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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_______________________________
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 2004
------------------
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: 001-11590
CHESAPEAKE UTILITIES CORPORATION
--------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 51-0064146
-------- ----------
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation
or organization)
909 SILVER LAKE BOULEVARD, DOVER, DELAWARE 19904
------------------------------------------------
(Address of principal executive offices, including Zip Code)
(302) 734-6799
--------------
(Registrant's Telephone Number, including Area Code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ]
Common Stock, par value $.4867 - 5,711,725 shares issued as of September 30.
2004.
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION. . . . . . . . . . . . . . . . . . . . . . 1
Item 1. Financial Statements. . . . . . . . . . . . . . . . . . . . . 1
Notes to Condensed Consolidated Financial Statements . . . . . . . . 7
1. Quarterly Financial Data . . . . . . . . . . . . . . . . . . . . 7
2. Calculation of Earnings Per Share. . . . . . . . . . . . . . . 9
3. Commitments and Contingencies. . . . . . . . . . . . . . . . . . 9
Environmental Matters . . . . . . . . . . . . . . . . . . . . . 9
Other Commitments and Contingencies . . . . . . . . . . . . .11
4. Recent Authoritative Pronouncements
on Financial Reporting and Accounting. . . . . . . . . . . . .12
5. Segment Information . . . . . . . . . . . . . . . . . . . . . . .13
6. Discontinued Operations . . . . . . . . . . . . . . . . . . . . .14
7. Employee Benefit Plans . . . . . . . . . . . . . . . . . . . . .15
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations. . . . . . . . . . . .16
Business Description . . . . . . . . . . . . . . . . . . . . . . . . .16
Financial Position, Liquidity and Capital Resources . . . . . . . . .16
Off-Balance Sheet Arrangements and Contractual Obligations. . . . . . .18
Results of Operations for the Quarter
Ended September 30, 2004 . . . . . . . . . . . . . . . . . . . . . . .19
Consolidated Overview. . . . . . . . . . . . . . . . . . . . . . . . .19
Natural Gas Distribution and Transmission . . . . . . . . . . . . .20
Propane. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
Advanced Information Services. . . . . . . . . . . . . . . . . . . . 21
Other Business Operations and Eliminations . . . . . . . . . . . . 21
Discontinued Operations . . . . . . . . . . . . . . . . . . . . . . . 22
Income Taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Interest Expense. . . . . . . . . . . . . . . . . . . . . . . . . . . 22
Results of Operations for the Nine Months
Ended September 30, 2004 . . . . . . . . . . . . . . . . . . . . . . .23
Consolidated Overview. . . . . . . . . . . . . . . . . . . . . . . . .23
Natural Gas Distribution and Transmission . . . . . . . . . . . . .24
Propane. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
Advanced Information Services. . . . . . . . . . . . . . . . . . . . 25
Other Business Operations and Eliminations . . . . . . . . . . . . 26
Discontinued Operations . . . . . . . . . . . . . . . . . . . . . . . 26
Income Taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26
Interest Expense. . . . . . . . . . . . . . . . . . . . . . . . . . . 26
Environmental Matters . . . . . . . . . . . . . . . . . . . . . . . . 26
Other Matters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
Regulatory Matters. . . . . . . . . . . . . . . . . . . . . . . . . . 27
Competition. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
Recent Pronouncements . . . . . . . . . . . . . . . . . . . . . . . . 29
Inflation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
Cautionary Statement. . . . . . . . . . . . . . . . . . . . . . . . . 30
Item 3. Quantitative and Qualitative Disclosures about Market Risk. . 30
Item 4. Controls and Procedures. . . . . . . . . . . . . . . . . . .31
Evaluation of Disclosure Controls and Procedures. . . . . . . . . 31
Changes in Internal Control Over Financial Reporting . . . . . . 31
PART II - OTHER INFORMATION. . . . . . . . . . . . . . . . . . . . . . . 32
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
EXHIBIT 31.1. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
EXHIBIT 31.2. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
EXHIBIT 32.1. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
EXHIBIT 32.2. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
- --------------------------------------------------------------------------------
2004 2003
FOR THE THREE MONTHS ENDED SEPTEMBER 30, RESTATED
- --------------------------------------------------------------------------------
OPERATING REVENUES. . . . . . . . . . . . . . . . $ 26,613,333 $ 23,448,989
OPERATING EXPENSES
Cost of sales, excluding costs below. . . . . . . 14,792,677 12,433,234
Operations. . . . . . . . . . . . . . . . . . . . 8,214,240 7,716,075
Maintenance . . . . . . . . . . . . . . . . . . . 459,917 440,319
Depreciation and amortization . . . . . . . . . . 1,842,485 1,767,211
Other taxes . . . . . . . . . . . . . . . . . . . 1,021,276 939,515
- --------------------------------------------------------------------------------
Total operating expenses. . . . . . . . . . . . . 26,330,595 23,296,354
- --------------------------------------------------------------------------------
OPERATING INCOME. . . . . . . . . . . . . . . . . 282,738 152,635
OTHER INCOME NET OF OTHER EXPENSES. . . . . . . . 38,357 (24,869)
INTEREST CHARGES. . . . . . . . . . . . . . . . . 1,325,397 1,419,887
- --------------------------------------------------------------------------------
LOSS BEFORE INCOME TAXES. . . . . . . . . . . . . (1,004,302) (1,292,121)
INCOME TAX BENEFIT. . . . . . . . . . . . . . . . (420,131) (582,328)
- --------------------------------------------------------------------------------
LOSS FROM CONTINUING OPERATIONS . . . . . . . . . (584,171) (709,793)
NET LOSS FROM DISCONTINUED OPERATIONS
NET OF TAX OF $39,795 AND
$80,823, RESPECTIVELY . . . . . . . . . . . . . (72,041) (150,131)
- --------------------------------------------------------------------------------
NET LOSS . . . . . . . . . . . . . . . . . . . . . $ (656,212) $ (859,924)
================================================================================
LOSS PER SHARE OF COMMON STOCK:
BASIC
FROM CONTINUING OPERATIONS. . . . . . . . . . . $ (0.10) $ (0.13)
FROM DISCONTINUED OPERATIONS. . . . . . . . . . (0.01) (0.02)
- --------------------------------------------------------------------------------
NET LOSS. . . . . . . . . . . . . . . . . . . . . $ (0.11) $ (0.15)
================================================================================
DILUTED
FROM CONTINUING OPERATIONS. . . . . . . . . . . $ (0.10) $ (0.13)
FROM DISCONTINUED OPERATIONS. . . . . . . . . . (0.01) (0.02)
- --------------------------------------------------------------------------------
NET LOSS. . . . . . . . . . . . . . . . . . . . . $ (0.11) $ (0.15)
================================================================================
CASH DIVIDENDS DECLARED PER SHARE OF COMMON STOCK $ 0.280 $ 0.275
================================================================================
The accompanying notes are an integral part of these financial statements.
