SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant To Section 13 or 15(d) of
The Securities Exchange Act of 1934
Date of Report (Date of earliest event reported): November 19,1999
PHILADELPHIA SUBURBAN CORPORATION
(Exact name of registrant as specified in its charter)
Pennsylvania 1-6659 23-1702594
- -------------- ----------- ---------------------
(State or other (Commission (IRS Employer
jurisdiction of File Number) Identification Number)
incorporation)
762 W. Lancaster Avenue, Bryn Mawr, Pennsylvania 19010
------------------------------------------------ ----------
(Address of principal executive offices) (Zip Code)
(610) 527-8000
----------------------------------------------------
(Registrant's telephone number, including area code)
Not Applicable
-------------------------------------------------------------
(Former name or former address, if changed since last report.)
<PAGE>
Item 5. Other Events
The Registrant hereby files as Exhibit 99.5 the consolidated financial
statements of Philadelphia Suburban Corporation as of December 31, 1998 and 1997
and for each of the years in the three-year period ended December 31, 1998,
which have been restated to reflect the recent business combination with
Consumers Water Company accounted for under the pooling-of-interests method of
accounting, the notes thereto and the independent auditors' report of KPMG LLP.
Item 7. Financial Statements, Pro Forma Financial Information and Exhibits
(c) Exhibits
(i) Consolidated balance sheets and statements of capitalization
of Philadelphia Suburban Corporation and subsidiaries as of
December 31, 1998 and 1997, and the related consolidated
statements of income and cash flow for each of the years in
the three-year period ended December 31, 1998.
(ii) Consent of KPMG LLP.
2
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PHILADELPHIA SUBURBAN CORPORATION
Date: November 19, 1999 /s/ Roy H. Stahl
------------------------------------
Name: Roy H. Stahl
Title: Senior Vice President and
General Counsel
3
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Page
- ------- ----
<S> <C>
23 Consent of KPMG LLP. 5
99.5 Consolidated balance sheets and statements of capitalization of 6
Philadelphia Suburban Corporation and subsidiaries as of December
31, 1998 and 1997, and the related consolidated statements of income
and cash flow for each of the years in the three-year period ended
December 31, 1998.
</TABLE>
4
EXHIBIT 23
The Board of Directors
Philadelphia Suburban Corporation:
We consent to incorporation by reference in the Registration Statements on Form
S-8 (1994 Equity Compensation Plan No. 333-70859), (1994 Employee Stock Purchase
Plan No. 033-52557), (1988 Stock Option Plan No. 33-27032), (1982 Stock Option
Plan No. 2-81757), (Consumers Water Company 401(k) Plan and Trust No.
333-81085), and on Form S-3 (Dividend Reinvestment and Direct Stock Purchase
Plan No. 333-42275), (Customer Stock Purchase Plan No. 33-64301) of Philadelphia
Suburban Corporation of our report dated May 21, 1999, relating to the
consolidated balance sheets and the statements of capitalization of Philadelphia
Suburban Corporation and subsidiaries as of December 31, 1998 and 1997 and the
related consolidated statements of income and cash flow for each of the years in
the three-year period ended December 31, 1998, which report is included in Form
8-K of Philadelphia Suburban Corporation filed on November 19, 1999.
/S/ KPMG LLP
Philadelphia, Pennsylvania
November 19, 1999
EXHIBIT 99.5
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
INDEPENDENT AUDITORS' REPORT
The Stockholders and Board of Directors
Philadelphia Suburban Corporation:
We have audited the accompanying consolidated balance sheets and statements
of capitalization of Philadelphia Suburban Corporation and subsidiaries as of
December 31, 1998 and 1997, and the related consolidated statements of income,
and cash flow for each of the years in the three-year period ended December 31,
1998. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
The financial statements give retroactive effect to the merger of
Philadelphia Suburban Corporation and Consumers Water Company on March 10, 1999,
which has been accounted for as a pooling-of-interests as described in the notes
to the consolidated financial statements. Generally accepted accounting
principles proscribe giving effect to a consummated business combination in
financial statements that do not include the date of consummation. The Company
has issued financial statements including the consummation date and the restated
financial statements are the primary financial statements of the Company.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Philadelphia
Suburban Corporation and subsidiaries as of December 31, 1998 and 1997, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998, in conformity with generally accepted
accounting principles.
/S/ KPMG LLP
KPMG LLP
Philadelphia, Pennsylvania
May 21, 1999
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
Years ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
----------------------------------------
<S> <C> <C> <C>
Operating revenues $ 250,718 $ 235,162 $ 216,313
Costs and expenses:
Operations and maintenance 100,139 96,571 92,940
Depreciation 27,189 25,581 23,196
Amortization 2,275 2,396 2,081
Taxes other than income taxes 21,930 21,345 20,088
----------------------------------------
151,533 145,893 138,305
Operating income 99,185 89,269 78,008
Other expense (income):
Interest expense 31,888 32,664 29,474
Dividends on preferred stock of subsidiary and
minority interest 142 590 692
Allowance for funds used during construction (1,245) (937) (1,054)
Losses (gains) on sales of properties (6,733) (690) 342
----------------------------------------
Income from continuing operations before income taxes 75,133 57,642 48,554
Provision for income taxes 30,118 22,432 19,350
----------------------------------------
Income from continuing operations 45,015 35,210 29,204
Discontinued operations:
Loss from operations, net of tax - 387 3,230
Loss (gain) on disposal of discontinued operations,
net of tax - 2,350 (965)
----------------------------------------
Net income 45,015 32,473 26,939
Dividends on preferred stock 195 195 21
----------------------------------------
Net income available to common stock $ 44,820 $ 32,278 $ 26,918
========================================
Basic net income (loss) per common share:
Continuing operations $ 1.11 $ 0.91 $ 0.78
Discontinued operations - (0.07) (0.06)
----------------------------------------
Total $ 1.11 $ 0.84 $ 0.72
========================================
Diluted net income (loss) per common share:
Continuing operations $ 1.10 $ 0.90 $ 0.77
Discontinued operations - (0.07) (0.06)
----------------------------------------
Total $ 1.10 $ 0.83 $ 0.71
========================================
Average common shares outstanding during the period:
Basic 40,362 38,650 37,376
========================================
Diluted 40,854 39,018 37,676
========================================
</TABLE>
See accompanying notes to consolidated financial statements.
2
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands of dollars, except per share amounts)
December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
-----------------------------
<S> <C> <C>
Assets
Property, plant and equipment, at cost $ 1,248,621 $ 1,166,941
Less accumulated depreciation 232,427 214,315
-----------------------------
Net property, plant and equipment 1,016,194 952,626
-----------------------------
Current assets:
Cash and cash equivalents 8,247 3,374
Accounts receivable and unbilled revenues, net 40,768 37,306
Inventory, materials and supplies 3,857 3,915
Prepayments and other current assets 7,026 7,587
-----------------------------
Total current assets 59,898 52,182
-----------------------------
Regulatory assets 57,697 55,968
Funds restricted for construction activity - 1,079
Deferred charges and other assets, net 22,762 19,637
Net assets of discontinued operations 182 1,670
-----------------------------
$ 1,156,733 $ 1,083,162
=============================
Liabilities and Stockholders' Equity
Stockholders' equity:
6.05% Series B cumulative preferred stock $ 3,220 $ 3,220
Common stock at $.50 par value, authorized 100,000,000 shares,
outstanding 40,702,311 and 39,111,642 in 1998 and 1997 20,617 19,744
Capital in excess of par value 244,457 211,182
Retained earnings 91,683 76,270
Minority interest 2,589 2,370
Treasury stock, 533,292 and 376,510 shares in 1998 and 1997 (9,478) (5,970)
-----------------------------
Total stockholders' equity 353,088 306,816
-----------------------------
Long-term debt, excluding current portion 413,309 404,242
Commitments
- -
Current liabilities:
Current portion of long-term debt and preferred stock of subsidiary 2,981 7,498
Loans payable 24,615 29,230
Accounts payable 25,248 15,436
Accrued interest 8,406 7,897
Accrued taxes 14,382 13,588
Other accrued liabilities 20,462 19,861
-----------------------------
Total current liabilities 96,094 93,510
-----------------------------
Deferred credits and other liabilities:
Deferred income taxes and investment tax credits 126,809 113,869
Customers' advances for construction 57,781 53,951
Other 8,735 8,537
-----------------------------
Total deferred credits and other liabilities 193,325 176,357
-----------------------------
Contributions in aid of construction 100,917 102,237
-----------------------------
$ 1,156,733 $ 1,083,162
=============================
</TABLE>
See accompanying notes to consolidated financial statements.
