<PAGE 1>
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549-1004
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 June 30, 1998
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 2-1647
COMMONWEALTH GAS COMPANY
(Exact name of registrant as specified in its charter)
Massachusetts 04-1989250
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Main Street, Cambridge, Massachusetts 02142-9150
(Address of principal executive offices) (Zip Code)
(617) 225-4000
(Registrant's telephone number, including area code)
(Former name, address and 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 [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Outstanding at
Class of Common Stock August 1, 1998
Common Stock, $25 par value 2,857,000 shares
The Company meets the conditions set forth in General Instruction H(1)(a) and
(b) of Form 10-Q as a wholly-owned subsidiary and is therefore filing this
Form with the reduced disclosure format.
<PAGE 2>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
COMMONWEALTH GAS COMPANY
CONDENSED BALANCE SHEETS
JUNE 30, 1998 AND DECEMBER 31, 1997
ASSETS
(Dollars in thousands)
June 30, December 31,
1998 1997
(Unaudited)
PROPERTY, PLANT AND EQUIPMENT, at original cost $380,747 $375,083
Less - Accumulated depreciation 118,400 110,661
262,347 264,422
Add - Construction work in progress 2,334 570
264,681 264,992
CURRENT ASSETS
Cash 9 1,867
Advances to affiliates 400 -
Accounts receivable 32,268 49,323
Unbilled revenues 2,658 19,121
Inventories, at average cost 21,691 24,526
Prepaid taxes -
Property - 3,176
Income 3,607 5,640
Other 1,687 1,234
62,320 104,887
DEFERRED CHARGES
Regulatory assets 21,383 20,873
Other 5,569 5,214
26,952 26,087
$353,953 $395,966
See accompanying notes.
<PAGE 3>
COMMONWEALTH GAS COMPANY
CONDENSED BALANCE SHEETS
JUNE 30, 1998 AND DECEMBER 31, 1997
CAPITALIZATION AND LIABILITIES
(Dollars in thousands)
June 30, December 31,
1998 1997
(Unaudited)
CAPITALIZATION
Common Equity -
Common stock, $25 par value -
Authorized and outstanding -
2,857,000 shares, wholly-owned by
Commonwealth Energy System (Parent) $ 71,425 $ 71,425
Amounts paid in excess of par value 27,739 27,739
Retained earnings 18,321 16,871
117,485 116,035
Long-term debt, less current sinking
fund requirements 105,800 105,800
223,285 221,835
CURRENT LIABILITIES
Interim Financing -
Notes payable to banks - 39,325
- 39,325
Other Current Liabilities -
Current sinking fund requirements 3,650 3,650
Accounts payable -
Affiliates 3,820 1,869
Other 15,720 32,450
Accrued taxes -
Local property and other 801 3,366
Other 31,971 20,595
55,962 61,930
55,962 101,255
DEFERRED CREDITS
Accumulated deferred income taxes 39,197 38,322
Unamortized investment tax credits 5,361 5,461
Other 30,148 29,093
74,706 72,876
$353,953 $395,966
See accompanying notes.
<PAGE 4>
COMMONWEALTH GAS COMPANY
CONDENSED STATEMENTS OF INCOME AND RETAINED EARNINGS
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(Dollars in thousands - unaudited)
Three Months Ended Six Months Ended
1998 1997 1998 1997
GAS OPERATING REVENUES $ 56,301 $ 61,062 $165,089 $193,375
OPERATING EXPENSES
Cost of gas sold 32,618 33,385 88,163 108,025
Other operation and maintenance 20,207 26,992 40,057 46,694
Depreciation 1,842 1,768 6,500 6,240
Taxes -
Income (1,145) (2,337) 7,311 8,113
Local property 994 1,233 3,721 3,836
Payroll and other 619 643 1,738 1,964
55,135 61,684 147,490 174,872
OPERATING INCOME 1,166 (622) 17,599 18,503
OTHER INCOME 100 11 280 87
INCOME BEFORE INTEREST
CHARGES 1,266 (611) 17,879 18,590
INTEREST CHARGES
Long-term debt 2,186 1,656 4,372 3,312
Other interest charges 645 926 1,373 1,909
Allowance for borrowed funds
used during construction (20) (21) (29) (32)
2,811 2,561 5,716 5,189
NET INCOME (LOSS) (1,545) (3,172) 12,163 13,401
RETAINED EARNINGS -
Beginning of period 30,579 27,429 16,871 10,856
Dividends on common stock (10,713) (5,714) (10,713) (5,714)
RETAINED EARNINGS -
End of period $ 18,321 $ 18,543 $ 18,321 $ 18,543
See accompanying notes.