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
- --------------------------------------------------------------------------------
2004 2003
FOR THE NINE MONTHS ENDED SEPTEMBER 30, RESTATED
- --------------------------------------------------------------------------------
OPERATING REVENUES. . . . . . . . . . . . . . . . $124,668,665 $117,193,427
OPERATING EXPENSES
Cost of sales, excluding costs below. . . . . . . 75,430,921 67,750,838
Operations. . . . . . . . . . . . . . . . . . . . 26,009,404 24,349,024
Maintenance . . . . . . . . . . . . . . . . . . . 1,256,054 1,290,591
Depreciation and amortization . . . . . . . . . . 5,464,279 5,294,439
Other taxes . . . . . . . . . . . . . . . . . . . 3,363,168 3,183,205
- --------------------------------------------------------------------------------
Total operating expenses. . . . . . . . . . . . . 111,523,826 101,868,097
- --------------------------------------------------------------------------------
OPERATING INCOME. . . . . . . . . . . . . . . . . 13,144,839 15,325,330
OTHER INCOME NET OF OTHER EXPENSES. . . . . . . . 215,051 63,289
INTEREST CHARGES. . . . . . . . . . . . . . . . . 3,980,395 4,314,742
- --------------------------------------------------------------------------------
INCOME BEFORE INCOME TAXES. . . . . . . . . . . . 9,379,495 11,073,877
INCOME TAXES. . . . . . . . . . . . . . . . . . . 3,578,614 4,212,031
- --------------------------------------------------------------------------------
INCOME FROM CONTINUING OPERATIONS . . . . . . . . 5,800,881 6,861,846
NET LOSS FROM DISCONTINUED OPERATIONS
NET OF TAX OF $47,052 AND
$168,442, RESPECTIVELY . . . . . . . . . . . . (87,228) (312,846)
- --------------------------------------------------------------------------------
NET INCOME. . . . . . . . . . . . . . . . . . . . $ 5,713,653 $ 6,549,000
================================================================================
EARNINGS PER SHARE OF COMMON STOCK:
BASIC
FROM CONTINUING OPERATIONS. . . . . . . . . . . $ 1.01 $ 1.23
FROM DISCONTINUED OPERATIONS. . . . . . . . . . (0.01) (0.06)
- --------------------------------------------------------------------------------
NET INCOME. . . . . . . . . . . . . . . . . . . . $ 1.00 $ 1.17
================================================================================
DILUTED
FROM CONTINUING OPERATIONS. . . . . . . . . . . $ 1.00 $ 1.21
FROM DISCONTINUED OPERATIONS. . . . . . . . . . (0.01) (0.06)
- --------------------------------------------------------------------------------
NET INCOME. . . . . . . . . . . . . . . . . . . . $ 0.99 $ 1.15
================================================================================
CASH DIVIDENDS DECLARED PER SHARE OF COMMON STOCK $ 0.835 $ 0.825
================================================================================
The accompanying notes are an integral part of these financial statements.
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
- ------------------------------------------------------------------------------------------
2004 2003
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 RESTATED
- ------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net Income . . . . . . . . . . . . . . . . . . . . . . . . $ 5,713,653 $ 6,549,000
Adjustments to reconcile net income to net operating cash:
Depreciation and amortization. . . . . . . . . . . . . . 5,464,279 5,294,439
Depreciation and accretion included in other costs . . . 1,941,301 2,511,274
Deferred income taxes, net . . . . . . . . . . . . . . . 2,617,520 2,991,995
Mark-to-market adjustments . . . . . . . . . . . . . . . (235,341) 604,652
Employee benefits and compensation . . . . . . . . . . . 351,637 756,051
Other. . . . . . . . . . . . . . . . . . . . . . . . . . (13,072) 143,751
Changes in assets and liabilities:
Accounts receivable and accrued revenue. . . . . . . . . 3,003,200 7,901,412
Inventory, materials, supplies and storage gas . . . . . (5,283,627) (2,720,339)
Prepaid expenses and other current assets. . . . . . . . (1,206,314) 377,458
Other deferred charges . . . . . . . . . . . . . . . . . 700,596 662,799
Accounts payable, net. . . . . . . . . . . . . . . . . . 2,370,018 (7,262,452)
Refunds payable to customers . . . . . . . . . . . . . . 245,305 (213,473)
Accrued income taxes . . . . . . . . . . . . . . . . . . 316,834 (2,564,919)
Accrued interest . . . . . . . . . . . . . . . . . . . . 1,001,174 1,021,253
Accrued compensation . . . . . . . . . . . . . . . . . . (922,332) 564,269
Over (under) recovered deferred purchased gas costs. . . (547,345) (1,264,072)
Other current liabilities. . . . . . . . . . . . . . . . 2,281,799 (340,367)
Other liabilities . . . . . . . . . . . . . . . . . . . (73,960) 444,596
- ------------------------------------------------------------------------------------------
Net cash provided by operating activities. . . . . . . . . . 17,725,325 15,457,327
- ------------------------------------------------------------------------------------------
INVESTING ACTIVITIES
Property, plant and equipment expenditures, net. . . . . . (12,067,921) (7,690,164)
Sale of discontinued operations. . . . . . . . . . . . . . 65,998 886,920
Environmental recoveries, net of expenditures. . . . . . . 309,506 1,986,312
- ------------------------------------------------------------------------------------------
Net cash used by investing activities. . . . . . . . . . . . (11,692,417) (4,816,932)
- ------------------------------------------------------------------------------------------
FINANCING ACTIVITIES
Common stock dividends . . . . . . . . . . . . . . . . . . (4,730,235) (4,597,554)
Issuance of stock:
Dividend Reinvestment Plan optional cash . . . . . . . . 136,727 248,533
Dividends reinvested by stockholders . . . . . . . . . . 619,873 552,409
Retirement Savings Plan. . . . . . . . . . . . . . . . . 815,970 691,378
Conversion of debentures . . . . . . . . . . . . . . . . 262,543 238,642
Purchase of treasury stock . . . . . . . . . . . . . . . . (193,625) 13,031
Net repayment under line of credit agreements. . . . . . . (3,515,258) (7,000,000)
Repayment of long-term debt. . . . . . . . . . . . . . . . (1,641,000) (1,896,975)
- ------------------------------------------------------------------------------------------
Net cash used by financing activities. . . . . . . . . . . . (8,245,005) (11,750,536)
- ------------------------------------------------------------------------------------------
NET DECREASE IN CASH AND CASH EQUIVALENTS. . . . . . . . . . (2,212,097) (1,110,141)
CASH AND CASH EQUIVALENTS BEGINNING OF PERIOD. . . . . . . . 3,108,501 2,458,276
- ------------------------------------------------------------------------------------------
CASH AND CASH EQUIVALENTS END OF PERIOD. . . . . . . . . . . $ 896,404 $ 1,348,135
==========================================================================================
The accompanying notes are an integral part of these financial statements.
