the Condensed Consolidated Financial Statements "Contractual Obligations
and Contingencies" for a discussion on the Ravenswood Acquisition.)
Consolidated earnings for the nine months ended September 30, 1999 were $149.2
million, or $1.06 per diluted share, compared to earnings of $102.7 million, or
$.75 per diluted share, in the corresponding period last year. During the nine
months ended September 30, 1998, the Company incurred after-tax special charges
associated with the LIPA Transaction of $10.3 million or $0.07 per diluted
share. Consolidated earnings, excluding special charges, for the nine months
ended September 30, 1998 were $112.9 million or $0.82 per diluted share.
Due to the change in the structure of the Company's business as a result of the
LIPA Transaction and the requirements of purchase accounting rules applicable to
the KeySpan Acquisition (as discussed above), results of operations for the nine
months ended September 30, 1999 are not comparable to the results of operations
for the nine months ended September 30, 1998. For comparative purposes, we have
combined the results of operations, excluding special charges associated with
the LIPA Transaction, of KSE and LILCO for the entire nine month period ended
September 30, 1998. This combined presentation is intended to reflect the
results of the Company as if the KeySpan Acquisition occurred on the first day
of the reporting period, i.e., January 1, 1998. This "proforma, combined company
basis" format will also be used to explain variations in operating results
between the nine months ended September 30, 1999 and the nine months ended
September 30, 1998 in the discussions to follow.
The following table sets forth consolidated earnings for the quarter ended
September 30, 1999 and September 30, 1998. In addition the table sets forth
consolidated net income for the nine months ended September 30, 1999 and the
proforma, combined company basis consolidated net income for the nine months
ended September 30, 1998:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------
Results of Operations Three Months Three Months Nine Months Nine Months Ended
(In Thousands of Ended September Ended September Ended September Ended September
Dollars) 30, 1999 30, 1998 30, 1999 30, 1998
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Gas Distribution $(29,037) $(26,842) $92,873 $81,880
Gas Exploration and
Production 5,435 1,315 9,239 9,120
Electric Services 28,164 4,380 59,786 118,984
Energy Related
Investments 2,651 1,174 5,401 (690)
Energy Related Services 286 77 (1,408) (5,651)
Other (7,171) (2,639) (16,732) (6,872)
=================================================================================================
Earnings for Common Stock $ 328 $(22,535) $149,159 $196,771
=================================================================================================
</TABLE>
Gas Distribution earnings for the quarter ended September 30, 1999 as compared
to the corresponding quarter last year have remained relatively constant. Gas
Distribution earnings for the quarter ended September 30 are unprofitable due to
the seasonal nature of gas heating sales. Earnings for the nine months ended
September 30, 1999 as compared to the same period in 1998, on a proforma,
combined company basis reflect the benefits of significantly lower operating
expenses and interest expense offset, in part, by lower net revenues (revenues
less gas costs and revenue taxes) due to rate reductions associated with the
KeySpan Acquisition.
Earnings from the Gas Exploration and Production segment for the quarter ended
September 30, 1999 as compared to the corresponding quarter in 1998, reflect the
combined benefits of a 16% increase in gas production volumes and an 18%
increase in gas prices. These benefits were offset, in part, by increased
interest expense of $2.1 million due to higher levels of debt outstanding.
Earnings for the nine months ended September 30, 1999 remained relatively
constant as compared to the corresponding period last year, on a proforma
combined company basis. The benefits from higher production volumes and
decreased operating expenses were offset by lower average realized gas prices
and increased interest expense of $7.1 million due to higher levels of debt
outstanding.
Electric Services earnings for the quarter and nine months ended September 30,
1999 reflect results from the various service contracts with LIPA and earnings
from the Ravenswood Facility. The increase in comparative results for the
quarter is due primarily to earnings of $23.0 million from the Ravenswood
Facility. Earnings for the nine months ended September 30, 1998 reflect Electric
Distribution results of LILCO for the period January 1, 1998 through May 28,
1998 and Electric Services results for the period May 29, 1998 through September
30, 1998 under various LIPA Service Agreements. The Company's operating margins
under the agreements with LIPA are lower than those experienced prior to the
LIPA Transaction. As a result, earnings for the nine months ended September 30,
1999 are lower than earnings for the comparable period in 1998.
Earnings from the Energy Related Investments segment for the quarter and nine
months ended September 30, 1999 as compared to the corresponding periods last
year, on a proforma, combined company basis, primarily reflect earnings from our
investment in Gulf Midstream Services Partnership ("GMS"), formed in December
1998, and more favorable results from our investments in Northern Ireland. In
addition, for the nine months ended September 30, 1998 results of operations
from this segment reflect after-tax costs of $3.2 million to settle certain
contracts associated with the sale, in 1997, of our domestic cogeneration
investments and related fuel management operations.
Operating results from the Energy Related Services segment for the nine months
ended September 30, 1999 as compared to the corresponding period last year, on a
proforma, combined company basis reflect the benefits derived from the continued
integration of companies acquired during the past two years and more favorable
results from gas and electric marketing services. These benefits were offset by
losses incurred by subsidiaries providing appliance and repair services.
Losses from the Other segment for the quarter and nine months ended September
30, 1999 reflect charges and preferred stock dividends incurred by the corporate
and administrative areas of the Company that have not been allocated to the
various business segments, offset, in part, by interest income earned on
investments of the proceeds from the LIPA Transaction. Interest income has been
decreasing as the Company continues to apply the proceeds from the LIPA
Transaction to finance certain acquisitions, repurchase shares of its common
stock on the open market, and retire maturing debt.
Revenues
GAS DISTRIBUTION
Gas Distribution revenues for the quarter and nine months ended September 30,
1999 were $208.6 million and $1,208.3 million, respectively, compared to $203.2
million and $629.5 million for the comparable periods in 1998. The increase in
revenues for the nine months ended September 30, 1999 was principally the result
of the inclusion of Brooklyn Union revenues for the entire nine months ended
September 30, 1999. Reported revenues for the nine months ended September 30,
1998 include Brooklyn Union revenues for the period May 29, 1998 through
September 30, 1998 only.