<PAGE 5>
COMMONWEALTH GAS COMPANY
CONDENSED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(Dollars in thousands - unaudited)
1998 1997
OPERATING ACTIVITIES
Net income $ 12,163 $ 13,401
Effects of noncash items -
Depreciation and amortization 8,069 7,579
Deferred income taxes and investment
tax credits, net 650 856
Change in working capital, exclusive of cash,
advances to affiliates and interim financing 35,141 37,285
All other operating items 85 (1,454)
Net cash provided by operating activities 56,008 57,667
INVESTING ACTIVITIES
Additions to property, plant and equipment
(inclusive of AFUDC) (7,428) (6,790)
Advances to affiliates (400) -
Net cash used for investing activities (7,828) (6,790)
FINANCING ACTIVITIES
Payment of dividends (10,713) (5,714)
Payment of short-term borrowings (39,325) (34,875)
Payments to affiliates - (9,175)
Net cash used for financing activities (50,038) (49,764)
Net increase (decrease) in cash (1,858) 1,113
Cash at beginning of period 1,867 421
Cash at end of period $ 9 $ 1,534
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest, net of amounts capitalized $ 5,462 $ 4,855
Income taxes $ 4,638 $ 6,106
See accompanying notes.
<PAGE 6>
COMMONWEALTH GAS COMPANY
NOTES TO CONDENSED FINANCIAL STATEMENTS
(1) General Information
Commonwealth Gas Company (the Company) is a wholly-owned subsidiary
of Commonwealth Energy System. The parent company is referred to in this
report as the "System" and together with its subsidiaries is collectively
referred to as "the system." The System is an exempt public utility
holding company under the provisions of the Public Utility Holding
Company Act of 1935 and, in addition to its investment in the Company,
has interests in other utility and several non-regulated companies.
The Company has 596 regular employees including 402 (67%) who are
represented by three collective bargaining units. In September 1998, a
collective bargaining unit representing approximately 2% of regular
employees is scheduled to expire. Two additional contracts (together
representing approximately 65% of regular employees) will remain in
effect until March and June of 2002.
(2) Significant Accounting Policies
(a) Principles of Accounting
The Company's significant accounting policies are described in Note
2 of Notes to Financial Statements included in its 1997 Annual Report on
Form 10-K filed with the Securities and Exchange Commission. For interim
reporting purposes, the Company follows these same basic accounting
policies but considers each interim period as an integral part of an
annual period and makes allocations of certain expenses to interim
periods based upon estimates of revenue from firm sales for the year.
Generally, certain expenses which relate to more than one interim
period are allocated to other periods to more appropriately match
revenues and expenses. Principal items of expense which are allocated
other than on the basis of passage of time are depreciation and property
taxes. These expenses are recorded for interim reporting purposes based
upon projected gas revenue. Income tax expense is recorded using the
statutory rates in effect applied to book income subject to tax recorded
in the interim period.
The unaudited financial statements for the periods ended June 30,
1998 and 1997 reflect, in the opinion of the Company, all adjustments
(consisting of only normal recurring accruals, except for a one-time
charge recorded in June 1997 as described in Management's Discussion and
Analysis of Results of Operations) necessary to summarize fairly the
results for such periods. In addition, certain prior period amounts are
reclassified from time to time to conform with the presenta-tion used in
the current period's financial statements.