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
- -----------------------------------------------------------------------------------------
SEPTEMBER 30, DECEMBER 31,
ASSETS 2004 2003
- -----------------------------------------------------------------------------------------
PROPERTY, PLANT AND EQUIPMENT
Natural gas distribution and transmission . . . . . . $ 192,163,601 $ 186,661,469
Propane . . . . . . . . . . . . . . . . . . . . . . . 37,067,539 35,577,104
Advanced information services . . . . . . . . . . . . 1,443,183 1,396,595
Water services. . . . . . . . . . . . . . . . . . . . 774,825 762,383
Other plant . . . . . . . . . . . . . . . . . . . . . 8,955,365 8,796,305
- -----------------------------------------------------------------------------------------
Total property, plant and equipment . . . . . . . . . 240,404,513 233,193,856
Plus: Construction work in progress. . . . . . . . . 4,886,019 1,724,721
Less: Accumulated depreciation and amortization. . . (71,662,393) (67,046,318)
- -----------------------------------------------------------------------------------------
Net property, plant and equipment . . . . . . . . . . 173,628,139 167,872,259
- -----------------------------------------------------------------------------------------
INVESTMENTS . . . . . . . . . . . . . . . . . . . . . . 355,564 386,710
- -----------------------------------------------------------------------------------------
CURRENT ASSETS
Cash and cash equivalents . . . . . . . . . . . . . . 896,404 3,108,501
Accounts receivable (less allowance for uncollectibles
of $743,643 and $659,047, respectively). . . . . . 25,636,244 26,191,845
Accrued revenue . . . . . . . . . . . . . . . . . . . 1,984,155 4,497,752
Materials and supplies, at average cost . . . . . . . 1,111,231 923,556
Appliance and other inventory, at FIFO. . . . . . . . 107,692 173,044
Propane inventory, at average cost. . . . . . . . . . 6,621,315 3,387,535
Storage gas prepayments . . . . . . . . . . . . . . . 6,550,125 4,622,601
Underrecovered purchased gas costs. . . . . . . . . . 1,252,678 660,601
Income taxes receivable . . . . . . . . . . . . . . . 486,868 489,841
Prepaid expenses. . . . . . . . . . . . . . . . . . . 3,551,629 2,069,988
Other current assets. . . . . . . . . . . . . . . . . 728,971 768,958
- -----------------------------------------------------------------------------------------
Total current assets. . . . . . . . . . . . . . . . . . 48,927,312 46,894,222
- -----------------------------------------------------------------------------------------
DEFERRED CHARGES AND OTHER ASSETS
Environmental regulatory assets . . . . . . . . . . . 297,001 353,092
Environmental expenditures. . . . . . . . . . . . . . 54,581 364,088
Goodwill. . . . . . . . . . . . . . . . . . . . . . . 674,451 674,451
Other intangible assets, net. . . . . . . . . . . . . 248,218 305,213
Long-term receivables . . . . . . . . . . . . . . . . 1,258,771 1,637,998
Other regulatory assets . . . . . . . . . . . . . . . 1,303,835 1,693,401
Other deferred charges. . . . . . . . . . . . . . . . 976,914 983,230
- -----------------------------------------------------------------------------------------
Total deferred charges and other assets . . . . . . . . 4,813,771 6,011,473
- -----------------------------------------------------------------------------------------
TOTAL ASSETS. . . . . . . . . . . . . . . . . . . . . . $ 227,724,786 $ 221,164,664
=========================================================================================
The accompanying notes are an integral part of these financial statements.