3
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CAPITALIZATION
(In thousands of dollars, except per share amounts)
December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
-----------------------
<S> <C> <C>
Stockholders' equity:
6.05% Series B cumulative preferred stock $ 3,220 $ 3,220
Common stock, $.50 par value 20,617 19,744
Capital in excess of par value 244,457 211,182
Retained earnings 91,683 76,270
Minority interest 2,589 2,370
Treasury stock (9,478) (5,970)
-----------------------
Total stockholders' equity 353,088 306,816
-----------------------
Preferred stock of subsidiary with mandatory
redemption requirements - 4,214
Current portion of preferred stock of subsidiary - 4,214
-----------------------
- -
-----------------------
Long-term debt:
First Mortgage Bonds secured by utility plant:
Interest Rate Range
0.00% to 1.00% 949 1,025
5.60% to 5.99% 21,945 12,345
6.00% to 6.49% 87,210 77,210
6.50% to 6.99% 55,200 55,200
7.00% to 7.49% 40,001 42,014
7.50% to 7.99% 23,000 23,000
8.00% to 8.49% 16,500 22,500
8.50% to 8.99% 9,011 10,236
9.00% to 9.49% 53,776 53,857
9.50% to 9.99% 51,820 54,420
10.00% to 10.55% 6,000 10,000
-----------------------
Total First Mortgage Bonds 365,412 361,807
Note payable to bank under revolving credit agreement, due January 2000 38,935 27,128
Notes payable to banks under revolving credit agreements, due June 2000 10,400 17,000
Installment note payable, 9%, due in equal annual payments through 2013 1,543 1,591
-----------------------
416,290 407,526
Current portion of long-term debt 2,981 3,284
-----------------------
Long-term debt, excluding current portion 413,309 404,242
-----------------------
Total capitalization $766,397 $711,058
=======================
</TABLE>
See accompanying notes to consolidated financial statements.
4
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
CONSOLIDATED CASH FLOW STATEMENTS
(In thousands of dollars)
Years ended December 31, 1998, 1997, and 1996
<TABLE>
<CAPTION>
1998 1997 1996
-----------------------------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income $ 45,015 $ 32,473 $ 26,939
Adjustments to reconcile net income to net cash
flows from operating activities:
Depreciation and amortization 29,464 27,977 25,277
Deferred income taxes 9,957 5,883 5,370
Losses (gains) on sales of properties (6,733) (690) 342
Net increase in receivables, inventory and prepayments (3,623) (933) (2,095)
Net increase in payables, accrued interest and
other accrued liabilities 11,216 4,801 2,327
Other (3,502) (2,094) (2,179)
Net cash flows from discontinued operations 1,489 184 1,258
Net loss (gain) from discontinued operations - 2,350 (965)
-----------------------------------------
Net cash flows from operating activities 83,283 69,951 56,274
-----------------------------------------
Cash flows from investing activities:
Property, plant and equipment additions, including allowance for
funds used during construction of $1,245, $937 and $1,054 (87,973) (67,378) (66,130)
Acquisitions of water and wastewater systems (24,498) (1,226) (44,110)
Proceeds from dispositions of properties 33,728 437 990
Decrease (increase) in funds restricted for construction activity 1,079 1,301 (2,093)
Other (899) (312) 1,448
-----------------------------------------
Net cash flows used in investing activities (78,563) (67,178) (109,895)
-----------------------------------------
Cash flows from financing activities:
Customers' advances and contributions in aid of construction 3,902 8,069 9,014
Repayments of customers' advances (3,062) (4,215) (4,203)
Net proceeds (repayments) of short-term debt (4,615) 6,316 5,829
Proceeds from long-term debt 33,395 29,631 75,006
Repayments of long-term debt including premium on
early retirement (24,918) (25,997) (24,810)
Redemption of preferred stock of subsidiary (4,214) (1,438) (1,515)
Proceeds from issuing common stock 33,056 14,800 18,857
Repurchase of common stock (3,801) (2,829) (760)
Dividends paid on preferred stock (195) (195) (4)
Dividends paid on common stock (29,349) (26,752) (25,137)
Other (46) (82) (167)
-----------------------------------------
Net cash flows from (used in) financing activities 153 (2,692) 52,110
-----------------------------------------
Net increase (decrease) in cash and cash equivalents 4,873 81 (1,511)
Cash and cash equivalents at beginning of year 3,374 3,293 4,804
-----------------------------------------
Cash and cash equivalents at end of year $ 8,247 $ 3,374 $ 3,293
=========================================
</TABLE>
See Summary of Significant Accounting Policies-Customers' Advances for
Construction, Acquisitions and Employee Stock and Incentive Plans footnotes
for description of non-cash investing and financing activities.
See accompanying notes to consolidated financial statements.
5
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements
(In thousands of dollars, except per share amounts)
Summary of Significant Accounting Policies
Basis of Presentation - On March 10, 1999, Philadelphia Suburban Corporation
(the "Company") completed a merger with Consumers Water Company ("CWC"). On the
date of the merger, the Company issued 13,014,015 shares of Common Stock in
exchange for all of the outstanding shares of CWC and CWC became a wholly-owned
subsidiary of the Company. The merger has been accounted for as a
pooling-of-interests under Accounting Principles Board Opinion No. 16.
Accordingly, the Company's consolidated financial statements and footnotes
presented in this report have been restated to include the accounts and results
of CWC as if the merger had been completed as of the beginning of the earliest
period presented. Certain reclassifications were made to the historic financial
statements of the two companies to conform presentations.
Nature of Operations - The business of the Company is conducted primarily
through its wholly-owned subsidiary Philadelphia Suburban Water Company ("PSW")
and the seven operating companies of CWC. PSW is a regulated public utility
which supplies water to approximately 300,000 customers. The service territory
of PSW covers a 482 square mile area located west and north of the City of
Philadelphia. In addition, water service is provided to approximately 6,700
customers through an operating and maintenance contract with a municipal
authority contiguous to PSW's service territory. CWC owns 100% of the voting
stock of four water companies and at least 96% of the voting stock of three
water companies. These water companies are regulated water utilities providing
water and wastewater service in 27 operating divisions to approximately 227,000
customers in Pennsylvania, Ohio, Illinois, New Jersey and Maine.
The customers of PSW and CWC's operating subsidiaries are residential,
commercial and industrial in nature, and no single customer accounted for more
than one percent of Operating Revenues. The regulated public utilities are
subject to regulation by the public utility commissions of the states in which
they operate. The respective public utility commissions have jurisdiction with
respect to rates, service, accounting procedures, issuance of securities,
acquisitions and other matters.
Consolidation - The consolidated financial statements include the accounts of
the Company and its subsidiaries as of December 31, 1998. All material
intercompany accounts and transactions have been eliminated.
Recognition of Revenues - Revenues include amounts billed to customers on a
cycle basis and unbilled amounts based on estimated usage from the latest
billing to the end of the accounting period. Non-utility revenues are recognized
when services are performed.