On a proforma, combined company basis, total Gas Distribution revenues for the
nine months ended September 30, 1998 were $1,268.4 million. Set forth in the
table below are: net gas revenues; firm gas sales volumes; transportation
volumes (which includes transportation volumes for the delivery of gas to the
Company's electric generation subsidiary on behalf of LIPA); and other sales
volumes (which include sales and transportation volumes to interruptible and
off-system customers) for the three months ended September 30, 1999 and 1998,
the nine months ended September 30, 1999 and on a proforma, combined company
basis the nine months ended September 30, 1998.
<PAGE>
<TABLE>
<CAPTION>
(In Thousands of Dollars)
- ---------------------------------------------------------------------------------------------
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, September 30, September 30, September 30,
1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------
Gas Distribution
<S> <C> <C> <C> <C>
Revenues $208,572 $203,241 $1,208,254 $1,268,399
Cost of Gas 62,560 56,305 470,633 503,460
Revenue Taxes 12,675 12,533 75,296 79,575
=============================================================================================
Net Revenues $133,337 $134,403 $662,325 $685,364
=============================================================================================
Firm Gas Sales (MDTH) 16,353 16,408 120,401 116,388
Firm Transportation(MDTH)35,241 24,995 76,793 39,705
Other Sales (MDTH) 12,441 14,594 38,279 47,604
Degree Days N/A N/A 2,835 2,549
Warmer than Normal N/A N/A 9.7% 18.8%
- ---------------------------------------------------------------------------------------------
</TABLE>
The decrease in comparative net gas revenues of $23.0 million for the nine
months ended September 30, 1999 was due primarily to rate reductions associated
with the KeySpan Acquisition. Brooklyn Union reduced rates to its core customers
by $23.9 million on an annual basis effective May 29, 1998 and Brooklyn Union of
Long Island reduced its rates to core customers by $12.2 million annually
effective February 5, 1998 and by an additional $6.3 million annually effective
May 29, 1998. For the nine months ended September 30, 1999, rate reductions
impacted revenues by $19.2 million. Further, since April 1998, net revenues no
longer reflect revenues derived from Brooklyn Union's appliance and repair
services since these services have been "spun-off" to KESol.
GAS EXPLORATION AND PRODUCTION
Gas Exploration and Production revenues for the quarter and nine months ended
September 30, 1999 were $42.1 million and $103.6 million respectively, as
compared to $30.5 million and $42.3 million for the quarter and nine months
ended September 30, 1998. For the nine months ended September 30, 1998, Gas
Exploration and Production revenues are reflected for the period May 29, 1998
through September 30, 1998 only. On a proforma combined company basis, revenues
from this segment were $98.6 million for the nine months ended September 30,
1998. The following table sets forth THEC's historical natural gas production
data during the periods indicated:
<PAGE>
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September September 30, September September
30, 1999 1998 30, 1999 30, 1998
- --------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Production:
Natural gas production
(Mcf) 17,922 15,482 51,572 47,102
Average sales price:
Natural gas (per Mcf)
realized $2.33 $1.98 $2.00 $2.09
Natural gas (per Mcf)
unhedged $2.47 $1.84 $2.05 $2.01
- --------------------------------------------------------------------------------
</TABLE>
Revenues for the quarter ended September 30, 1999, as compared to the same
period last year, reflect the benefits derived from a 16% increase in production
volumes, combined with an 18% increase in average realized gas prices (average
wellhead price received for production including hedging gains and losses).
Revenues for the nine months ended September 30, 1999, as compared to the same
period in 1998, reflect a 9% increase in production volumes offset, in part, by
a 4% decrease in average realized gas prices. At December 31, 1998, THEC had 480
BCFe of net proved reserves of natural gas, of which 80% was classified as
proved developed.
ELECTRIC SERVICES
Electric Services revenues of $241.3 million and $606.6 million for the quarter
and nine months ended September 30, 1999 represent revenues under various LIPA
Service Agreements and revenues from the Ravenswood Facility from June 18, 1999.
Revenues of $176.4 million for the quarter ended September 30, 1998 also reflect
revenues under various LIPA Service Agreements. Revenues of $1,130.4 million for
the nine months ended September 30, 1998 reflect Electric Distribution revenues
of LILCO only for the period January 1, 1998 through May 28, 1998 and Electric
Services revenues under various LIPA Service Agreements for the period May 29,
1998 through September 30, 1998.
The increase in electric revenues for the quarter ended September 30, 1999 as
compared to the corresponding quarter in 1998, is due primarily to the
Ravenswood Facility, which contributed $61.4 million during this quarter. The
decrease in revenues for the nine months ended September 30, 1999 as compared to
the same period in 1998, was the result of the LIPA Transaction. Prior to the
LIPA Transaction, LILCO provided fully integrated electric services to its
customers. Included within the rates charged to customers was a return on the
capital investment in the generation and T&D assets, as well as recovery of the
electric business costs to operate the system. Upon completion of the LIPA
Transaction, the nature of the Company's electric business changed from that of
owner of an electric generation and T&D system, with a significant capital
investment, to a new role as owner of the non-nuclear generation facilities and
as manager of the T&D system now owned by LIPA. In its new role, the Company's
capital investment is significantly reduced and accordingly, its revenues under
the LIPA contracts reflect that reduction.
Revenues resulting from the LIPA Service Agreements and from the Ravenswood
Facility were as follows:
Revenues realized under the Management Services Agreement("MSA"), including
incentives, were $96.0 million for the quarter and $300.8 million for the nine
months ended September 30, 1999. For the quarter ended September 30, 1998 and
for the period May 29, 1998 through September 30, 1998, revenues, including
incentives, were $93.6 million and $131.4 million, respectively. These revenues
are derived from the performance, by KeySpan Electric Services, LLC, of the
day-to-day operation and maintenance of LIPA's T&D system, management of
construction additions to the T&D system, and management of LIPA's interest in
the Nine Mile Point Nuclear Power Station, Unit 2 ("NMP2").
Revenues realized by KeySpan Generation, LLC under the Power Supply Agreement
("PSA"), including incentives, were $80.6 million for the quarter and $228.2
million for the nine months ended September 30, 1999 and are derived from the
sale of capacity and energy to LIPA from the Company's Long Island based
generating facilities at rates approved by the Federal Energy Regulatory
Commission ("FERC"). For the quarter ended September 30, 1998 and for the period
May 29, 1998 through September 30, 1998, revenues, including incentives, were
$80.6 million and $107.8 million, respectively. Under the terms of the PSA, LIPA
is obligated to pay for capacity at rates which reflect a large percentage of
the overall fixed cost for maintaining and operating the generating facilities.