The results for interim periods are not necessarily indicative of
results for the entire year because of variations in gas consumption due
to the heating season and also because of the Company's seasonal rate
structure.
<PAGE 7>
COMMONWEALTH GAS COMPANY
(b) Regulatory Assets and Liabilities
The Company is regulated as to rates, accounting and other matters
by the Massachusetts Department of Telecommunications and Energy (DTE).
Based on the current regulatory framework, the Company accounts for
the economic effects of regulation in accordance with the provisions of
Statement of Financial Accounting Standards (SFAS) No. 71, "Accounting
for the Effects of Certain Types of Regulation." The Company has
established various regulatory assets in cases where the DTE has
permitted or is expected to permit recovery of specific costs over time.
If all or a separable portion of the Company's operations becomes no
longer subject to the provisions of SFAS No. 71, a write-off of related
regulatory assets and liabilities would be required, unless some form of
transition cost recovery continues through rates established and
collected for the Company's remaining regulated operations. In addition,
the Company would be required to determine any impairment to the carrying
costs of deregulated plant and inventory assets.
The principal regulatory assets included in deferred charges were as
follows:
June 30, December 31,
1998 1997
(Dollars in thousands)
Postretirement benefits costs $ 9,183 $ 9,607
FERC Order 636 transition costs 6,652 7,336
Environmental costs 5,548 3,930
$21,383 $20,873
The principal regulatory liability, reflected in deferred credits-
other and relating to income taxes, was $8.2 million at June 30, 1998 and
$8.3 million at December 31, 1997. These regulatory assets are a
component that was included in the Company's consensus-based settlement
that was filed with the DTE on June 29, 1998.
(3) Commitments
Construction Program
The Company is engaged in a continuous construction program presently
estimated at $93 million for the five-year period 1998 through 2002. Of
that amount, $17.9 million is estimated for 1998. As of June 30, 1998,
the Company's actual construction expenditures amounted to approximately
$7.4 million, including an allowance for funds used during construction.
The Company expects to finance these expenditures on an interim basis with
internally-generated funds and short-term borrowings which are ultimately
expected to be repaid with the proceeds from the issuance of long-term
debt and/or equity securities.
The program is subject to periodic review and revision because of
factors such as changes in business conditions, rates of growth, effects
of inflation, equipment delivery schedules, licensing delays, availability
and cost of capital and environmental regulations.
<PAGE 8>
COMMONWEALTH GAS COMPANY
Item 2. Management's Discussion and Analysis of Results of Operations
The following is a discussion of certain significant factors which have
affected operating revenues, expenses and net income during the periods
included in the accompanying Condensed Statements of Income. This discussion
should be read in conjunction with the Notes to Condensed Financial Statements
appearing elsewhere in this report.
A summary of the period to period changes in the principal items included
in the Condensed Statements of Income for the three and six months ended June
30, 1998 and 1997 is shown below:
Three Months Six Months
Ended June 30, Ended June 30,
1998 and 1997 1998 and 1997
Increase (Decrease)
(Dollars in thousands)
Gas Operating Revenues $(4,761) (7.8)% $(28,286) (14.6)%
Operating Expenses -
Cost of gas sold (767) (2.3) (19,862) (18.4)
Other operation and maintenance (6,785) (25.1) (6,637) (14.2)
Depreciation 74 4.2 260 4.2
Taxes -
Federal and state income 1,192 51.0 (802) (9.9)
Local property and other (263) (14.0) (341) (5.9)
(6,549) (10.6) (27,382) (15.7)
Operating Income 1,788 287.5 (904) (4.9)
Other Income 89 809.1 193 221.8
Income Before Interest Charges 1,877 307.2 (711) (3.8)
Interest Charges 250 9.8 527 10.2
Net Income $ 1,627 51.3 $ (1,238) (9.2)
Firm Unit Sales - BBTU (1,697) (24.9) (4,496) (18.7)
The following is a summary of unit sales for the periods indicated:
Unit Sales - In Billions of British Thermal Units (BBTU)
Off- Quasi-
Total Firm Interruptible System Firm
Three Months Ended
June 30, 1998 6,461 5,107 466 888 -
June 30, 1997 7,990 6,804 428 735 23
Six Months Ended
June 30, 1998 22,482 19,565 992 1,925 -
June 30, 1997 26,498 24,061 879 1,532 26
<PAGE 9>
COMMONWEALTH GAS COMPANY
Operating Revenues and Unit Sales
Operating revenues for the current quarter and first six months of 1998
decreased by $4.8 million and $28.3 million, respectively, due primarily to
the considerable declines in total unit sales. Also affecting revenues in
both periods was a lower average cost of gas.