Property, Plant and Equipment and Depreciation - Property, plant and equipment
consist primarily of utility plant. The cost of additions includes contracted
cost, direct labor and fringe benefits, materials, overheads and, for certain
utility plant, allowance for funds used during construction. Water systems
acquired are recorded at estimated original cost of utility plant when first
devoted to utility service and the applicable depreciation is recorded to
accumulated depreciation. The difference between the estimated original cost,
less applicable accumulated depreciation, and the purchase price is recorded as
an acquisition adjustment within utility plant. At December 31, 1998, utility
plant includes a credit acquisition adjustment of $8,978, which is being
amortized over 20 years. Consistent with the Company's rate settlements, $331
was amortized during 1998, $481 was amortized during 1997 and $578 was amortized
during 1996.
Utility expenditures for maintenance and repairs, including minor renewals
and betterments, are charged to operating expenses in accordance with the system
of accounts prescribed by the public utility commissions of the states in which
the company operates. The cost of new units of property and betterments are
capitalized. When units of utility property are replaced, retired or abandoned,
the recorded value thereof is
6
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
credited to the asset account and such value, together with the net cost of
removal, is charged to accumulated depreciation.
The straight-line remaining life method is used to compute depreciation on
utility plant. Generally, the straight-line method is used with respect to
transportation and mechanical equipment, office equipment and laboratory
equipment.
In accordance with the requirements of Statement of Financial Accounting
Standards ("SFAS") No. 121, "Accounting for the Impairment of Long-lived Assets
and for Long-lived Assets to Be Disposed Of", the long-lived assets of the
Company, which consist primarily of Utility Plant in Service and a regulatory
asset, have been reviewed for impairment. There has been no change in
circumstances or events that have occurred that require adjustments to the
carrying values of these assets.
Allowance for Funds Used During Construction - The allowance for funds used
during construction ("AFUDC") is a non-cash credit which represents the
estimated cost of funds used to finance the construction of utility plant. AFUDC
is applied to construction projects requiring more than one month to complete.
No AFUDC is applied to projects funded by customer advances for construction or
contributions in aid of construction. AFUDC includes the net cost of borrowed
funds and a rate of return on other funds when used, and is recovered through
water rates as the utility plant is depreciated. There was no AFUDC related to
equity funds in any of the years presented.
Cash Equivalents - The Company considers all highly liquid investments with an
original maturity of three months or less, which are not restricted for
construction activity, to be cash equivalents.
Deferred Charges and Other Assets - Deferred bond and preferred stock issuance
expenses are amortized by the straight-line method over the life of the related
issues.
Call premiums related to the early redemption of long-term debt, along with
the unamortized balance of the related issuance expense, are deferred and
amortized over the life of the long-term debt used to fund the redemption.
Expenses associated with filing for rate increases are deferred and
amortized over periods that generally range from one to three years. Other
costs, for which the Company has received or expects to receive prospective rate
recovery, are deferred and amortized over the period of rate recovery.
Income Taxes - The Company accounts for certain income and expense items in
different time periods for financial reporting than for tax reporting purposes.
Deferred income taxes are provided on the temporary differences between the tax
basis of the assets and liabilities and the amounts at which they are carried in
the consolidated financial statements. The income tax effect of temporary
differences not allowed currently in rates is recorded as deferred taxes with an
offsetting regulatory asset or liability. These deferred income taxes are based
on the enacted tax rates expected to be in effect when such temporary
differences are projected to reverse.
Customers' Advances for Construction - Water mains or, in some instances, cash
advances to reimburse the Company its costs to construct water mains, are
contributed to the Company by customers, real estate developers and builders in
order to extend water service to their properties. The value of these
contributions is recorded as Customers' Advances for Construction. The Company
makes refunds on these advances over a specific period of time based on
operating revenues related to the main or as new customers are connected to and
take service from the main. After all refunds are made, any remaining balance is
7
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
transferred to Contributions in Aid of Construction. Non-cash property, in the
form of water mains, has been received, generally from developers, as advances
or contributions of $8,774, $6,080 and $1,543 in 1998, 1997 and 1996.
Contributions in Aid of Construction - Contributions in aid of construction
include direct non-refundable contributions and the portion of customers'
advances for construction that become non-refundable.
Inventories, Materials and Supplies - Inventories are stated at cost, not in
excess of market value. Cost is determined using the first-in, first-out method
and the average cost method.
Stock-Based Compensation - The Company adopted SFAS No. 123, "Accounting for
Stock-Based Compensation", electing the provision of the statement allowing it
to continue its practice of not recognizing compensation expense related to
granting of stock options to the extent that the option price of the underlying
stock was equal to, or greater than, the market price on the date of option
grant. Disclosure of the impact on the results of operations, had the Company
elected to recognize compensation expense, is provided in the Employee Stock and
Incentive Plans footnote as required by the Statement.
Use of Estimates in Preparation of Consolidated Financial Statements - The
preparation of consolidated financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Merger with Consumers Water Company
On March 10, 1999, the Company completed a merger ("the Merger") with CWC.
The Merger was effected pursuant to a June 27, 1998 merger agreement, as amended
and restated by the parties effective as of August 5, 1998. The Merger was
completed after the transaction received the approvals from the state utility
commissions in each state in which the companies operate. The shareholders of
each company approved the Merger at special meetings held on November 16, 1998.
Pursuant to the merger agreement, the Company issued 13,014,015 shares of Common
Stock in exchange for all of the outstanding stock of CWC. CWC common
shareholders received 1.432 shares of the Company's Common Stock for each CWC
common share and CWC preferred shareholders received 5.649 shares of the
Company's Common Stock for each preferred share. As a result of the Merger, CWC
became a wholly-owned subsidiary of the Company. CWC's seven water companies
serve approximately 227,000 customers in service territories covering parts of
Pennsylvania, Ohio, Illinois, New Jersey and Maine.
During the first quarter of 1999, the Company recorded a charge of $6,134,
net of tax benefits of $200, for merger-transaction costs consisting primarily
of fees for investment bankers, attorneys, accountants and other administrative
charges. In addition, the Company recorded restructuring costs of $2,462, net of
tax benefits of $1,325, consisting primarily of severance and other costs
associated with the closing of CWC's corporate office. As of December 31, 1998,
$3,368 of merger-related costs were paid and deferred by the Company and $6,753
were incurred in the first quarter of 1999.
Acquisitions and Water Sale Agreements
During 1998, PSW made the following acquisitions and obtained related
service territory rights: in January, the water utility assets of West Chester
Municipal Authority; in June, the water utility assets of the Flying Hills Water
Company; and at various times during 1998, the water utility assets of two small
8
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
water systems and the origination of two long-term water sale agreements. During
1998, CWC's New Jersey subsidiary acquired the stock of Woolwich Water and
Woolwich Sewer Companies. The systems acquired in 1998 incorporate 23 square
miles of service area near or adjacent to the Company's existing territory. The
total purchase price for the five water systems acquired in 1998 was $24,498 in
cash and the issuance of 42,000 shares of the Company's common stock. The annual
revenues from the acquired systems approximate $4,800, and revenues included in
the consolidated financial statements during the period owned by the Company
were $4,627. The annual revenues from the water sale agreements are expected to
approximate $500.
During 1997, PSW made the following acquisitions and obtained related
service territory rights: in January, the water utility assets of Cherry Water
Company; in September, the water utility assets of Perkiomen Township and in
September, both the water and wastewater utility assets of the Peddler's View
Utility Company. The systems acquired in 1997 incorporate two square miles of
service area near PSW's existing territory. The total purchase price for the
three water systems and wastewater system acquired in 1997 was $1,226. Revenues
included in the consolidated financial statements related to the systems
acquired in 1997 were $367 in 1998 and $175 in 1997.
During 1996, PSW made the following acquisitions and obtained related
service territory rights: in October the water utility assets of Hatboro Borough
Authority; in November, Utility Group Services Corporation ("UGS") which owned
three water utilities and a wastewater utility; in December, the water utility
assets of Bristol Borough Water and Sewer Authority; and at various times during
1996 the water utility assets of three smaller water systems. During various
times in 1996, CWC acquired three small water systems in Maine and western
Pennsylvania and obtained related service territory rights. The total purchase
price for the eleven water systems and wastewater system acquired in 1996 was
$49,877, including the issuance of $3,220 of the Company's preferred stock and
the assumption of $2,547 in liabilities. These systems have a combined service
territory of 229 square miles. Revenues included in the consolidated financial
statements related to the systems acquired in 1996 were $7,900 in 1998, $7,100
in 1997 and $650 in 1996.