A small variable maintenance charge is imposed for each unit of energy actually
acquired from these facilities. As a result, fluctuations in seasonal weather
patterns do not have a significant effect on revenues under the PSA.
Revenues realized by KeySpan Energy Trading Services, LLC under the Energy
Management Agreement ("EMA"), including incentives, were $3.0 million for the
quarter and $7.2 million for the nine months ended September 30, 1999 and result
from the management of fuel supplies for LIPA to fuel the Company's generating
facilities, the management of energy purchases on a least-cost basis to meet
LIPA's needs and the management of off-system electric sales. For the quarter
ended September 30, 1998 and for the period May 29, 1998 through September 30,
1998, revenues, including incentives, were $2.2 million and $5.5 million,
respectively.
Revenues realized from the Ravenswood facility were $61.4 million for the
quarter ended September 30, 1999 and $70.1 million for the period June 18, 1999
through September 30, 1999. Currently, all of the capacity of and energy from
the Ravenswood Facility is purchased by Con Ed. Similar to the PSA, current
rates charged to Con Ed reflect a large percentage of the overall fixed cost for
maintaining and operating the generating facilities. As a result, fluctuations
in seasonal weather patterns do not have a significant effect on revenues. (See
Note 10 "Contractual Obligations and Contingencies" to the Condensed
Consolidated Financial Statements for more details on the Ravenswood
Acquisition.)
ENERGY RELATED SERVICES
Revenues from the Energy Related Services segment were $46.6 million and $124.7
million for the quarter and nine months ended September 30, 1999 respectively,
as compared to $24.4 million and $30.8 million for the comparable periods in
1998. For the nine months ended September 30, 1998, Energy Related Services
revenues are reflected for the period May 29, 1998 through September 30, 1998
only.
Revenues on a proforma, combined company basis from this segment were $56.9
million for the nine months ended September 30, 1998. The increase in
comparative revenues for both the three and nine months ended September 30, 1999
was due primarily to the inclusion of revenues from Fritze KeySpan of $14.8
million and $35.7 million for the quarter and nine months ended September 30,
1999, respectively. Moreover, revenues from KEM and KES increased for both the
quarter and nine months ended September 30, 1999 as compared to the comparable
periods last year, due to the benefits derived from companies acquired during
the past two years and the growth in the number of customers purchasing energy
from KES. Further, Delta KeySpan, our newly acquired HVAC contractor,
contributed revenues of $3.1 million for the quarter and nine months ended
September 30, 1999.
Operating Expenses
Total operating expenses were $501.7 million for the quarter ended September 30,
1999 as compared to $453.2 million for the quarter ended September 30, 1998. For
the nine months ended September 30, 1999, total operating expenses were $1,702.9
million as compared to $1,447.4 million for the nine months ended September 30,
1998. Comparative total operating expenses for the nine months ended September
30, 1999 as compared to the same period in 1998, reflect the change in the
structure of the Company's business and the timing of the LIPA Transaction and
KeySpan Acquisition.
Net operating expenses (operating expenses less the cost of gas and revenue
taxes) were $426.5 million and $1,157.0 million for the three and nine months
ended September 30, 1999, respectively. On a proforma, combined company basis,
net operating expenses, excluding special charges, were $384.4 million and
$1,439.6 million for the quarter and nine months ended September 30, 1998. The
discussion that follows presents a comparison of net operating expenses,
excluding special charges, on a proforma, combined company basis, by major
segment for the quarter and nine months ended September 30, 1999 compared to the
corresponding periods last year.
GAS DISTRIBUTION
Net operating expenses were $162.0 million for the quarter ended September 30,
1999 as compared to $152.4 million for the quarter ended September 30, 1998. For
the nine months ended September 30, 1999, net operating expenses were $463.8
million as compared to $491.7 million for the nine months ended September 30,
1998 on a proforma, combined company basis. The increase in operating expenses
for the quarter ended September 30, 1999 was due, in part, to increased property
tax expense, as applicable property base and tax rates generally have increased,
and increased employee benefit costs. However, the Company has realized
significant reductions in operations and maintenance expense for the nine months
ended September 30, 1999 compared to the corresponding period last year. These
reductions reflect, primarily, the benefits derived from cost reduction measures
and operating efficiencies employed during the past few years. Such measures
included, but were not limited to, the early retirement program completed in
1998, and similar measures employed in prior years by Brooklyn Union. Further,
Brooklyn Union's "spin-off" of non-safety related appliance repair services to
KESol in 1998 contributed to the reduction in operating and maintenance expense
for the nine months ended September 30, 1999. Brooklyn Union of Long Island
discontinued providing non-safety related appliance repair services on July 1,
1999, further reducing operating expenses for this segment.
GAS EXPLORATION AND PRODUCTION
Operating expenses for the quarter and nine months ended September 30, 1999 were
$26.3 million and $73.7 million, respectively. Operating expenses for the
quarter and nine months ended September 30, 1998 on a proforma, combined company
basis were $26.9 million and $79.6 million, respectively. The comparative
decrease in expenses for the quarter and nine months was primarily due to a
decrease in depletion expense. In December 1998, THEC recorded a pre-tax
impairment charge of $130 million to reduce the value of its proved gas reserves
in accordance with the asset ceiling test limitations of the SEC applicable to
gas exploration and development operations accounted for under the full cost
method. As a result, THEC's depletion rate for the quarter and nine months ended
September 30, 1999 was $1.04 per MCFe of production compared to $1.28 per MCFe
and $1.26 per MCFe of production for the quarter and nine months ended September
30, 1998, respectively.
ELECTRIC SERVICES
Operating expenses for the quarter and nine months ended September 30, 1999 were
$191.9 million and $493.9 million, respectively as compared to $164.7 million
and $781.2 million for the quarter and nine months ended September 30, 1998,
respectively. The increase in comparative operating expenses for the quarter
ended September 30, 1999 is due primarily to the inclusion of operating expenses
for the Ravenswood Facility since June 1999. For the nine months ended September
30, 1999, operating expenses, as compared to the same period in 1998, decreased
by $287.3 million due primarily to the elimination of electric fuel expense. As
a result of the LIPA Transaction, and in accordance with the terms of the EMA,
LIPA is responsible for paying directly the cost of fuel and purchased power.