The decline in firm unit sales for both the current quarter and the first
six months of 1998 reflects significant decreases in sales to all customer
segments that were caused by the milder winter weather experienced in our
region. The fluctuation in non-firm sales reflects the competitive
environment that currently exists in the natural gas industry.
Other Operation and Maintenance
The $6.8 million and $6.6 million decreases in other operation and
maintenance costs for the current quarter and the first half of 1998,
respectively, reflects the absence of costs associated with a Personnel
Reduction Program (PRP) that was initiated during the second quarter of last
year ($6.7 million) and the resulting labor savings realized during this year
($700,000 in the second quarter and $1.8 million for the six month period).
These savings were offset, in part, by higher costs ($1.3 million in the
current quarter and $2.8 million year-to-date) relating to the outsourcing of
the information technology, telecommunications and network services function
that include costs associated with Year 2000 compliance.
Depreciation and Taxes
Depreciation increased slightly during the current quarter and first six
months of 1998 due to a higher level of depreciable plant. The fluctuation in
federal and state income taxes for both periods was due to the levels of
pretax income. Local property and other taxes decreased in both current
periods due primarily to lower payroll costs resulting from the PRP discussed
above.
Other Income and Interest Charges
For both the current quarter and the first half of 1998, the increase in
other income was due primarily to higher revenues associated with the
Company's merchandising program for water heaters and heating systems.
For the current quarter and the first six months of 1998, total interest
charges increased $250,000 and $527,000, respectively, due primarily to higher
long-term interest charges ($521,000 and $1 million) resulting from the
issuance of two new series of long-term debt in late September 1997 and an
increase in interest charges related to deferred gas costs ($70,000 and
$320,000) offset, in part, by declines in interest on short-term borrowings
($347,000 and $850,000) due primarily to a lower average level of borrowings
reflecting the use of proceeds from the new long-term debt issues.
<PAGE 10>
COMMONWEALTH GAS COMPANY
Environmental Matters
The Company is participating in the assessment of a number of former
manufactured gas plant (MGP) sites and alleged MGP waste disposal locations to
determine if and to what extent such sites have been contaminated and whether
the Company may be responsible for remedial actions. The DTE has approved
recovery of costs associated with MGP sites. The Company is also involved in
certain other known or potentially contaminated sites where the associated
costs may not be recoverable in rates. For further information on other
related environmental matters, refer to the Company's 1997 Annual Report on
Form 10-K.
Gas Industry Restructuring
On July 18, 1997, the DTE directed the ten Massachusetts gas utilities,
including the Company, to initiate a collaborative process that will establish
guiding principles and specific procedures for unbundling rates and services
for all customers.
The DTE listed six principles that it considers important to the success
of a competitive natural gas market that will provide safe and reliable
service at the lowest possible cost to customers. The natural gas market
would: (1) provide the broadest possible choice; (2) provide all customers
with an opportunity to share in the benefits of increased competition; (3)
ensure full and fair competition in the gas supply market; (4) functionally
separate supply from local distribution services; (5) support and further the
goals of environmental regulation; and lastly (6) rely on incentive regulation
where a fully competitive market cannot or presently does not exist.