Disposition
In April 1998, CWC's New Hampshire subsidiary sold its utility assets to
the Town of Hudson under the New Hampshire condemnation statute for $33,700, net
of certain closing costs. The sale generated a gain of $3,903, net of taxes, or
$0.10 per share, and was recorded in the second quarter of 1998. This system had
approximately 8,200 customers and operating revenues of $1,600 in 1998 prior to
the sale, $6,500 in 1997 and $6,400 in 1996.
Property, Plant and Equipment
December 31,
-----------------------------
1998 1997
-----------------------------
Utility plant and equipment $ 1,213,330 $ 1,138,940
Utility construction work in progress 31,327 24,269
Non-utility plant and equipment 3,964 3,732
-----------------------------
Total property, plant and equipment $ 1,248,621 $ 1,166,941
=============================
9
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
Depreciation is computed based on estimated useful lives of 2 to 110 years
for utility plant and 3 to 10 years for both utility transportation and
mechanical equipment and all non-utility plant, office equipment and laboratory
equipment.
Accounts Receivable
December 31,
----------------------
1998 1997
----------------------
Billed water revenue $ 21,666 $ 18,397
Unbilled water revenue 19,398 19,026
Other 1,140 1,307
----------------------
42,204 38,730
Less allowance for doubtful accounts 1,436 1,424
----------------------
Net accounts receivable $ 40,768 $ 37,306
======================
The Company's customers are located in the following states: 65% in
Pennsylvania, 15% in Ohio, 11% in Illinois, 6% in New Jersey and 3% in Maine.
PSW's customers are located in southeastern Pennsylvania and accounted for 57%
of the customers served. No single customer accounted for more than one percent
of the Company's operating revenues and no account receivable from any customer
exceeded one percent of the Company's total stockholders' equity.
Regulatory Asset
The regulatory asset represents costs that have been prudently incurred and
are expected to be fully recovered in future rates. The two components of this
asset are deferred income taxes and postretirement benefits other than pensions.
Items giving rise to deferred state income taxes, as well as a portion of
deferred Federal income taxes related to certain differences between tax and
book depreciation expense, are recognized in the rate setting process on a cash
or flow-through basis and will be recovered as they reverse. The portion of the
asset related to postretirement benefits other than pensions represents costs
that were deferred during the period that the accrual method of accounting for
these benefits was adopted in 1993 and the recognition of the accrual method in
the Company's rates as prescribed in subsequent rate filings. Amortization of
the amount deferred for postretirement benefits other than pensions began in
1994 and is currently being recovered in rates.
December 31,
---------------------
1998 1997
---------------------
Income taxes $ 55,437 $ 53,427
Postretirement benefits other than pensions 2,260 2,541
---------------------
$ 57,697 $ 55,968
=====================
10
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
Income Taxes
Total income tax expense is allocated as follows:
Years Ended December 31,
-------------------------------------
1998 1997 1996
-------------------------------------
Income from continuing operations $ 30,118 $ 22,432 $ 19,350
Common stockholders' equity related
to stock option activity which
reduces taxable income (402) (401) (126)
Discontinued operations - (1,455) (1,091)
-------------------------------------
$ 29,716 $ 20,576 $ 18,133
=====================================
Income tax expense attributable to income from continuing operations
consists of:
Years Ended December 31,
-------------------------------------
1998 1997 1996
-------------------------------------
Current:
Federal $ 14,837 $ 13,480 $ 11,156
State 5,583 3,087 2,802
-------------------------------------
20,420 16,567 13,958
-------------------------------------
Deferred:
Federal 8,453 5,086 4,811
State 1,245 779 581
-------------------------------------
9,698 5,865 5,392
-------------------------------------
Total tax expense $ 30,118 $ 22,432 $ 19,350
=====================================
The significant components of deferred income tax expense are as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------
1998 1997 1996
---------------------------------
<S> <C> <C> <C>
Excess of tax over financial statement depreciation $ 10,325 $ 6,488 $ 5,103
Amortization of deferred investment tax credits (660) (290) (296)
Current year investment tax credits deferred 20 35 40
Differences in basis of fixed assets due to variations
in tax and book accounting methods that reverse
through depreciation 1,762 786 814
Pension, deferred compensation and other
postretirement benefits (752) (184) (376)
Customers' advances for construction, net 321 773 64
Other, net (1,318) (1,743) 43
--------------------------------
Total deferred income tax expense $ 9,698 $ 5,865 $ 5,392
================================
</TABLE>
11
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
The statutory Federal tax rate is 35% and the state corporate net income
tax rates range from 7.18% to 11.5% for all years presented.
The reasons for the differences between amounts computed by applying
the statutory Federal income tax rate to income from continuing operations
before Federal tax and the actual Federal tax expense are as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
------------------------------------
1998 1997 1996
------------------------------------
<S> <C> <C> <C>
Computed Federal tax expense at statutory rate $ 23,839 $ 18,753 $ 15,803
Increase (decrease) in tax expense for items to be
recovered in future rates:
Depreciation expense 1,091 162 470
Amortization of deferred investment tax credits (658) (292) (300)
Prior year rate reductions (655) (147) (120)
Preferred stock dividend 147 272 248
Difference in statutory rate (240) (186) (148)
Other, net (234) 4 14
------------------------------------
Actual Federal tax expense $ 23,290 $ 18,566 $ 15,967
====================================
</TABLE>
The tax effects of temporary differences between book and tax accounting
that give rise to the deferred tax assets and deferred tax liabilities are as
follows:
December 31,
----------------------
1998 1997
----------------------
Deferred tax assets:
Customers' advances for construction $ 21,527 $ 22,513
Costs expensed for book not deducted
for tax, principally accrued expenses
and bad debt reserves 3,244 2,276
Alternative minimum tax 1,464 1,840
Other 187 896
----------------------
Total gross deferred tax assets 26,422 27,525
----------------------
Deferred tax liabilities:
Utility plant, principally due to
depreciation and differences in the basis
of fixed assets due to variation in tax
and book accounting 122,922 112,238
Deferred taxes associated with the gross-up
of revenues necessary to recover, in rates,
the effect of temporary differences 22,236 20,033
Deferred investment tax credit 8,073 8,712
Other - 411
----------------------
Total gross deferred tax liabilities 153,231 141,394
----------------------
Net deferred tax liability $126,809 $113,869
======================
12
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
The Company made income tax payments of $15,746, $14,131 and $14,739 in
1998, 1997 and 1996, respectively. The Company's Federal income tax returns for
all years through 1995 have been closed.
Commitments
PSW maintains agreements with the Chester Water Authority and the Bucks
County Water and Sewer Authority for the purchase of water to supplement its
water supply, particularly during periods of peak demand. The agreements
stipulate purchases of minimum quantities of water to the year 2017. The
estimated annual commitments related to such purchases total approximately
$2,852 through 2003. PSW purchased approximately $3,012, $2,978 and $2,889 of
water under these agreements during the years ended December 31, 1998, 1997 and
1996, respectively.
The Company leases motor vehicles, buildings, water meters and other
equipment under operating leases that are noncancelable. During the next five
years, $4,528 of future minimum lease payments are due: $1,647 in 1999, $1,211
in 2000, $920 in 2001, $439 in 2002 and $311 in 2003. PSW leases parcels of land
on which its Media treatment plant and other facilities are situated and
adjacent parcels that are used for watershed protection. The operating lease is
noncancelable, expires in 2045 and contains certain renewal provisions. The
lease is subject to an adjustment every five years based on changes in the
Consumer Price Index. During each of the next five years, $292 of lease payments
for land, subject to the aforesaid adjustment, are due.
Rent expense was $2,270, $2,166 and $2,665 for the years ended December 31,
1998, 1997 and 1996, respectively.