Further, for the nine months ended September 30, 1999, depreciation expense
decreased by $36.9 million and operating taxes decreased by $99.3 million
compared to the corresponding periods last year. Due to the LIPA Transaction,
significant property related assets were sold to LIPA and, as a result, related
depreciation and property taxes are no longer incurred by the Company.
Offsetting these decreases is the addition of expenses associated with operating
the Ravenswood Facility and the discontinuation of electric regulatory
amortizations, primarily the Rate Moderation Component ("RMC"), which reduced
operating expenses by $79.9 million for the nine months ended September 30,
1998.
ENERGY RELATED SERVICES
Operating expenses for the quarter ended September 30, 1999 were $46.3 million,
as compared to $24.7 million for the quarter ended September 30, 1998. Operating
expenses were $128.3 million for the nine months ended September 30, 1999 as
compared to $65.9 million for the nine months ended September 30, 1998 on a
proforma, combined company basis. The comparative increase in operating expenses
for both periods, was due to the acquisition of Fritze KeySpan in November 1998
and Delta KeySpan in September 1999, the integration of operations of other
acquired companies during the past few years, and increased purchased gas costs
of KES. The formation and commencement of operations of KESol, in April 1998,
also contributed to the comparative increase in operating expenses for the nine
months ended September 30, 1999.
Other Income and Deductions
Other income for the quarter and nine months ended September 30, 1999 and 1998
includes earnings from the investment of the proceeds from the LIPA Transaction
and equity earnings from subsidiaries comprising the Energy Related Investments
segment. Interest income has been decreasing as the Company continues to use the
proceeds from the LIPA Transaction to make certain acquisitions, repurchase
shares of its common stock on the open market, and retire maturing debt. For the
nine months ended September 30, 1998, other income also includes benefits
related to certain electric regulatory incentives that have been discontinued
due to the LIPA Transaction, offset, in part, by after-tax special charges
associated with the LIPA Transaction.
Other Expenses
Interest expense for the three months ended September 30, 1999, as compared to
the same period last year, primarily reflects the repayment of $397.0 million of
promissory notes due LIPA that matured in June 1999. Interest expense for the
nine months ended September 30, 1999 reflects the significantly reduced level of
outstanding debt resulting from the LIPA Transaction. This benefit was offset,
in part, by the interest expense from the KSE-acquired companies. Upon
consummation of the LIPA Transaction, LIPA assumed substantially all of the
outstanding debt of LILCO. The Company, in return, issued promissory notes to
LIPA for its continuing obligation to pay principal and interest on certain
series of debt that were assumed by LIPA. Since the LIPA Transaction occurred on
May 28, 1998, interest expense for the nine months ended September 30, 1998
reflects only four months of the reduced level of outstanding debt. However,
interest expense for the nine months ended September 30, 1999 reflects the
reduction in outstanding debt for the entire period. Outstanding debt at
September 30, 1999 was $1.7 billion as compared to $4.5 billion (LILCO only)
prior to the LIPA Transaction.
Income tax expense for the quarter and nine months ended September 30, 1999
reflects the level of pre-tax income in both periods and for the nine months
ended September 30, 1999, an adjustment to deferred tax expense and current tax
expense for the utilization of a previously deferred net operating loss
carryforward ("NOL") recorded in 1998. In 1998, the Company recorded, as a
deferred tax asset, a benefit of $52.2 million for a NOL that it will apply in
its 1999 federal income tax return. In the quarter ended June 30, 1999, the
Company reversed the deferred tax asset and recorded the NOL benefit in its
current tax provision in anticipation of applying this NOL to this year's
federal income tax payment.
Liquidity, Capital Requirements and Financing
LIQUIDITY
The increase in cash flow from operations for the three and nine months ended
September 30, 1999 as compared to the corresponding periods last year, reflects
continued strong results from core utility operations, benefits derived from the
acquisition of the Ravenswood Facility and, for the nine months ended September
30, 1999 the benefits from the integration of KSE-acquired companies. Further,
cash flow from operations for the nine months ended September 30, 1999 reflects
the benefit of the $52.2 million NOL on quarterly federal income tax payments
for 1999, as previously discussed. Moreover, in May 1998, $250 million was
funded into Voluntary Employee Beneficiary Trusts to fund certain employee post
retirement welfare benefits and, as a result, cash flow from operations for the
nine months ended September 30, 1998 was adversely affected.
As a result of the LIPA Transaction, the Company had a significant amount of
cash which it has used to, among other things, repurchase shares of its common
stock on the open market; retire outstanding debt; expand its operations through
increased investments in energy related activities, such as gas processing
plants and heating, ventilation and air-conditioning companies; and acquire the
Ravenswood Facility. At September 30, 1999, the Company had cash and temporary
cash investments of $129.9 million and available unsecured bank lines of credit
of $300 million. Borrowings were made under these facilities during the month of
September 1999. The average daily outstanding balance during the month was $40.2
million at a weighted average annualized rate of 5.52%. At September 30, 1999,
the Company had $103.9 million in short-term borrowings outstanding at an
annualized rate of 5.83%. In addition, THEC has an unsecured available line of
credit with a commercial bank that provides for a current commitment of $240
million. This line can be increased to $250 million, subject to certain
conditions. During the quarter ended September 30, 1999, THEC incurred
borrowings of $12.0 million under this facility, at which time $160 million was
outstanding at the end of the quarter. Subsequent to September 30, 1999, THEC
borrowed an additional $21 million under this facility to acquire a 64% interest
in two additional undeveloped wells.
The Company is in the process of negotiating a $700 million, revolving credit
agreement with a one-year term with Chase Manhattan Bank to ensure credit
availability and liquidity. Pricing under the facility will be subject to a
ratings-based grid. The annual fee on this facility will be .075% per annum on
the balance of funds available and borrowing will bear interest at LIBOR plus
50.0 basis points. Borrowings in excess of more than 33% of the total commitment
will bear interest at LIBOR plus 62.5 basis points. This credit facility will be
used to support an anticipated $700 million commercial paper program. The
Company anticipates issuing commercial paper beginning in the fourth quarter of
calendar year 1999. Proceeds received from commercial paper borrowings will be
used to repay outstanding borrowings under the Company's current line of credit
and will also be used for general corporate purposes. The existing line of
credit will be terminated upon execution of the revolving credit agreement. The
Company anticipates issuing commercial paper rather than borrowing on the new
revolving credit agreement.