In addition, the DTE outlined several specific issues that it expects the
collaborative to address: (1) services that can be offered on a competitive
basis; (2) terms and conditions of service; (3) consumer protections and
social programs; (4) mitigation of gas related and non-gas related transition
costs; (5) third-party supplier qualifications; and (6) curtailment
principles. The DTE also suggested that the collaborative reconsider the
pricing and provision of interruptible transportation services.
On August 18, 1997, the DTE noted that the development of unbundling
principles and procedures constitutes only a part of the effort necessary to
develop full customer choice for gas service. The DTE recognized that each
local distribution company will be filing a comprehensive unbundling proposal
at some later date. In the interim, the DTE directed those companies that do
not currently have unbundled rates, including the Company, to have such rates
in effect no later than November 1, 1998.
The Company and eight other gas utilities initiated the Massachusetts Gas
Unbundling Collaborative (the Collaborative) on September 15, 1997, to explore
and develop generic principles to achieve the goals set forth by the DTE.
Collaborative participants represented a broad array of stakeholder interests
including the utilities, natural gas marketers, interstate pipelines,
producers, energy consultants, labor unions, consumer advocates and
representatives for the DTE, the Massachusetts Attorney General's Office, and
the Massachusetts Division of Energy Resources.
<PAGE 11>
COMMONWEALTH GAS COMPANY
On November 15, 1997, the Collaborative filed a status report with the DTE
that outlined its progress in moving the gas industry to a more competitive
structure that provides all customers with meaningful access to competitive
markets consistent with public-policy objectives. The status report
summarized the substantive issues that had been the subject of Collaborative
discussion, including: (1) the disposition of interstate pipeline capacity;
(2) the unbundling of rates; (3) customer enrollment, billing, termination,
and information exchange procedures; and, (4) consumer protections, low-income
discounts, and competitive supplier registration. The status report also
established a schedule to implement a final unbundling plan by November 1,
1998.
In accordance with that schedule, the Collaborative submitted to the DTE a
Rate Unbundling Status Report on January 16, 1998. The report detailed an
overall process for developing unbundled rates consistent with the DTE's rate
structure goals of efficiency, fairness, simplicity, continuity and earnings
stability. In response to the Collaborative's proposal, the DTE ordered the
Company to submit, by April 15, 1998, a consensus-based settlement, or partial
settlement, of unbundled rate tariffs designed according to the general
concepts set forth in the report. Subsequently, the DTE granted the Company
an extension to reach a settlement with the Collaborative's participants.
On March 18, 1998, the Collaborative filed a second status report that
summarized the progress made by the Collaborative since it had last updated
the DTE on its activities. The Collaborative reported that it had made
substantial progress in the areas of rate unbundling and terms and conditions
for unbundled services. The report also described at least two policy issues,
capacity disposition and cost responsibility, on which the Collaborative's
participants require specific regulatory guidance before completing a
comprehensive framework for the transition to a more competitive market
structure.
In response to the March report, the DTE issued a Notice of Inquiry to
address the Collaborative's unresolved issues. On May 1, 1998, the Company
filed initial written comments in the proceeding arguing in favor of a
mandatory capacity assignment proposal. On June 8, 1998, the DTE, as part of
the aforementioned Notice of Inquiry, received final comments regarding the
feasibility of implementing comprehensive unbundling for all local
distribution companies by November 1, 1998. On June 29, 1998, the Company and
three other Massachusetts local distribution companies submitted unbundled
rate settlements to the DTE for consideration.
The DTE issued a procedural order regarding the Notice of Inquiry on
July 2, 1998 which stated that the introduction of comprehensive unbundling
for all classes of customers for all local distribution companies is not
feasible by November 1, 1998. The DTE stated that unbundled rates for the
four local distribution companies that filed settlements on June 29, 1998
(including the Company) shall be in place by November 1, 1998 and that
comprehensive unbundling shall be implemented no later than April 1, 1999.