Long-term Debt and Loans Payable
The Consolidated Statements of Capitalization provides a summary of
long-term debt and loans outstanding as of December 31, 1998 and 1997. The
supplemental indentures with respect to certain issues of the First Mortgage
Bonds restrict the ability of PSW and CWC to declare dividends, in cash or
property, or repurchase or otherwise acquire PSW's and CWC's stock. As of
December 31, 1998, approximately $133,000 of PSW's and $44,200 of CWC's retained
earnings were free of these restrictions. Certain supplemental indentures also
prohibit PSW and CWC from making loans to or purchasing the stock of the
Company.
13
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
Annual sinking fund payments are required for certain issues of First
Mortgage Bonds by the supplemental indentures. Excluding amounts due under the
revolving credit agreements, the Company's future sinking fund payments and debt
maturities are as follows:
<TABLE>
<CAPTION>
Interest Rate Range 1999 2000 2001 2002 2003 Thereafter
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
0.00% to 1.00% $ 76 $ 77 $ 77 $ 78 $ 79 $ 562
5.60% to 5.99% 400 400 400 400 10,000 10,345
6.00% to 6.49% - - - 10,000 - 77,210
6.50% to 6.99% - - - - 10,400 44,800
7.00% to 7.49% 2,001 2,000 2,000 2,000 12,000 20,000
7.50% to 7.99% - - - - - 23,000
8.00% to 8.49% - - - - - 16,500
8.50% to 8.99% 10 1 - - - 9,000
9.00% to 9.49% 134 137 142 548 554 53,804
9.50% to 9.99% 358 1,155 1,155 1,155 1,155 46,842
10.00% to 10.55% - - - - - 6,000
=========================================================================
Total $ 2,979 $ 3,770 $ 3,774 $14,181 $34,188 $ 308,063
=========================================================================
</TABLE>
In July 1997, PSW established a two-year $150,000 medium-term note program
providing for the issuance of long-term debt with maturities ranging between one
and 35 years at fixed rates of interest, as determined at the time of issuance.
This program replaced a similar program that expired in March 1997. The notes
issued under this program are secured by the Thirty-First Supplement to the
trust indenture relating to PSW's First Mortgage Bonds. In January 1998, PSW
issued First Mortgage Bonds through the program as follows: $10,000 6.14% Series
due 2008 and $10,000 5.8% Series due 2003. During 1997, First Mortgage Bond
issuances through these programs were as follows: $10,000 in March 1997, 7.06%
Series due 2004; $10,000 in July 1997, 6.75% Series due 2007; and $10,000 in
October 1997, 6.3% Series due 2002. The proceeds from these issuances were used
to fund acquisitions and for PSW's ongoing capital program.
In January 1999, PSW issued a First Mortgage Bond of $10,000 5.85% Series
due 2004, and in April 1999, PSW issued a First Mortgage Bond of $15,000 6.00%
Series due 2004 through the medium-term note program. Proceeds from these issues
were used to reduce the balance of PSW's revolving credit facility.
In April 1998, CWC's New Hampshire subsidiary sold its utility assets and
used the proceeds to retire $6,000 of First Mortgage Bonds 8.00% Series due
2004, $2,000 of First Mortgage Bonds 10.55% Series due 2007, $2,000 of First
Mortgage Bonds 10.54% Series due 2009 and $2,000 of First Mortgage Bonds 9.96%
Series due 2009. During 1998, CWC's Ohio subsidiary retired $1,215 of First
Mortgage Bonds 8.75% Series due 2003.
Funds restricted for construction activity were obtained through the
issuance of tax exempt bonds, the use of which is restricted for utility plant
construction. At December 31, 1997, there was $1,079 of restricted funds and no
restricted funds remained at December 31, 1998.
PSW has a $50,000 revolving credit agreement due January 2000 with four
banks. CWC has three revolving credit agreements totaling $35,000 due June 1999
and 2000 with three banks. Interest under these facilities are based, at the
borrower's option, on the prime rate, an adjusted federal funds rate, an
adjusted certificate of deposit rate corresponding to the interest period
selected, an adjusted Euro-Rate corresponding to the interest period selected or
14
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
at rates offered by the banks. These agreements restrict the total amount of
short-term borrowings of PSW and CWC. A commitment fee ranging from 1/4 to 1/8
of 1% is charged on the unused portion of the revolving credit agreements. The
average cost of borrowing under these facilities was 6.0% and 6.1%, and the
average borrowing was $40,701 and $54,035, during 1998 and 1997, respectively.
The maximum amount outstanding at the end of any one month was $52,875 in 1998
and $63,693 in 1997.
At December 31, 1998 and 1997, the Company had combined short-term lines of
credit of $105,300 and $104,800, respectively. In February 1999, the Company's
short-term lines of credit were increased by $3,000. Funds borrowed under these
lines are classified as loans payable and are used to provide working capital.
The average borrowing under the lines was $21,684 and $26,923 during 1998 and
1997, respectively. The maximum amount outstanding at the end of any one month
was $27,990 in 1998 and $31,035 in 1997. Interest under the lines is based at
the Company's option, depending on the line, on the prime rate, an adjusted
Euro-Rate, an adjusted federal funds rate or at rates offered by the banks. The
average cost of borrowings under all lines during 1998 and 1997 was 6.5% and
6.7%, respectively.
The total amount of interest paid on all borrowings, net of amounts
capitalized, was $30,711, $31,970 and $28,789 in 1998, 1997 and 1996,
respectively. The pro forma weighted cost of long-term debt at December 31, 1998
and 1997 was 7.4% and 7.6%, respectively.
Preferred Stock of Subsidiaries
The Company's subsidiaries have the following preferred stock ($100 par
value) as of December 31, 1998:
<TABLE>
<CAPTION>
Shares
Cumulative Current held by
Dividend Call Price Shares Minority
Rate Per Share Authorized Interest
------------------------------------------------------
<S> <C> <C> <C> <C>
Consumers Pennsylvania -
Shenango Valley Division 5.00% $ 110 10,000 9,964
Consumers Illinois Water Company 5.50% 107 5,000 3,577
Consumers Maine Water Company 5.00% 105 4,000 2,739
PSW - None 1,000,000 -
</TABLE>
PSW is authorized to issue preferred stock with mandatory redemption
requirements, with stated par value, in one or more series. In 1991, PSW issued
100,000 shares of 8.66% Series 1 Cumulative Preferred Stock, at par value of
$100 per share in a private placement. In December 1997, PSW called all of the
remaining shares of this issue for retirement in January 1998. As of December
31, 1997, $4,214 was classified as the current portion of preferred stock.
Fair Value of Financial Instruments
The carrying amount of current assets and liabilities that are considered
financial instruments approximates their fair value as of the dates presented.
The carrying amount and estimated fair value of the Company's long-term debt as
of December 31, 1998 is $416,290 and $450,457, respectively. The fair value of
long-term debt has been determined by discounting the future cash flows using
current market interest rates for similar financial instruments of the same
duration.
15
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
The Company's customers' advances for construction and related tax deposits
have a carrying value of $57,781 at December 31, 1998. Their relative fair
values cannot be accurately estimated since future refund payments depend on
several variables, including new customer connections, customer consumption
levels and future rate increases. Portions of these non-interest bearing
instruments are payable annually through 2019 and amounts not paid by the
contract expiration dates become non-refundable. The fair value of these amounts
would, however, be less than their carrying value due to the non-interest
bearing feature.