CAPITAL REQUIREMENTS
On November 4, 1999, the Company entered into a definitive agreement with
Eastern Enterprises ("Eastern"), pursuant to which the Company will acquire all
of the outstanding common stock of Eastern for $64.00 per share in cash. The
transaction has a total value of approximately $2.5 billion ($1.7 billion in
equity and $0.8 billion in assumed debt and preferred stock). Eastern owns and
operates, among other entities, Boston Gas Company, Colonial Gas Company, Essex
Gas Company and Midland Enterprises Inc. (See Note 11. To the Condensed
Consolidated Financial Statements "Acquisition of Eastern Enterprises" for more
information.)
<PAGE>
In September 1999, a Company subsidiary purchased Delta Mechanical of New
England, Inc. The company builds and installs heating, ventilating, and air
conditioning ("HVAC") systems primarily for commercial customers in Rhode Island
and in the New England region and is the largest HVAC contractor in Rhode Island
with revenues of approximately $30 million for the twelve months ended May 31,
1999. Also in September, the Company, through GMS, completed the acquisition of
Richland Petroleum's 37% interest in the Paddle River Gas Plant. The acquired
plant interest is owned by a Company subsidiary and managed by GMS. The gas
plant, located in Alberta, Canada, is capable of processing up to 82 million
cubic feet per day (mmcf/d) of raw sour gas, with modern acid gas re-injection
and natural gas liquids recovery facilities. With current throughput of about 40
mmcf/d, the plant's unutilized capacity represents a significant opportunity.
The total acquisition price for these two transactions amounted to $19.6
million.
In June 1999, the Company acquired the Ravenswood Facility. As a means of
financing the acquisition, the Company entered into a lease agreement with a
special purpose, unaffiliated financing entity that acquired a portion of the
facility directly from Con Ed and leased it to a subsidiary of the Company. The
lease program was established in order for the Company to finance up to $425
million of the $597 million acquisition cost of the facility. The balance of the
funds needed to acquire the facility were provided from cash on hand. (See Note
10. to the Condensed Consolidated Financial Statements "Contractual Obligations
and Contingencies" for more details on the lease agreement.)
The Company has begun a process to review strategic alternatives regarding its
investment in THEC. The process will include an assessment of the role of THEC
within the Company's future strategic plan, and will consider a full range of
strategic transactions which could include the sale of all or a portion of its
investment in THEC. The Company has decided not to continue its full commitment
with regards to its joint venture drilling program with THEC. The drilling
program will be extended only on a quarter-by-quarter basis until March 31,
2000. The remaining balance of the cash investments for 1999 will continue to be
carried forward through the expiration of the drilling program, but will be
limited to expenditures for further development of existing successful wells and
not for new exploration activities. In addition, the Company has decided to
extend its credit facility agreement with THEC beyond 1999 on a
quarter-by-quarter basis until March 31, 2000.
<PAGE>
FINANCING
On October 27 1999, the Company's wholly-owned subsidiary, KeySpan Generation
LLC issued, through the New York State Energy Research Development Authority,
$41.1 million of Pollution Control Revenue Refunding Bonds, 1999 Series A. The
proceeds from this financing will be used to extinguish a portion of the
Company's promissory notes due LIPA. The initial interest rate on these
tax-exempt bonds will be 3.95% and will apply through January 13, 2000.
Thereafter, the interest rate will be reset based on an auction procedure. The
Company anticipates that the interest rate on these tax-exempt bonds will be
substantially lower than the interest rate on the debt it is replacing.
In June 1999, the Company extinguished a portion of its promissory notes to
LIPA. The Company's obligation for these debentures of $411.5 million consisted
of the principal amount of $397.0 million and $14.5 million of interest accrued
and unpaid. (See Note 8. to the Condensed Consolidated Financial Statements
"Extinguishment of Long-Term Debt and Financing.") Management expects to access
the financial markets during the first quarter of fiscal 2000 in order to issue
approximately $400 million of debt securities to replace the debt obligation
that has matured.
In 1998, the Company's Board of Directors authorized the repurchase of a portion
of the Company's outstanding common stock. The initial authorization permitted
the repurchase of up to 10 percent of the Company's then outstanding stock, or
approximately 15 million common shares. A second authorization permits the
Company to use up to an additional $500 million of cash for the purchase of
common shares. As of October 20 1999, the Company had repurchased 24.9 million
of its common shares for $723.4 million. At this point in time, the Company has
discontinued repurchasing its common stock on the open market. However, the
Company reserves the right to repurchase additional shares of its common stock
on the open market if future market conditions warrant.
The Company continues to explore opportunities for expansion of its operations
through one or more of the following types of transactions: mergers with or
acquisitions of other utilities or entities; investments in new gas pipelines
(and related assets) and gas exploration; or the purchase and/or construction of
additional electric power plants. However, no assurance can be given that any
additional transactions will occur or that such transactions, if completed, will
be integrated with the Company's operations or prove to be profitable.
Gas Distribution - Rate Matters
By orders dated February 5, 1998 and April 14, 1998 the NYPSC approved a
Stipulation and Agreement ("Stipulation") among Brooklyn Union, LILCO, the Staff
of the NYPSC and six other parties that in effect approved the KeySpan
Acquisition and established gas rates for both Brooklyn Union and Brooklyn Union
of Long Island that are currently in effect. (For more information on these
agreements refer to the Company's Annual Report on Form 10-K for the Transition
Period ended December 31, 1998.)
Environmental Matters
The Company is subject to various federal, state and local laws and regulatory
programs related to the environment. Ongoing environmental compliance
activities, which have not been material, are charged to operation and
maintenance activities. The Company estimates that the remaining minimum cost of
its MGP-related environmental cleanup activities, including costs of $5.0
million associated with the Ravenswood Facility, will be approximately $130.2
million and has recorded a related liability for such amount. Further, as of
September 30, 1999, the Company has expended a total of $14.3 million. (See Note
6. "Environmental Matters" and Note 10. "Contractual Obligations and
Contingencies" to the Condensed Consolidated Financial Statements.)
Year 2000 Issues
The Company's computer applications are generally based on two digits and have
required additional programming to recognize the start of the new millennium.
Embedded hardware systems have also been updated in order to properly operate
into the year 2000. The remediation and testing of critical systems necessary
for the reliable and safe delivery of electricity and gas have been completed.