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
- -----------------------------------------------------------------------------------------
SEPTEMBER 30, DECEMBER 31,
CAPITALIZATION AND LIABILITIES 2004 2003
- -----------------------------------------------------------------------------------------
CAPITALIZATION
Stockholders' equity
Common Stock, par value $.4867 per share (1). . . . $ 2,803,013 $ 2,754,748
Additional paid-in capital. . . . . . . . . . . . . 36,402,351 34,176,361
Retained earnings . . . . . . . . . . . . . . . . . 36,917,229 36,008,246
Accumulated other comprehensive income. . . . . . . (488,853) -
Deferred compensation obligation. . . . . . . . . . 802,391 913,689
Treasury stock. . . . . . . . . . . . . . . . . . . (996,016) (913,689)
- -----------------------------------------------------------------------------------------
Total stockholders' equity. . . . . . . . . . . . . . 75,440,115 72,939,355
Long-term debt, net of current maturities . . . . . . 68,152,546 69,415,545
- -----------------------------------------------------------------------------------------
Total capitalization. . . . . . . . . . . . . . . . . . 143,592,661 142,354,900
- -----------------------------------------------------------------------------------------
CURRENT LIABILITIES
Current portion of long-term debt . . . . . . . . . . 3,287,091 3,665,091
Short-term borrowing. . . . . . . . . . . . . . . . . - 3,515,258
Accounts payable. . . . . . . . . . . . . . . . . . . 24,367,430 21,997,413
Refunds payable to customers. . . . . . . . . . . . . 451,887 206,582
Customer deposits . . . . . . . . . . . . . . . . . . 2,024,984 2,008,379
Accrued interest. . . . . . . . . . . . . . . . . . . 1,653,541 652,367
Dividends payable . . . . . . . . . . . . . . . . . . 1,612,590 1,556,631
Overrecovered purchased gas costs . . . . . . . . . . 44,732 -
Deferred income taxes payable . . . . . . . . . . . . 92,865 119,814
Accrued compensation. . . . . . . . . . . . . . . . . 2,277,255 3,266,072
Other accrued liabilities . . . . . . . . . . . . . . 3,922,716 1,657,523
- -----------------------------------------------------------------------------------------
Total current liabilities . . . . . . . . . . . . . . . 39,735,091 38,645,130
- -----------------------------------------------------------------------------------------
DEFERRED CREDITS AND OTHER LIABILITIES
Deferred income taxes . . . . . . . . . . . . . . . . 22,235,464 19,590,995
Deferred investment tax credits . . . . . . . . . . . 451,613 492,725
Environmental liabilities . . . . . . . . . . . . . . 478,106 562,194
Accrued pension costs . . . . . . . . . . . . . . . . 2,796,821 2,015,128
Accrued asset removal cost. . . . . . . . . . . . . . 14,572,753 13,536,209
Other liabilities . . . . . . . . . . . . . . . . . . 3,862,277 3,967,383
- -----------------------------------------------------------------------------------------
Total deferred credits and other liabilities. . . . . . 44,397,034 40,164,634
- -----------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES (NOTE 3)
TOTAL CAPITALIZATION AND LIABILITIES. . . . . . . . . . $ 227,724,786 $ 221,164,664
=========================================================================================
(1) At September 30, 2004 there were 12 million shares authorized;
5,759,405 issued and 5,711,725 outstanding. At December 31, 2003
there were 12 million shares authorized; 5,660,594 issued and
5,612,935 outstanding.
The accompanying notes are an integral part of these financial statements.
CHESAPEAKE UTILITIES CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED)
- -------------------------------------------------------------------------------------------------
FOR THE NINE FOR THE TWELVE
MONTHS ENDED MONTHS ENDED
SEPTEMBER 30, DECEMBER 31,
2004 2003
- -------------------------------------------------------------------------------------------------
COMMON STOCK
Balance beginning of period . . . . . . . . . . . . . . . . . $ 2,754,748 $ 2,694,935
Dividend Reinvestment Plan. . . . . . . . . . . . . . . . . 14,918 24,888
Retirement Savings Plan . . . . . . . . . . . . . . . . . . 16,208 21,047
Conversion of debentures. . . . . . . . . . . . . . . . . . 7,516 9,144
Performance shares and options exercised. . . . . . . . . . 9,623 4,734
- -------------------------------------------------------------------------------------------------
Balance end of period . . . . . . . . . . . . . . . . . . . . 2,803,013 2,754,748
- -------------------------------------------------------------------------------------------------
ADDITIONAL PAID-IN CAPITAL
Balance beginning of period . . . . . . . . . . . . . . . . . 34,176,361 31,756,983
Dividend Reinvestment Plan. . . . . . . . . . . . . . . . . 741,682 1,066,386
Retirement Savings Plan . . . . . . . . . . . . . . . . . . 799,761 899,475
Conversion of debentures. . . . . . . . . . . . . . . . . . 255,027 310,293
Performance shares and options exercised. . . . . . . . . . 429,520 143,224
- -------------------------------------------------------------------------------------------------
Balance end of period . . . . . . . . . . . . . . . . . . . . 36,402,351 34,176,361
- -------------------------------------------------------------------------------------------------
RETAINED EARNINGS
Balance beginning of period . . . . . . . . . . . . . . . . . 36,008,246 32,898,283
Net income. . . . . . . . . . . . . . . . . . . . . . . . . 5,713,653 9,291,876
Cash dividends (1). . . . . . . . . . . . . . . . . . . . . (4,804,670) (6,181,913)
- -------------------------------------------------------------------------------------------------
Balance end of period . . . . . . . . . . . . . . . . . . . . 36,917,229 36,008,246
- -------------------------------------------------------------------------------------------------
ACCUMULATED OTHER COMPREHENSIVE INCOME
Balance beginning of period . . . . . . . . . . . . . . . . . - -
Minimum pension liability adjustment. . . . . . . . . . . . (488,853) -
- -------------------------------------------------------------------------------------------------
Balance end of period . . . . . . . . . . . . . . . . . . . . (488,853) -
- -------------------------------------------------------------------------------------------------
DEFERRED COMPENSATION OBLIGATION
Balance beginning of period . . . . . . . . . . . . . . . . . 913,689 711,109
New deferrals . . . . . . . . . . . . . . . . . . . . . . . 283,137 202,580
Pay out of deferred compensation. . . . . . . . . . . . . . (394,435) -
- -------------------------------------------------------------------------------------------------
Balance end of period . . . . . . . . . . . . . . . . . . . . 802,391 913,689
- -------------------------------------------------------------------------------------------------
TREASURY STOCK
Balance beginning of period . . . . . . . . . . . . . . . . . (913,689) (711,109)
Purchase of treasury stock. . . . . . . . . . . . . . . . . (283,137) (202,580)
Distribution of treasury stock. . . . . . . . . . . . . . . 200,810 -
- -------------------------------------------------------------------------------------------------
Balance end of period . . . . . . . . . . . . . . . . . . . . (996,016) (913,689)
- -------------------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY . . . . . . . . . . . . . . . . . . $ 75,440,115 $ 72,939,355
=================================================================================================
(1) Cash dividends declared per share for the nine months ended September 30,
2004 and the year 2003 were $0.83 and $1.10, respectively.