Stockholders' Equity
At December 31, 1998, the Company had 1,770,819 shares of Series Preferred
Stock with a $1.00 par value authorized, of which 100,000 shares are designated
as Series A Preferred Stock. During 1996, the Company designated 32,200 shares
as Series B Preferred Stock, $1.00 par value. The Series A Preferred Stock, as
well as the undesignated shares of Series Preferred Stock, remains unissued. In
1996, the Company issued all of the 6.05% Series B Preferred Stock in connection
with the acquisition of UGS. The Series B Preferred Stock is recorded on the
balance sheet at its liquidation value of $100 per share. Dividends on the
Series B Preferred Stock are cumulative and payable quarterly. PSC may not pay
dividends on common stock unless provision has been made for payment of the
preferred dividends. Under the provisions of this issue, the holders may redeem
the shares, in whole or in part, at the liquidation value beginning December 1,
1998 and the Company may redeem up to 20% of this issue each year beginning
December 1, 2001 and, at the holders' option, this redemption may be made in
cash or through the issuance of debt with a five year maturity at an interest
rate of 6.05%. As of December 31, 1998, all dividends have been provided for. In
December 1998, 14,600 shares of this issue were called for early redemption by
the holders. In January 1999, these shares were redeemed in cash at the
liquidation value of $100 per share.
In November 1998, the Company's shareholders approved an increase in the
number of shares of common stock authorized, par value $.50 per share, from
40,000,000 shares to 100,000,000 shares. Shares outstanding at December 31,
1998, 1997 and 1996 were 40,702,311, 39,111,642 and 38,162,159, respectively.
Treasury shares held at December 31, 1998, 1997 and 1996 were 533,292, 376,510
and 262,230, respectively.
16
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
The following table summarizes the activity of common stockholders' equity:
<TABLE>
<CAPTION>
Capital in
Common Treasury excess of Retained
stock stock par value earnings Total
---------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1995 $ 12,336 $ (3,580) $ 186,157 $ 69,131 $ 264,044
Net income - - - 26,918 26,918
Dividends - - - (25,181) (25,181)
Stock split 3,140 - (3,140) - -
Sale of stock 467 693 15,548 - 16,708
Repurchase of stock - (760) - - (760)
Equity Compensation Plan 1 - 38 1 40
Exercise of stock options 69 - 2,026 - 2,095
---------------------------------------------------------------------
Balance at December 31, 1996 16,013 (3,647) 200,629 70,869 283,864
---------------------------------------------------------------------
Net income - - - 32,278 32,278
Dividends - - - (26,877) (26,877)
Stock split 3,276 - (3,276) - -
Sale of stock 346 506 11,029 - 11,881
Repurchase of stock - (2,829) - - (2,829)
Equity Compensation Plan 1 - 50 - 51
Exercise of stock options 108 - 2,750 - 2,858
---------------------------------------------------------------------
Balance at December 31, 1997 19,744 (5,970) 211,182 76,270 301,226
---------------------------------------------------------------------
Net income - - - 44,820 44,820
Dividends - - - (29,407) (29,407)
Sale of stock 761 293 30,495 - 31,549
Repurchase of stock - (3,801) - - (3,801)
Equity Compensation Plan 12 - 491 - 503
Exercise of stock options 100 - 2,289 - 2,389
---------------------------------------------------------------------
Balance at December 31, 1998 $ 20,617 $ (9,478) $ 244,457 $ 91,683 $ 347,279
=====================================================================
</TABLE>
In February 1998, the Company issued 1,250,000 shares of common stock
through a public offering, providing proceeds of $25,840, net of expenses. The
proceeds of this offering were used to repay short term debt and to make a
$19,000 equity contribution to PSW. PSW used the contribution from the Company
to reduce the balance of its revolving credit loan.
In December 1997, the Company adopted a Dividend Reinvestment and Direct
Stock Purchase Plan ("Plan") that replaced the Customer Stock Purchase Plan and
the Dividend Reinvestment and Optional Stock Purchase Plan. Under the Plan,
reinvested dividends continue to be used to purchase original issue shares of
common stock at a five percent discount from the current market value. Under the
direct stock purchase program, shares are purchased by investors throughout the
year, instead of during limited subscription periods, at market price and the
shares are purchased by the Company's transfer agent in the open-market at least
weekly. The plans that were replaced sold original issue shares exclusively.
During 1998, under the dividend reinvestment portion of the Plan, 204,316
original issue shares of common stock were sold providing the Company with
proceeds of $4,197. Under the former plans, 792,717 and 1,315,696 original issue
shares of common stock were sold providing the Company with $11,242 and $16,066
of additional capital, after expenses, during 1997 and 1996, respectively.
17
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
In August 1997, the Board of Directors approved a resolution authorizing
the Company to purchase, from time to time, up to 669,612 shares of its common
stock in the open market or through privately negotiated transactions. In 1993,
the Board of Directors approved a similar authorization. During 1998, 1997 and
1996, 151,406, 152,000 and 4,339 shares have been purchased at a net cost of
$3,333, $2,284 and $52, respectively. As of December 31, 1998, 476,739 shares
remain available for purchase by the Company.
Net Income per Common Share and Equity per Common Share
Basic net income per share is based on the weighted average number of
common shares outstanding. Diluted net income per share is based on the weighted
average number of common shares outstanding and potentially dilutive shares. The
dilutive effect of employee stock options is included in the computation of
Diluted net income per share. The following table summarizes the shares, in
thousands, used in computing Basic and Diluted net income per share:
<TABLE>
<CAPTION>
Years ended December 31,
-----------------------------
1998 1997 1996
-----------------------------
<S> <C> <C> <C>
Average common shares outstanding during
the period for Basic computation 40,362 38,650 37,376
Dilutive effect of employee stock options 492 368 300
-----------------------------
Average common shares outstanding during
the period for Diluted computation 40,854 39,018 37,676
=============================
</TABLE>
Equity per common share was $8.53 and $7.70 at December 31, 1998 and 1997,
respectively. These amounts were computed by dividing common stockholders'
equity by the number of shares of common stock outstanding at the end of each
year.
Shareholder Rights Plan
The Company has a Shareholder Rights Plan designed to protect the Company's
shareholders in the event of an unsolicited unfair offer to acquire the Company.
Each outstanding common share is entitled to one Right which is evidenced by the
common share certificate. In the event that any person acquires 20% or more of
the outstanding common shares or commences a tender or exchange offer which, if
consummated, would result in a person or corporation owning at least 20% of the
outstanding common shares of the Company, the Rights will begin to trade
independently from the common shares and, if certain circumstances occur,
including the acquisition by a person of 20% or more of the outstanding common
shares, each Right would then entitle its holder to purchase a number of common
shares of the Company at a substantial discount. If the Company is involved in a
merger or other business combination at any time after the Rights become
exercisable, the Rights will entitle the holder to acquire a certain number of
shares of common stock of the acquiring company at a substantial discount. The
Rights are redeemable by the Company at a redemption price of $.01 per Right at
any time before the Rights become exercisable. The Rights will expire on March
1, 2008, unless previously redeemed.
Employee Stock and Incentive Plans
Under the 1994 Equity Compensation Plan ("1994 Plan"), as amended and
restated effective March 3, 1998, the Company may grant qualified and
non-qualified stock options to officers, key employees and consultants. Officers
and key employees may also be granted dividend equivalents and restricted stock.
18
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
Restricted stock may also be granted to non-employee members of the Board of
Directors ("Board"). In November 1998, the Shareholders authorized an increase
to the number of shares from 1,900,000 shares to 2,900,000 shares of common
stock for issuance under the 1994 Plan. The maximum number of shares that may be
subject to grants under the 1994 Plan to any one individual in any one year is
100,000. Awards under this plan are made by the Board of Directors or a
committee of the Board.
Options under the 1994 plan, as well as the earlier 1988 Stock Option Plan
were issued at the market price of the stock on the day of the grant. Options
are exercisable in installments ranging from 20% to 50% annually, starting one
year from the date of the grant and expire either 5 or 10 years from the date of
the grant.