System Readiness
A corporate-wide project has been in progress since 1997 to review Company
software, hardware, embedded systems and associated compliance plans. The
project includes both information technology ("IT") and non-IT systems. Non-IT
systems are basically vendor supplied embedded systems that are critical to the
daily operations of the Company. These systems are generally in the following
areas: electric production, distribution, and transmission; gas distribution;
and communications. The readiness of suppliers and vendor systems has also been
under review. The project is under the direction of the Year 2000 Program
Office, chaired by the Vice President, Technology Operations and Corporate Y2K
Officer.
The critical areas of operations have been addressed through a mission critical
process review methodology. Each of the Company's mission critical processes has
been reviewed to: identify and inventory sub-components; assess for year 2000
compliance; establish repair plans as necessary; and test in a year 2000
environment. Mission critical functions consist of both service critical
functions and business critical functions. Service critical functions relate to
our ability to procure gas from suppliers and deliver the gas to our customers
in a safe and reliable manner; and to generate electricity and maintain the
electric transmission and distribution system for LIPA. As of July 1, 1999,
inventory, assessment, repair, testing and the development of contingency plans
for these systems was completed. As of September 30, 1999 business critical
systems, which includes metering, billing and certain financial and accounting
systems, were 98% complete in remediation and 93% complete in testing. Testing
of the last of these systems will be complete by November 30, 1999. Reports have
been filed with the NYPSC documenting, in detail, this status.
Vendors and business partners needed to support the mission critical processes
are also being reviewed for their year 2000 readiness. At this time, none of
these vendors have indicated to the Company that they will be materially
adversely affected by the year 2000 problem. However, many vendors and business
partners have not responded to repeated requests for their year 2000 readiness
status. Included in the Company's overall contingency plans, are contingency
plans that address vendor and business partners year 2000 risks.
Risk Scenarios and Contingency Plans
The Company has analyzed each of the mission critical processes to identify
possible year 2000 risks. Each mission critical process will be certified by the
responsible corporate officer as being year 2000 ready. The most reasonably
likely worst case scenarios have been identified. Operating procedures have been
reviewed to ensure that risks are minimized when entering the year 2000 and
other high risk dates. Contingency plans have been completed to address possible
failure points in each mission critical process. These plans will continue to be
reviewed and revised as necessary. Revisions may be required based on the status
of critical vendors and business partners. Testing of these contingency plans
will continue to be performed internally, as well as with neighboring utilities
and business partners.
While the Company must plan for the following possible worst case scenarios,
management believes that these events are improbable:
LOSS OF GAS PIPELINE DELIVERY
The Company's gas utility subsidiaries receive gas delivery from multiple
national and international pipelines and therefore the effects of a loss in any
one pipeline can be mitigated through the use of other pipelines. Complete loss
of all the supply lines is not considered a reasonable scenario. Nevertheless,
the impact of the loss of any one pipeline is dependent on temperature and
vaporization rate. Should gas supply be decreased due to the loss of a pipeline,
each of the Company's gas utility subsidiaries also has a local liquefied
natural gas facility under its direct control that stores sufficient gas to
offset the temporary loss of any one pipeline. The partial loss of gas supply
will not affect the Company's ability to supply electricity since most of the
plants have the ability to operate on oil.
LOSS OF ELECTRIC GENERATION OR ELECTRIC TRANSMISSION AND DISTRIBUTION
Electric utilities are physically connected on a regional basis to manage
electric load. This interconnection is often referred to as the regional grid.
Presently, the Company is working, on behalf of LIPA, with other regional
utilities to develop a coordinated operating plan. Should there be an
instability in the grid, the Company has the ability to remove LIPA's facilities
and operate independently.
Certain electric system components, such as individual generating units, T&D
control facilities, and the electric energy management system, have the
potential to be affected by the year 2000 problem. The Company has inventoried
both its and LIPA's electric system components and developed a plan to certify
mission critical processes as year 2000 ready. As manager of the T&D facilities,
the Company is responsible for ensuring that these facilities operate properly
and that related systems are year 2000 ready. Under the terms of the various
LIPA contracts, LIPA will reimburse the Company for certain year 2000 costs
incurred by the Company for these facilities. Contingency plans have been
developed, where appropriate, for loss of critical system elements.
LOSS OF TELECOMMUNICATIONS
The Company has a substantial dependency on many telecommunication systems and
services for both internal and external communication providers. External
communications with the public and the ability of customers to contact the
Company in cases of emergency response is essential. The Company is coordinating
its emergency response efforts with the offices of emergency management of the
various local governments within its service territory. Internally, there are a
number of critical processes in both the gas and electric operating areas that
rely on external communication providers. Contingency plans address methods for
manually monitoring these functions and/or utilizing alternative communication
methods.
In addition to the above, the Company has also planned for the following
scenarios: short term reduction in system power generating capability;
limitation to fuel oil operations; reduction in quality of power output; loss of
automated meter reading; loss of ability to read customer meters, prepare bills
and collect and process customer payments; and loss of the purchasing/materials
management system.
The Company believes that, with modifications to existing software and
conversions to new hardware and software, the year 2000 issue will not pose
significant operational problems for its computer systems. However, if such
modifications and conversions do not perform as expected and contingency plans
fail, the year 2000 issue could have a material adverse impact on the operations
of the Company, the extent of which cannot currently be determined.
Cost of Remediation
The Company expects to spend a total of approximately $30.8 million to address
the year 2000 issue. As of September 30, 1999, $24.7 million had been expended
on the project. The largest percentage expended is attributable to the
assessment, repair and testing of corporate IT supported computer software and
in-house written applications. In 1999, the IT year 2000 costs are expected to
be 8.3% of the IT budget. The year 2000 issue has not directly resulted in
delaying any other IT projects. Presently, the Company expects that cash flow
from operations and cash on-hand will be sufficient to fund any remaining year
2000 project expenditures.
Cautionary Statement Regarding Forward-Looking Statements
Certain statements contained in this Form 10-Q concerning expectations, beliefs,
plans, objectives, goals, strategies, future events or performance and
underlying assumptions and other statements which are other than statements of
historical facts, are "forward-looking statements" within the meaning of Section
21E of the Securities Exchange Act of 1934, as amended. Without limiting the
foregoing, all statements relating to the Company's anticipated capital
expenditures, future cash flows and borrowings, pursuit of potential future
acquisition opportunities and sources of funding are forward-looking statements.