STATEMENT OF COMPREHENSIVE INCOME (UNAUDITED)
- -------------------------------------------------------------------------------------------------
Net Income. . . . . . . . . . . . . . . . . . . . . . . . . . $ 5,713,653 $ 9,291,876
Minimum pension liability adjustment, net of tax of $313,861. (488,853) -
- -------------------------------------------------------------------------------------------------
COMPREHENSIVE INCOME . . . . . . . . . . . . . . . . . . . . . $ 5,224,800 $ 9,291,876
=================================================================================================
- -------------------------------------------------------------------------------------------------
FOR THE NINE FOR THE TWELVE
MONTHS ENDED MONTHS ENDED
SEPTEMBER 30, DECEMBER 31,
2004 2003
- -------------------------------------------------------------------------------------------------
COMMON STOCK SHARES ISSUED (2)
Balance beginning of period . . . . . . . . . . . . . . . . . 5,660,594 5,537,710
Dividend Reinvestment Plan (3). . . . . . . . . . . . . . . 30,652 51,125
Sale of stock to the Company's Retirement Savings Plan. . . 33,302 43,245
Conversion of debentures. . . . . . . . . . . . . . . . . . 15,443 18,788
Performance shares and options exercised. . . . . . . . . . 19,414 9,726
- -------------------------------------------------------------------------------------------------
Balance end of period (4) . . . . . . . . . . . . . . . . . . 5,759,405 5,660,594
=================================================================================================
(2) 12,000,000 shares are authorized at a par value of $0.4867 per share.
(3) Includes dividends reinvested and optional cash payments.
(4) The Company had 47,680 and 47,659 shares held in Rabbi Trusts at September
30, 2004 and at December 31, 2003.
The accompanying notes are an integral part of these financial statements.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. QUARTERLY FINANCIAL DATA
The financial information for Chesapeake Utilities Corporation (the "Company" or
"Chesapeake") included herein is unaudited and should be read in conjunction
with the Company's Annual Report on Form 10-K; however, the year-end balance
sheet data has been derived from audited financial statements. In the opinion of
management, this financial information reflects normal recurring adjustments
which are necessary for a fair presentation of the Company's interim results. In
accordance with United States Generally Accepted Accounting Principles, the
Company's management makes certain estimates and assumptions regarding: 1)
reported amounts of assets and liabilities, 2) disclosure of contingent assets
and liabilities at the date of the financial statements and 3) reported amounts
of revenues and expenses during the reporting period. Actual results could
differ from those estimates. Due to the seasonal nature of the Company's
business, there are substantial variations in the results of operations reported
on a quarterly basis and, accordingly, results for any particular quarter may
not give a true indication of results for the year.
As reported on the Company's December 31, 2003 Annual Report on Form 10-K, the
Company has restated its quarterly financial statements for prior periods in
order to reflect the results of its Delaware and Maryland natural gas divisions
on the "accrual" revenue recognition method rather than the "as billed" revenue
recognition method. This change had an insignificant effect on the Company's
annual results for 2003. Under the "as billed" method, revenues from customer
sales are not recognized until the meter is read. Under the "accrual" method, at
the end of each period, the amount of gas used is estimated and is recognized as
revenue. The Company's Florida division has historically used the "accrual"
method in accordance with Florida Public Service Commission requirements. Prior
to December 31, 2003, the Delaware and Maryland divisions used the "as billed"
method to recognize revenues consistent with the rate-setting processes in those
states. In order to consistently apply the "accrual" method, the Company met
separately with the staffs of the Delaware and Maryland Public Service
Commissions to determine the regulatory impact of the change. Having determined
that there is little to no regulatory impact, the Company has conformed the
revenue recognition method used in its Delaware and Maryland divisions to the
method used by its Florida division. In order to provide comparable information,
the Company has restated its 2003 quarterly interim financial statements to
reflect the "accrual" revenue recognition method. Dollars are shown in
thousands, except per share amounts.
- --------------------------------------------------------------------------------------------------------------------------------
---------- THREE MONTHS ENDED ---------- ---------- NINE MONTHS ENDED -----------
SEPTEMBER 30, IMPACT OF SEPTEMBER 30, SEPTEMBER 30, IMPACT OF SEPTEMBER 30,
2003 REVENUE 2003 2003 REVENUE 2003
AS PREVIOUSLY RECOGNITION AS PREVIOUSLY RECOGNITION
REPORTED (1) CHANGE AS RESTATED REPORTED (1) CHANGE AS RESTATED
- --------------------------------------------------------------------------------------------------------------------------------
SELECTED INCOME STATEMENT INFORMATION
Operating Revenues . . . . . . . . . . . $ 23,174 $ 275 $ 23,449 $ 119,334 $ (2,141) $ 117,193
Operating Income . . . . . . . . . . . . 144 9 153 15,977 (652) 15,325
Income from Continuing Operations. . . . (715) 5 (710) 7,252 (390) 6,862
Net Income . . . . . . . . . . . . . . . (865) 5 (860) 6,939 (390) 6,549
EARNINGS PER SHARE OF COMMON STOCK
Basic
From Continuing Operations . . . . . . . $ (0.13) $ 0.00 $ (0.13) $ 1.30 $ (0.07) $ 1.23
Net Income . . . . . . . . . . . . . . . $ (0.15) $ 0.00 $ (0.15) $ 1.24 $ (0.07) $ 1.17
Diluted
From Continuing Operations . . . . . . . $ (0.13) $ 0.00 $ (0.13) $ 1.28 $ (0.07) $ 1.21
Net Income . . . . . . . . . . . . . . . $ (0.15) $ 0.00 $ (0.15) $ 1.22 $ (0.07) $ 1.15
- --------------------------------------------------------------------------------------
SEPTEMBER 30, IMPACT OF SEPTEMBER 30,
2003 REVENUE 2003
AS PREVIOUSLY RECOGNITION
REPORTED (1) CHANGE AS RESTATED
- --------------------------------------------------------------------------------------
Assets
Accounts receivable and accrued revenue. $ 18,606 $ 1,156 $ 19,762
Unrecovered purchased gas costs. . . . . 2,744 (717) 2,027
Deferred income taxes. . . . . . . . . . 774 (467) 307
Income taxes . . . . . . . . . . . . . . 2,791 289 3,080
Other regulatory assets. . . . . . . . . 1,842 9 1,851
Stockholders' Equity
Retained earnings. . . . . . . . . . . . $ 34,552 $ 270 $ 34,822
(1) Operating Revenue, Operating Income and Income from Continuing Operations
exclude the results of the operations discontinued in 2003 and include
minor reclassifications to conform with the presentation of the 2004
results.