The following table summarizes stock option transactions for the two plans:
<TABLE>
<CAPTION>
As Of or For the Years Ended December 31,
----------------------------------------------------------------------
1998 1997 1996
----------------------- ---------------------- ---------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
----------------------- ---------------------- ---------------------
<S> <C> <C> <C> <C> <C> <C>
Options:
Outstanding, beginning of year 1,107,614 $11.03 1,202,541 $ 9.53 1,213,925 $ 8.83
Granted 263,500 22.13 263,333 15.14 296,960 11.35
Terminated (36,710) 12.54 (62,904) 11.43 (66,281) 10.04
Exercised (200,497) 9.94 (295,356) 8.48 (242,063) 8.14
----------------------- ---------------------- ---------------------
Outstanding, end of year 1,133,907 $13.75 1,107,614 $11.03 1,202,541 $ 9.53
======================= ====================== =====================
Exercisable, end of year 607,535 $10.04 547,858 $ 9.44 511,889 $ 8.97
======================= ====================== =====================
</TABLE>
Options exercised during 1998 ranged in price from $6.59 per share to
$15.14 per share. The options outstanding at December 31, 1998 range in price
from $6.59 to $22.13 and the options exercisable range from $6.59 to $15.14 per
share. The weighted-average remaining life of the outstanding options at
December 31, 1998 is 6.8 years. At December 31, 1998, 1,575,757 options under
the 1994 Plan were still available for grant.
Under SFAS No. 123, "Accounting for Stock-Based Compensation", the Company
elects to continue to apply the provisions of APB Opinion No. 25 and to provide
the pro forma disclosure provisions of this statement. Accordingly, no
compensation cost has been recognized in the financial statements for stock
options that have been granted. Had the Company determined compensation cost
based on the fair value at the grant date for its stock options under SFAS No.
123, the Company's net income available to common stock and Basic and Diluted
net income per share would have been reduced to the pro forma amounts indicated
below:
19
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
<TABLE>
<CAPTION>
Years Ended December 31,
-----------------------------------
1998 1997 1996
-----------------------------------
<S> <C> <C> <C>
Net income available to common stock:
As reported $44,820 $ 32,278 $ 26,918
Proforma 43,418 31,514 26,452
Basic net income per share:
As reported $ 1.11 $ 0.84 $ 0.72
Proforma 1.08 0.82 0.71
Diluted net income per share:
As reported $ 1.10 $ 0.83 $ 0.71
Proforma 1.06 0.81 0.70
</TABLE>
The per share weighted-average fair value at the date of grant for stock
options granted during 1998, 1997 and 1996 was $5.32, $2.90 and $1.57 per
option, respectively. The fair value of options at the date of grant was
estimated using the Black-Scholes option-pricing model with the following
weighted average assumptions:
1998 1997 1996
-----------------------------
Expected life (years) 10 10 10
Interest rate 5.6% 6.6% 6.4%
Volatility 16.9% 13.8% 14.0%
Dividend yield 2.9% 4.0% 5.2%
Dividend equivalents provide the grantee with an amount equal to the
dividends paid on a share of common stock over a specified period of time, not
to exceed four years, multiplied by the number of dividend equivalents awarded.
Payments of these awards are deferred until the completion of certain objectives
during a performance period established by a Committee of the Board at the time
of grant. A performance period is generally four years but may be adjusted by
the Committee to as long as eight years or as short as two years depending on
the Company's success in completing the objectives. Dividend equivalents are
"compensatory" and, as such, are charged to operating expense over the
performance period. The effect of changes to the performance period is accrued
when known or projected. The Board granted 104,000, 104,000 and 99,000 dividend
equivalents in 1998, 1997 and 1996, respectively, and costs associated with
these awards were $205 in 1998, $330 in 1997 and $234 in 1996. During 1998 and
1997, payments associated with the dividend equivalents of $249 and $191,
respectively, were made to recipients.
Restricted stock awards provide the grantee with the rights of a
shareholder, including the right to receive dividends and to vote such shares,
but not the right to sell or otherwise transfer the shares during the
restriction period. During 1998, 1997 and 1996, 23,600, 3,600 and 3,200 shares
of restricted stock were granted with a restriction period ranging from six to
36 months. The value of restricted stock awards, which are "compensatory", is
equal to the fair market value of the stock on the date of the grant less
payments made by the grantee and is amortized ratably over the restriction
period.
20
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
Pension Plans and Other Postretirement Benefits
The Company has defined benefit pension plans that cover its full-time
employees. Retirement benefits under the plans are generally based on the
employee's total years of service and compensation during the last five years of
employment. The Company's policy is to fund these plans annually at a level
which is deductible for income tax purposes and which provides assets sufficient
to meet its pension obligations. To offset certain limitations imposed by the
Internal Revenue Code with respect to payments under qualified plans, the
Company has a non-qualified Excess Benefit Plan for Salaried Employees in order
to prevent certain employees from being penalized by these limitations. The
Company also has non-qualified Supplemental Executive Retirement Plans for
current and retired employees. The net pension costs and obligations of the
qualified and non-qualified plans are included in the tables which follow.
In addition to providing pension benefits, the Company offers certain
Postretirement Benefits other than Pensions ("PBOPs") to employees retiring with
a minimum level of service. These PBOPs include continuation of medical and
prescription drug benefits for all eligible retirees and a life insurance policy
for eligible union retirees. The Company funds its gross PBOP cost through
various trust accounts.
In 1998, the Company adopted SFAS No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits." This statement revises employers'
disclosures about pension and other postretirement benefit plans but does not
change the measurement or recognition of costs associated with those plans. It
standardizes the disclosure requirements, eliminates unnecessary disclosures and
requires additional information on changes in the benefit obligations and fair
values of plan assets that will facilitate financial analysis. SFAS 132
supersedes the disclosure requirements of SFAS No. 87, "Employers' Accounting
for Pensions" and SFAS No. 106, "Employers' Accounting for Postretirement
Benefits Other Than Pensions."
The Company's pension expense includes the following components:
<TABLE>
<CAPTION>
Years Ended December 31,
-------------------------------------
1998 1997 1996
-------------------------------------
<S> <C> <C> <C>
Benefits earned during the year $ 2,949 $ 2,522 $ 2,516
Interest cost on projected benefit obligation 6,771 6,327 5,953
Expected return on plan assets (9,049) (7,859) (9,971)
Net amortization and deferral (38) (2) 3,167
Capitalized costs (48) (113) (102)
Rate-regulated adjustment (134) (552) (774)
Special termination benefits 56 - -
-------------------------------------
Net pension cost $ 507 $ 323 $ 789
=====================================
</TABLE>
The rate-regulated adjustment set forth above is required in order to
reflect pension expense for the Company in accordance with the method used in
establishing water rates.