Such forward-looking statements reflect numerous assumptions and involve a
number of risks and uncertainties and actual results may differ materially from
those discussed in such statements. Among the factors that could cause actual
results to differ materially are: available sources and cost of fuel; federal
and state regulatory initiatives that increase competition, threaten cost and
investment recovery, and impact rate structures; the ability of the Company to
successfully reduce its cost structure; the successful integration of the
Company's subsidiaries; the degree to which the Company develops unregulated
business ventures; the ability of the Company to identify and make complementary
acquisitions, as well as the successful integration of such acquisitions;
inflationary trends and interest rates; the ability of the Company and its
significant vendors to modify their computer software, hardware and databases to
accommodate the year 2000; and other risks detailed from time to time in other
reports and other documents filed by the Company and its predecessors with the
Securities and Exchange Commission. For any of these statements, the Company
claims the protection of the safe harbor for forward-looking information
contained in the Private Securities Litigation Reform Act of 1995, as amended.
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company and its subsidiaries are subject to various risk exposures and
uncertainties associated with their operations. The primary risk exposures are
related to firm gas contracts, financial instruments, various regulatory
initiatives of the NYPSC and FERC, the increasingly competitive energy
environment, and foreign currency fluctuations. The Company's exposure to the
aforementioned market risks has remained substantially unchanged from December
31, 1998. However, due to the increased level of investment in Canadian
affiliates in December 1998 and its continued investment in Northern Ireland,
the Company's exposure to foreign currency fluctuations has increased. At
September 30, 1999, the Company has approximately $245.0 million invested in
these affiliates.
Also, during the period from January 1, 1999 to September 30, 1999, Brooklyn
Union utilized derivative instruments, primarily swaps, to "lock-in"
approximately 60% of its profit margins related to sales to its large-volume
customers. The utility tariff applicable to certain large-volume customers
permits gas to be sold at prices established monthly within a specified range
expressed as a percentage of prevailing alternate fuel oil prices. Whenever
hedge positions are in effect, the Company's subsidiaries are exposed to credit
risk in the event of nonperformance by counter parties to derivative contracts,
as well as nonperformance by the counter parties of the transactions against
which they are hedged. The Company believes that the credit risk related to the
swap instruments is no greater than that associated with the primary commodity
contracts which they hedge, and that reduction of the exposure to price risk
lowers the Company's overall business risk.
Over the past few years, the NYPSC has been formulating a policy framework to
guide the transition of New York State's gas distribution industry in the
deregulated gas industry environment. In November 1998, the NYPSC issued a
policy statement setting forth its vision for furthering competition in the
natural gas industry. Under this vision, regulated natural gas utilities or
local distribution companies ("LDC's") would plan to exit the business of
purchasing gas for and selling gas to customers (the merchant function) over the
next three to seven years. LDC's would remain the operators of the gas system
(the distribution function) and the provider of last resort of natural gas
supplies during that period and until alternatives are developed. The NYPSC's
goal is to encourage more competition at the local level by separating the
merchant function from the distribution function.
As required by NYPSC's policy statement, the Company filed its restructuring
proposal with the NYPSC in October 1999. In its filing, the Company offers a
comprehensive restructuring plan designed to (i) provide a significant impetus
toward exiting the gas supply business and (ii) present the NYPSC with an
opportunity to realize its vision of a competitive unbundled gas supply market
for all customers within the transitional time frame of three to seven years.
Under the Company's proposal the Company would continue to be the provider of
last resort during the transition period. The restructuring plan seeks to "jump
start" the migration of the mass customer market (especially the residential and
the small commercial and industrial markets) from bundled utility sales service
to unbundled transportation service, accelerates the elimination of regulatory
cost burdens from the gas supply market, provides protections for low income
customers, and sets forth a plan to minimize potential stranded costs. The
Company believes that its proposal strikes a balance among competing stakeholder
interests in order to most effectively make available the benefits of the
unbundled gas supply market to all customers. The Company currently is not able
to determine the outcome of this proceeding and what effect, if any, it may have
on the Company's operations.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Subsequent to the closing of the LIPA Transaction and KeySpan Acquisition,
former shareholders of LILCO commenced 13 class action lawsuits in the New York
State Supreme Court, Nassau County, against the Company and each of the former
officers and directors of LILCO . These actions were consolidated in August
1998. The consolidated action alleges that, in connection with certain payments
LILCO had determined were payable in connection with the LIPA Transaction and
KeySpan Acquisition to LILCO's chairman, and to former officers of LILCO (the
"Payments"): (i) the named defendants breached their fiduciary duty owed to
LILCO and KSE former and/or current Company shareholders as a result of the
Payments; (ii) the named defendants intended to defraud such shareholders by
means of manipulative, deceptive and wrongful conduct, including materially
inaccurate and incomplete news reports and filings with the SEC; and (iii) the
named defendants recklessly and/or negligently failed to disclose material facts
associated with the Payments.
In addition, three shareholder derivative actions have been commenced pursuant
to which such shareholders seek the return of the Payments or damages resulting
from among other things, an alleged breach of fiduciary duty on the part of the
former LILCO officers and directors. One action was brought on behalf of LILCO
in federal court. The Company moved to dismiss this action in September 1998,
and on June 25, 1999, the federal court issued an order dismissing this action.
The other two actions were brought on behalf of the Company in New York State
Supreme Court, Nassau County. In one of these state court actions, the Company's
directors and the recipients of the Payments are also named as defendants.
Finally, two class action securities suits were filed in federal court alleging
that certain officers and directors of LILCO violated the federal securities
laws by failing to properly disclose that the LIPA Transaction and KeySpan
Acquisitions would trigger the Payments. These actions were consolidated in
October 1998.
On April 28, 1999, the Company signed a Stipulation and Agreement of Settlement
to settle the above-referenced actions, except for the federal court derivative
action, in exchange for (i) $7.9 million to be distributed (less plaintiffs'
attorneys fees) to certain former LILCO and KSE shareholders and certain
MarketSpan shareholders and (ii) the Company's agreement to implement certain
corporate governance and executive compensation procedures. In this respect, the
Company has agreed to, among other things, certain requirements with respect to
the composition of its Audit and Compensation and Nominating Committees and has
agreed to be bound by a number of enumerated principles in connection with the
establishment and payment of executive compensation and severance benefits.