Also, as part of the July 2, 1998 procedural order, the DTE ordered that a set
of proposed Model Terms and Conditions be submitted by the Collaborative no
later than July 15, 1998. These Model Terms and Conditions were submitted on
July 10, 1998 and a decision will be issued by the DTE no later than September
30, 1998. The DTE intends to issue an order on capacity assignment and cost
responsibility by October 30, 1998.
<PAGE 12>
COMMONWEALTH GAS COMPANY
Year 2000
The Company has been involved in Year 2000 compliancy since 1996. A
complete inventory and review of software, information processing, delivery
systems and operational components for certain facilities has been completed,
and work continues on computer systems wherever necessary. While some
computer systems have already been updated, tested and placed in production,
the system expects to complete the balance of the modifications by mid-1999.
Costs associated with Year 2000 compliancy are being expensed as incurred.
The total cost of this project is expected to be funded with internally
generated funds.
Management believes that, with appropriate modifications, the Company will
be fully compliant regarding all Year 2000 issues and will continue to provide
its products and services uninterrupted through the millennium change.
Failure to become fully compliant could have a significant impact on the
Company's operations.
New Accounting Standard
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 (SFAS No. 133), "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 133 establishes
accounting and reporting standards requiring that every derivative instrument
(including certain derivative instruments embedded in other contracts possibly
including fixed-price gas supply contracts) be recorded on the balance sheet
as either an asset or liability measured at its fair value. SFAS No. 133
requires that changes in the derivative's fair value be recognized currently
in earnings unless specific hedge accounting criteria are met. Special
accounting for qualifying hedges allows a derivative's gains and losses to
offset related results on the hedged item in the income statement, and
requires that a company must formally document, designate and assess the
effectiveness of transactions that receive hedge accounting.
SFAS No. 133 is effective for fiscal years beginning after June 15, 1999
and may be implemented as of the beginning of any fiscal quarter after
issuance but cannot be applied retroactively. SFAS No. 133 must be applied to
derivative instruments and certain derivative instruments embedded in hybrid
contracts that were issued, acquired or substantively modified after December
31, 1997 and, at the company's election, before January 1, 1998.
The Company has not yet quantified the impacts of adopting SFAS No. 133 on
its financial statements and has not determined the timing of its method of
adopting SFAS No. 133.
Forward-Looking Statements
This discussion contains statements which, to the extent it is not a
recitation of historical fact, constitute "forward-looking statements" and is
intended to be subject to the safe harbor protection provided by the Private
Securities Litigation Reform Act of 1995. A number of important factors
<PAGE 13>
COMMONWEALTH GAS COMPANY
affecting the Company's business and financial results could cause actual
results to differ materially from those reflected in the forward-looking
statements or projected amounts. Those factors include developments in the
legislative, regulatory and competitive environment, certain environmental
matters, demands for capital and the availability of cash from various
sources.
<PAGE 14>
COMMONWEALTH GAS COMPANY
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company is not a party to any pending material legal proceeding.
Item 5. Other Information
None.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit 27 - Financial Data Schedule
Filed herewith as Exhibit 1 is the Financial Data Schedule for the
three months ended June 30, 1998.
(b) Reports on Form 8-K
No reports on Form 8-K were filed for the three months ended June 30,
1998.
<PAGE 15>
COMMONWEALTH GAS COMPANY
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
COMMONWEALTH GAS COMPANY
(Registrant)
Principal Financial and
Accounting Officer:
JAMES D. RAPPOLI
James D. Rappoli,
Financial Vice President
and Treasurer
Date: August 14, 1998
<TABLE> <S> <C>
<ARTICLE> UT
<LEGEND>
This schedule contains summary financial information extracted from the
balance sheet, statement of income, statement of retained earnings and
statement of cash flows contained in Form 10-Q of Commonwealth Gas Company for
the six months ended June 30, 1998 and is qualified in its entirety by
reference to such financial statements.
</LEGEND>
<CIK> 0000022620
<NAME> COMMONWEALTH GAS COMPANY
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