2. CALCULATION OF EARNINGS PER SHARE
- --------------------------------------------------------------------------------------------------
-- THREE MONTHS ENDED -- -- NINE MONTHS ENDED --
2004 2003 2004 2003
FOR THE PERIOD ENDED SEPTEMBER 30, RESTATED RESTATED
- --------------------------------------------------------------------------------------------------
CALCULATION OF BASIC EARNINGS PER SHARE FROM
CONTINUING OPERATIONS:
Net income from continuing operations. . . . . $ (584,171) $ (709,793) $5,800,881 $6,861,846
Weighted average shares outstanding. . . . . . 5,752,623 5,626,202 5,723,178 5,595,981
- --------------------------------------------------------------------------------------------------
BASIC EARNINGS PER SHARE FROM
CONTINUING OPERATIONS. . . . . . . . . . . . . $ (0.10) $ (0.13) $ 1.01 $ 1.23
==================================================================================================
CALCULATION OF DILUTED EARNINGS PER SHARE FROM
CONTINUING OPERATIONS:
RECONCILIATION OF NUMERATOR:
----------------------------
Net Income from continuing operations Basic. . $ (584,171) $ (709,793) $5,800,881 $6,861,846
Effect of 8.25% Convertible debentures * . . . - - 104,995 119,740
- --------------------------------------------------------------------------------------------------
Adjusted numerator Diluted . . . . . . . . . . $ (584,171) $ (709,793) $5,905,876 $6,981,586
- --------------------------------------------------------------------------------------------------
RECONCILIATION OF DENOMINATOR:
------------------------------
Weighted shares outstanding Basic. . . . . . . 5,752,623 5,626,202 5,723,178 5,595,981
Effect of dilutive securities *
Stock options. . . . . . . . . . . . . . . . - - 1,793 634
Warrants . . . . . . . . . . . . . . . . . . - - 7,598 4,400
8.25% Convertible debentures . . . . . . . . - - 163,963 187,501
- --------------------------------------------------------------------------------------------------
Adjusted denominator Diluted . . . . . . . . . 5,752,623 5,626,202 5,896,532 5,788,516
- --------------------------------------------------------------------------------------------------
DILUTED EARNINGS PER SHARE FROM
CONTINUING OPERATIONS. . . . . . . . . . . . . $ (0.10) $ (0.13) $ 1.00 $ 1.21
==================================================================================================
* Amounts associated with securities resulting in an anti-dilutive effect on
earnings per share are not included in this calculation.
3. COMMITMENTS AND CONTINGENCIES
ENVIRONMENTAL MATTERS
In 2003, Chesapeake completed its responsibilities related to one former gas
manufacturing plant site and is currently participating in the investigation,
assessment or remediation of two other former gas manufacturing plant sites.
These sites are located in three different jurisdictions. The Company has
accrued liabilities for these three sites referred to respectively as the Dover
Gas Light, Salisbury Town Gas Light and the Winter Haven Coal Gas sites. The
Company is currently in discussions with the Maryland Department of the
Environment ("MDE") regarding the possible responsibilities of the Company with
respect to a fourth former gas manufacturing plant site in Cambridge, Maryland.
Dover Gas Light Site
- -----------------------
The Dover Gas Light site is a former manufactured gas plant site located in
Dover, Delaware. On January 15, 2004, the Company received a Certificate of
Completion of Work from the United States Environmental Protection Agency
("EPA") regarding this site. This concluded Chesapeake's remedial action
obligation related to this site and relieves Chesapeake from liability for
future remediation at the site, unless previously unknown conditions are
discovered at the site, or information previously unknown to the EPA is received
that indicates the remedial action that has been taken is not sufficiently
protective. These contingencies are standard and are required by the United
States in all liability settlements.
At September 30, 2004, the Company had accrued $10,000 for costs associated with
the Dover Gas Light site and had recorded an associated regulatory asset for the
same amount. Through September 30, 2004, the Company has incurred approximately
$9.7 million in costs relating to environmental testing and remedial action
studies at the site. Approximately $9.6 million has been recovered through
September 2004 from other parties or through rates. The unrecovered portion is
recorded as a regulatory asset.
Salisbury Town Gas Light Site
- ---------------------------------
In cooperation with the MDE, the Company has completed an assessment of the
Salisbury manufactured gas plant site, located in Salisbury, Maryland, which
determined that there was localized ground-water contamination. During 1996, the
Company completed construction and began Air Sparging and Soil-Vapor Extraction
("AS/SVE") remediation procedures. Chesapeake has been reporting the remediation
and monitoring results to the MDE on an ongoing basis since 1996. In February
2002, the MDE granted permission to permanently decommission the AS/SVE system
and to discontinue all on-site and off-site well monitoring, except for one well
that is being maintained for continued product monitoring and recovery. In
November 2002, Chesapeake submitted a letter to the MDE requesting No Further
Action ("NFA") determination. In December 2002, the MDE recommended that the
Company submit work plans to MDE and place deed restrictions on the property as
conditions prior to receiving an NFA. The Company has completed the MDE
recommended work plans and has executed the deed restrictions. During the third
quarter of 2003 the Company submitted a revised request for the NFA. The MDE has
not yet responded to the request.
The Company has adjusted the liability with respect to the Salisbury Town Gas
Light site to $5,000 at September 30, 2004. This amount is based on the
estimated costs to perform limited product monitoring and recovery efforts and
fulfill ongoing reporting requirements. A corresponding regulatory asset has
been recorded, reflecting the Company's belief that costs incurred will be
recoverable in base rates.
Through September 30, 2004, the Company has incurred approximately $2.9 million
for remedial actions and environmental studies at the Salisbury Town Gas Light
site. Of this amount, approximately $1.8 million has been recovered through
insurance proceeds or in rates. The Company expects to recover the remaining
costs through rates.
Winter Haven Coal Gas Site
- ------------------------------
The Winter Haven Coal Gas site is located in Winter Haven, Florida. Chesapeake
has been working with the Florida Department of Environmental Protection
("FDEP") in assessing this coal gas site. In May 1996, the Company filed an Air
Sparging and Soil Vapor Extraction Pilot Study Work Plan (the "Work Plan") for
the Winter Haven site with the FDEP. The Work Plan described the Company's
proposal to undertake an AS/SVE pilot study to evaluate the site. After
discussions with the FDEP, the Company filed a modified AS/SVE Pilot Study Work
Plan, the description of the scope of work to complete the site assessment
activities and a report describing a limited sediment investigation performed in
1997. In December 1998, the FDEP approved the AS/SVE Pilot Study Work Plan,
which the Company completed during the third quarter of 1999. In February 2001,
the Company filed a Remedial Action Plan ("RAP") with the FDEP to address the
contamination of the subsurface soil and ground-water in a portion of the site.