These requirements, which are also required to be detailed in the Company's
proxy statements for annual meetings of shareholders, may not be altered or
rescinded prior to January 1, 2002. Further, the entire $7.9 million settlement
commitment will be funded from insurance. The parties have submitted the
settlement to the Nassau County Supreme Court for its review and approval. On
June 30, 1999, following a hearing to consider the fairness of the settlement,
the court gave final approval of the settlement. The parties have submitted to
the court a judgment of settlement and on July 1, 1999 the court approved that
judgment. On August 3, 1999 an intervener plaintiff filed a notice of appeal of
that order, however that appeal was subsequently withdrawn. The parties have
filed a stipulation in Federal Court to dismiss the remaining federal actions,
with prejudice, based upon the State Court Settlement. The Federal court has
approved the stipulation and a final order was entered on October 12, 1999.
In addition to the above-mentioned actions, a class action lawsuit has also been
filed in the New York State Supreme Court, Suffolk County, by the County of
Suffolk, on behalf of itself and other Suffolk County ratepayers, against
LILCO's former officers and/or directors. The County of Suffolk alleges that the
Payments were improper, and seeks to recover the Payments for the benefit of
Suffolk County ratepayers. The Company moved to consolidate this action with the
above-mentioned consolidated action in October 1998. On May 4, 1999, the parties
submitted a stipulation of discontinuation to the court.
In October 1998, the County of Suffolk and the Towns of Huntington and Babylon
commenced an action against LIPA, the Company, the NYPSC and others in the
United States District Court for the Eastern District of New York (the
"Huntington Lawsuit"). The Huntington Lawsuit alleges, among other things, that
LILCO ratepayers (i) have a property right to receive or share in the alleged
capital gain that resulted from the transaction with LIPA (which gain is alleged
to be at least $1 billion); and (ii) that LILCO was required to refund to
ratepayers the amount of a Shoreham-related deferred tax reserve (alleged to be
at least $800 million) carried on the books of LILCO at the consummation of the
LIPA Transaction. In December 1998, and again in June 1999, the plaintiffs
amended their complaint. The amended complaint contains allegations relating to
the Payments and adds the recipients of the Payments as defendants. In June
1999, the Company was served with the second amended complaint. On August 23,
1999, the Company filed a motion to dismiss the second amended complaint.
Finally, certain other proceedings have been commenced relating to the Payments
and disclosures made by LILCO with respect thereto. These proceedings include
investigations by the New York State Attorney General, the NYPSC and LIPA, joint
hearings conducted by two committees of the New York State Assembly, and an
informal, non-public inquiry by the SEC. In December 1998, the Company settled
with LIPA and the NYPSC. The agreement includes a payment of $5.2 million by the
Company to LIPA that will be used by LIPA to supply postage-paid bill return
envelopes to customers for the next three years. The Company also agreed to
fully reimburse and indemnify LIPA for costs incurred by LIPA, amounting to
approximately $765,000, for attorneys and other consultants involved in the
investigation. Such amounts are not covered by insurance. In March 1999, the
Company settled with the New York Attorney General. The Company agreed to
implement and adhere to the corporate governance and executive compensation
procedures in accordance with the settlement of the shareholder actions and pay
the New York Attorney General $1.5 million. One half of the $1.5 million will be
covered by insurance. To date, no action has been taken by the SEC.
At this time the Company is unable to determine the outcome of the ongoing
proceedings, or any of the remaining lawsuits described above.
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
*27 Financial Data Schedule
(b) Reports on Form 8-K
In its Report on Form 8-K dated November 5, 1999, the Company reported that it
has entered into a definitive agreement with Eastern Enterprises ("Eastern"),
pursuant to which KeySpan will acquire all of the outstanding common stock of
Eastern.
In its Report on Form 8-K dated September 16, 1999, the Company reported
(1)that it intends to begin a process to review strategic alternatives
for The Houston Exploration Company, in which the Company has a 64%
share ownership.
(2)that it currently believes that its earnings for the year ending
December 31, 1999, will exceed most securities analysts' estimates.
- -------------------------
*Filed Herewith
<PAGE>
KEYSPAN CORPORATION AND SUBSIDIARIES
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on behalf of the undersigned
there unto duly authorized.
KEYSPAN CORPORATION
(Registrant)
Date: November 10, 1999 /s/ Gerald Luterman
--------------------------
Gerald Luterman
Senior Vice President and
Chief Financial Officer
Date: November 10, 1999 /s/ Ronald S. Jendras
-----------------------
Ronald S. Jendras
Vice President, Controller
and Chief Accounting Officer
<TABLE> <S> <C>
<ARTICLE> UT
<LEGEND>
This schedule contains summary financial information extracted from the
Statement of Income, Balance Sheet and Statement of Cash Flows, and is qualified
in its entirety by reference to such financial statements.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> SEP-30-1999
<BOOK-VALUE> PER-BOOK
<TOTAL-NET-UTILITY-PLANT> 4,112,437
<OTHER-PROPERTY-AND-INVEST> 325,929
<TOTAL-CURRENT-ASSETS> 992,979
<TOTAL-DEFERRED-CHARGES> 926,535
<OTHER-ASSETS> 0
<TOTAL-ASSETS> 6,357,880
<COMMON> 1,342
<CAPITAL-SURPLUS-PAID-IN> 2,259,158
<RETAINED-EARNINGS> 441,398
<TOTAL-COMMON-STOCKHOLDERS-EQ> 2,701,898
363,000
84,359
<LONG-TERM-DEBT-NET> 1,663,040
<SHORT-TERM-NOTES> 0
<LONG-TERM-NOTES-PAYABLE> 103,950
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0
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<OTHER-ITEMS-CAPITAL-AND-LIAB> 1,440,633
<TOT-CAPITALIZATION-AND-LIAB> 6,357,880
<GROSS-OPERATING-REVENUE> 538,469
<INCOME-TAX-EXPENSE> 5,540
<OTHER-OPERATING-EXPENSES> 501,686
<TOTAL-OPERATING-EXPENSES> 507,226
<OPERATING-INCOME-LOSS> 31,243
<OTHER-INCOME-NET> 4,434
<INCOME-BEFORE-INTEREST-EXPEN> 35,677
<TOTAL-INTEREST-EXPENSE> 26,661
<NET-INCOME> 9,016
8,688
<EARNINGS-AVAILABLE-FOR-COMM> 328
<COMMON-STOCK-DIVIDENDS> 57,692
<TOTAL-INTEREST-ON-BONDS> 27,338
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<EPS-BASIC> 0.00
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