21
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
The Company's costs for postretirement benefits other than pensions
includes the following components:
Years Ended December 31,
-----------------------------
1998 1997 1996
-----------------------------
Benefits earned during the year $ 575 $ 485 $ 428
Interest cost 1,229 1,173 1,144
Expected return on plan assets (475) (272) (161)
Net amortization and deferral 643 638 685
Amortization of regulatory asset 257 161 194
-----------------------------
Gross PBOP cost 2,229 2,185 2,290
Capitalized costs (454) (435) (103)
-----------------------------
Net PBOP cost $1,775 $1,750 $2,187
=============================
22
<PAGE>
PHILADELPHIA SUBURBAN CORPORATION AND SUBSIDIARIES
Notes of Consolidated Financial Statements (continued)
(In thousands of dollars, except per share amounts)
The changes in the benefit obligation and fair value of plan assets,
the funded status of the plans and the assumptions used in the measurement of
the company's benefit obligation are as follows:
<TABLE>
<CAPTION>
Other
Pension Postretirement
Benefits Benefits
----------------------- --------------------------
1998 1997 1998 1997
---------- ---------- ---------- --------------
<S> <C> <C> <C> <C>
Change in benefit obligation:
Benefit obligation at January 1, $ 93,373 $ 83,779 $ 16,207 $ 15,843
Service cost 2,949 2,522 575 485
Interest cost 6,771 6,327 1,229 1,173
Plan amendments 804 492 928 (1,348)
Special termination benefits 56 - - -
Actuarial loss 6,843 4,488 612 575
Benefits paid (4,749) (4,235) (536) (521)
--------- --------- ---------- -------------
Benefit obligation at December 31, 106,047 93,373 19,015 16,207
--------- --------- ---------- -------------
Change in plan assets:
Fair value of plan assets at January 1, 102,773 89,361 5,437 3,500
Actual return on plan assets 18,715 17,608 1,077 629
Employer contributions 109 39 1,961 1,832
Benefits paid (4,749) (4,235) (472) (524)
--------- --------- --------- ------------
Fair value of plan assets at December 31, 116,848 102,773 8,003 5,437
--------- --------- --------- ------------
Funded status of plan:
Funded status at December 31, (10,801) (9,400) 11,012 10,770
Contributions for fourth quarter - - (357) (336)
Unrecognized net gain from past experience
different from that assumed and effects of
changes in assumptions 18,306 15,815 5,025 5,195
Unrecognized prior service cost (3,874) (3,484) 876 1,908
Rate-regulated adjustment (1,803) (1,662) - -
Unrecognized net transition obligation 1,967 2,086 (12,654) (13,557)
--------- --------- --------- ------------
Accrued benefit costs $ 3,795 $ 3,355 $ 3,902 $ 3,980
========= ========= ========= ============
Weighted-average assumptions
as of December 31,
Discount rate 6.75-7.00% 7.00-7.50% 6.75-7.00% 7.00-7.50%
Expected return on plan assets 9.00% 9.00% 9.00% 9.00%
Rate of compensation increase 4.50-5.50% 4.50-5.50% 4.50% 4.50%
</TABLE>
The assumed medical inflation rates under the PSC plans are 9%, reducing to
4.5% in 2002 for retirees under the age of 65 and 40%, reducing to 4.5% by 2006
for retirees 65 years of age and over. The assumed medical inflation rates under
the CWC plans are 6%, reducing by 0.5% annually until 2001 and remain at 5.0%
thereafter. The effect of a 1% increase in the assumed medical inflation rates
would be to increase the accumulated postretirement benefit obligation as of
December 31, 1998 and the 1998 PBOP costs by $1,197 and $100, respectively. The
effect of a 1% decrease in the assumed medical inflation rates would be to
decrease the accumulated postretirement benefit obligation as of December 31,
1998 and the 1998 PBOP costs by $1,071 and
23
<PAGE>
$90, respectively. The benefits of retired officers and certain other retirees
are paid by the Company and not from plan assets due to limitations imposed by
the Internal Revenue Code.
The Company also has 401(k) plans, which cover substantially all its
employees. The Company matches 30% to 50%, depending on the plan, of an
employee's contribution in Company Common Stock, subject to certain limitations.
The value of the match was $701, $826 and $714 in 1998, 1997 and 1996,
respectively.
Water Rates
On October 23, 1997, the Pennsylvania Public Utility Commission ("PAPUC")
approved a rate settlement reached between PSW and the parties actively
litigating the rate application PSW filed in April 1997. The settlement was
designed to increase PSW's annual revenue by $9,300 or 7.3% over the level in
effect at the time of the filing. The rates in effect at the time of the filing
included a 1% or $1,300 Distribution System Improvement Charge ("DSIC").
Consequently, the settlement resulted in a total base rate increase of $10,600
or 8.3%. As a part of the settlement, the DSIC was reset to zero and PSW agreed
not to file a base rate increase request prior to April 1999, absent
extraordinary circumstances.
The CWC operating subsidiaries were allowed annual rate increases of $3,334
for 1998, $2,769 for 1997 and $4,510 for 1996, represented by five, four and
eight rate decisions, respectively. Revenues from these increases realized in
the year of grant were approximately $1,969, $489 and $1,918 in 1998, 1997 and
1996, respectively. During the first quarter of 1999, the CWC operating
subsidiaries settled one rate case and received a rate increase granted under
the terms of a rate settlement from a previous year in two CWC divisions
resulting in an aggregate annual revenue increase of $390. In May 1999, a rate
application was filed by CWC's Illinois subsidiary. The amount of increased
annual revenue requested is $558 and a decision is anticipated during the first
quarter of 2000.
In 1996, the PAPUC approved PSW's request to add a DSIC to its water bills.
The DSIC enables water utilities in Pennsylvania to add a surcharge to customer
bills beginning January 1, 1997 reflecting the capital costs and depreciation
related to certain distribution system improvement projects completed and placed
into service between base rate filings. PSW is permitted to request adjustments
to the DSIC quarterly to reflect subsequent capital expenditures and it is reset
to zero when new base rates that reflect the costs of those additions become
effective. The maximum DSIC that can be in effect at any time is 5%. PAPUC rules
require PSW to suspend the use of the DSIC in the quarter subsequent to a twelve
month period in which PSW's adjusted return on equity exceeds a benchmark
established by the PAPUC. The benchmark is established quarterly by the PAPUC
staff based on recent economic data. PSW's adjusted return on equity for the
twelve months ending June 30, 1998 and September 30, 1998 exceeded the
benchmark, and as a result the DSIC was suspended in the fourth quarter of 1998
and the first quarter of 1999. Based on the adjusted return on equity for 1998
and the most recent benchmark, the DSIC resumed in the second quarter of 1999
and has been set at 3.05% of base water rates. The amount or the continuation of
the DSIC in the third quarter of 1999 is dependent on PSW's return on equity and
the benchmark established by the PAPUC and therefore is not determinable at this
time. Previously, the DSIC had been set at 0.67% of base water rates during the
third quarter of 1998 after having been zero since the adoption of new base
rates in October 1997. Prior to the new base rates, the DSIC rate had been
1.82%. The DSIC provided revenues in 1998 and 1997 of $229 and $1,104,
respectively.
In addition to its base rates and DSIC, PSW has utilized a surcharge on its
bills to reflect certain changes in Pennsylvania State taxes until such time as
the tax changes are incorporated into base rates. From May 1998
24
<PAGE>
until February 1999, PSW was required to provide a revenue credit of 0.11% ($110
on an annual basis) of base water rates in order to provide its customers with
the savings associated with a decrease in the Pennsylvania Capital Stock Tax
rate. In February 1999, PSW added a 1.04% surcharge ($1,384 on annual basis) as
a result of increases in the Pennsylvania Public Utility Realty Tax, resulting
in an overall surcharge of 0.93%. Effective April 1, 1999, the overall surcharge
was adjusted to 0.96% due to a change in the revenue credit from 0.11% to 0.08%.
Discontinued Operations
The net assets of discontinued operations is comprised of two separate
operations as follows:
December 31,
--------------------
1998 1997
--------------------
Net assets of CWC's CAT operations $ 1,190 $ 2,679
Net reserve of PSC's nonregulated businesses (1,008) (1,009)
--------------------
Net assets of discontinued operations $ 182 $ 1,670
====================
In April 1997, the Board of Directors of CWC announced its intention to
dispose of its technical services company, Consumers Applied Technologies, Inc.
("CAT"). A reserve for estimated losses and certain future costs was established
in 1997 of $2,350, net of tax benefits of $1,211. CWC had been unable to sell
CAT as an on-going business and is proceeding with its liquidation. CAT's
operations were substantially shutdown during 1997. The operating results of CAT
prior to the date of discontinuance are shown under discontinued operations on
the accompanying consolidated statements of income. Operating revenues for the
discontinued operations for 1998, 1997 and 1996 were $393, $4,573 and $13,796,
respectively. The net assets of CWC's discontinued operations approximate
realizable value and consist primarily of accounts receivable and income tax
receivable less the reserve for estimated losses and future costs associated
with CAT.
The Board of Directors of PSC had authorized the sale of substantially all
of the Company's non-regulated businesses and the last of these businesses was
sold in 1993. At the time the Board of Directors of PSC authorized the sale of
these businesses, the Company established reserves for estimated losses and
certain future costs. These reserves were recorded on the balance sheet net of
related income tax benefits. As a result of the continuing assessment of
asserted and unasserted legal claims related to these businesses, the passage of
time, which reduced certain contingencies, and the receipt of contingent sale
proceeds, the Company has determined that, the net reserves were in excess of
estimates of potential costs. Consequently, in 1996, the Company reversed $965
net of related income taxes, of these reserves.