The FDEP approved the RAP on May 4, 2001. Construction of the AS/SVE system was
completed in the fourth quarter of 2002 and the system is now fully operational.
FDEP has indicated that the Company may be required to remediate sediments along
the shoreline of Lake Shipp, immediately west of the Winter Haven site. Based on
studies performed to date, the Company objects to FDEP's suggestion that the
sediments have been contaminated and require remediation. Early estimates by the
Company's environmental consultant indicate that some of the corrective measures
discussed by FDEP may cost as much as $1 million. Given the Company's view as to
the absence of ecological effects, the Company believes that cost expenditures
of this magnitude are unwarranted and plans to vigorously oppose any
requirements that it undertake corrective measures in the offshore sediments.
Chesapeake anticipates that it will be several years before this issue is
resolved. At this time, the Company has not recorded a liability for sediment
remediation. The outcome of this matter cannot be predicted at this time.
The Company has accrued a liability of $463,000 as of September 30, 2004 for the
Florida site. Through September 30, 2004, the Company has incurred approximately
$1.3 million of environmental costs associated with the Florida site. At
September 30, 2004 the Company had collected through rates $181,000 in excess of
costs incurred. A regulatory asset of approximately $282,000, representing the
uncollected portion of the estimated clean-up costs, has also been recorded. The
Company expects to recover the remaining costs through rates.
Other
- -----
The Company is in discussions with the MDE regarding the possible
responsibilities of the Company for remediation of a fourth gas manufacturing
plant site located in Cambridge, Maryland. The outcome of this matter cannot be
determined at this time.
OTHER COMMITMENTS AND CONTINGENCIES
Our Florida service territory was impacted by three hurricanes during August and
September of 2004. The effects included property damage to our natural gas
administrative office building, reduced earnings due to our industrial and
commercial customers' temporary business closings and potential future reduced
earnings due to reduced customer demand, such as from the citrus processing
industry. The Company expects that the property damage and related costs will be
fully recovered under its insurance policies and has not recorded an impairment
loss. The amount of reduced pre-tax earnings due to the temporary closings of
our customers' operations during the storms in August and September, is being
quantified, and is currently estimated at approximately $140,000. Although a
claim will be submitted to recover these costs from our insurance carrier under
our business interruption policy, we have not recorded any potential recovery
due to the uncertainty of the amounts and the amount, if any, that will be
recovered under the insurance policy. One customer, who operates a citrus
processing plant, has notified the Company that they will not open the plant for
the upcoming season, November 2004 to June 2005. We estimate that the pre-tax
earnings for the customer would have been $150,000 over the 8-month period.
To-date, no other customers have informed us of changes in their expected usage.
We cannot estimate any other future impacts from the hurricanes. Although the
Company expects to file claims for future business interruption losses, no
recoveries will be recorded until the loss has been incurred and there is a high
level of certainty of the recovery.
The Company's natural gas and propane distribution operations have entered into
contractual commitments to purchase gas from various suppliers. The contracts
have various expiration dates. In November 2003, the Company entered into a
one-year contract with an energy marketing and risk management company to manage
a portion of the Company's natural gas transportation and storage capacity.
Negotiations to extend the contract are currently underway.
The Company has issued corporate guarantees to certain vendors of its propane
wholesale marketing subsidiary. The corporate guarantees provide for the payment
of propane purchases by the subsidiary, in the event of the subsidiary's
default. The aggregate amount guaranteed at September 30, 2004 totaled $4.5
million, with the guarantees expiring on various dates through September 2005.
The Company has issued a letter of credit to its primary insurance company for
$694,000, which expires June 1, 2005. The letter of credit was provided as
security for claims amounts below the deductibles on the Company's policies.
The Company is involved in certain legal actions and claims arising in the
normal course of business. The Company is also involved in certain legal and
administrative proceedings before various governmental agencies concerning
rates. In the opinion of management, the ultimate disposition of these
proceedings and claims will not have a material effect on the consolidated
financial position, results of operations or cash flows of the Company.
Certain assets and liabilities of the Company are accounted for in accordance
with SFAS No. 71. SFAS No. 71 provides guidance for public utilities and other
regulated operations where the rates (prices) charged to customers are subject
to regulatory review and approval. Regulators sometimes include costs in
allowable costs in a period other than the period in which the costs would be
charged to expense by an unregulated enterprise. That procedure can create
assets, reduce assets, or create liabilities for the regulated enterprise. For
financial reporting, an incurred cost for which a regulator permits recovery in
a future period is accounted for like an incurred cost that is reimbursable
under a cost-reimbursement-type contract. The Company believes that all
regulatory assets as of September 30, 2004 are probable of recovery through
rates. If the Company were required to terminate the application of SFAS No. 71
to its regulated operations, all such deferred amounts would be recognized in
the income statement at that time. This would result in a charge to earnings,
net of applicable income taxes, in an amount which could be material.
4. RECENT AUTHORITATIVE PRONOUNCEMENTS ON FINANCIAL REPORTING AND ACCOUNTING
On January 12, 2004, the FASB released FASB Staff Position No. SFAS 106-1
"Accounting and Disclosure Requirements Related to the Medicare Prescription
Drug, Improvement and Modernization Act of 2003" (the "Act"). On May 19, 2004,
the FASB released FASB Staff Position No. SFAS 106-2, which superseded SFAS
106-1. SFAS No. 106-2 provides guidance on the accounting for the effects of the
Act and requires certain disclosures regarding the effect of the federal subsidy
provided by the Act. It is effective for the first interim or annual period
beginning after June 15, 2004. Adoption of SFAS No. 106-2 is not expected to
have a material impact on the Company's post-retirement benefit obligation.
The Emerging Issues Task Force ("EITF") of the FASB issued EITF No. 03-6 on
February 9, 2004. It requires that earnings used to calculate earnings per share
be allocated between common shareholders and other securities holders based on
their respective rights to receive dividends. This requirement was effective for
the second quarter of 2004. It had no impact on the Company's calculation of
earnings per share.
5. SEGMENT INFORMATION
Chesapeake uses the management approach to identify operating segments.
Chesapeake organizes its business around differences in products or services and
the operating results of each segment are regularly reviewed by the Company's
chief operating decision maker in order to make decisions about resources and to
assess performance. The following table presents information about the Company's
reportable segments. Results exclude discontinued operations.
- ------------------------------------------------------------------------------------------------------------
---- THREE MONTHS ENDED ---- ---- NINE MONTHS ENDED ----
2004 2003 2004 2003
FOR THE PERIOD ENDED SEPTEMBER 30, RESTATED RESTATED
- ------------------------------------------------------------------------------------------------------------
OPERATING REVENUES, UNAFFILIATED CUSTOMERS
Natural gas distribution and transmission . . . $ 18,906,566 $ 17,166,927 $ 86,308,792 $ 78,712,882
Propane . . . . . . . . . . . . . . . . . . . . 4,719,959 3,636,283 28,934,622 29,420,717
Advanced information services . . . . . . . . . 2,986,808 2,645,511 9,425,251 9,064,082
Other . . . . . . . . . . . . . . . . . . . . . - 268 - (4,254)
- ------------------------------------------------------------------------------------------------------------
Total operating revenues, unaffiliated customers. $ 26,613,333 $ 23,448,989 $124,668,665 $117,193,427
============================================================================================================
INTERSEGMENT REVENUES (1)
Natural gas distribution and transmission . . . $ 36,409 $ 29,081 $ 132,400 $ 130,847
Advanced information services . . . . . . . . . 16,017 15,961 38,604 83,985
Other . . . . . . . . . . . . . . . . . . . . . 154,623 174,261 492,755 531,354
- ------------------------------------------------------------------------------------------------------------
Total intersegment revenues . . . . . . . . . . . $ 207,049 $ 219,303 $ 663,759 $ 746,186
============================================================================================================
OPERATING INCOME
Natural gas distribution and transmission . . . $ 1,759,680 $ 1,555,282 $ 11,674,347 $ 11,829,156
Propane . . . . . . . . . . . . . . . . . . . . (1,547,622) (1,596,707) 892,459 2,898,743
Advanced information services . . . . . . . . . 44,698 99,495 376,533 326,129
Other . . . . . . . . . . . . . . . . . . . . . 25,982 94,565 201,500 271,302
- ------------------------------------------------------------------------------------------------------------
Total operating income. . . . . . . . . . . . . . $ 282,738 $ 152,635 $ 13,144,839 $ 15,325,330
============================================================================================================
(1) All significant intersegment revenues are billed at market rates and have
been eliminated from consolidated revenues.
- -------------------------------------------------------------------------------
SEPTEMBER 30, DECEMBER 31,
2004 2003
- -------------------------------------------------------------------------------
IDENTIFIABLE ASSETS
Natural gas distribution and transmission . . . $168,381,784 $169,865,930
Propane . . . . . . . . . . . . . . . . . . . . 48,410,522 38,359,251
Advanced information services . . . . . . . . . 2,838,046 2,912,733
Other . . . . . . . . . . . . . . . . . . . . . 7,402,081 7,791,796
- -------------------------------------------------------------------------------
Total identifiable assets . . . . . . . . . . . . $227,032,433 $218,929,710
================================================================================
The Company's operations are all domestic. The advanced information services
segment has infrequent transactions with foreign companies, located primarily in
Canada, that are denominated and paid in U.S. dollars. These transactions are
immaterial to the consolidated revenues.
6. DISCONTINUED OPERATIONS
The following table presents the balance sheet accounts for discontinued
operations.
CHESAPEAKE UTILITIES CORPORATION DISCONTINUED OPERATIONS
BALANCE SHEETS (UNAUDITED)
- -----------------------------------------------------------------------------------------
SEPTEMBER 30, DECEMBER 31,
2004 2003
- -----------------------------------------------------------------------------------------
ASSETS
- -------
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment . . . . . . . . . . . . . $ 774,826 $ 762,383
Less: Accumulated depreciation and amortization. . . . (353,005) (326,792)
- -----------------------------------------------------------------------------------------
Net property, plant and equipment . . . . . . . . . . . 421,821 435,591
- -----------------------------------------------------------------------------------------
CURRENT ASSETS
Cash and cash equivalents . . . . . . . . . . . . . . . 42,223 1,437,821
Accounts receivable (less allowance for uncollectibles
of $1,776 and $5,346, respectively). . . . . . . . . 169,507 273,799
Appliance and other inventory, at FIFO. . . . . . . . . 56,557 99,839
Deferred income taxes receivable. . . . . . . . . . . . 1,871 20,725
Prepaid expenses. . . . . . . . . . . . . . . . . . . . 84,529 110,175
- -----------------------------------------------------------------------------------------
Total current assets. . . . . . . . . . . . . . . . . . 354,687 1,942,359
- -----------------------------------------------------------------------------------------
DEFERRED CHARGES AND OTHER ASSETS
Other intangible assets, net. . . . . . . . . . . . . . 24,447 70,018
Deferred income taxes receivable. . . . . . . . . . . . 131,293 150,847
- -----------------------------------------------------------------------------------------
Total deferred charges and other assets . . . . . . . . 155,740 220,865
- -----------------------------------------------------------------------------------------
TOTAL ASSETS. . . . . . . . . . . . . . . . . . . . . . $ 932,248 $ 2,598,815
=========================================================================================
STOCKHOLDERS' EQUITY AND LIABILITIES
- -------------------------------------
STOCKHOLDERS' EQUITY
Common Stock. . . . . . . . . . . . . . . . . . . . . . $ 51,010 $ 51,010
Additional paid-in capital. . . . . . . . . . . . . . . 3,914,783 3,914,783
Retained deficits . . . . . . . . . . . . . . . . . . . (6,458,392) (5,271,164)
- -----------------------------------------------------------------------------------------
Total stockholders' equity. . . . . . . . . . . . . . . (2,492,599) (1,305,371)
- -----------------------------------------------------------------------------------------
CURRENT LIABILITIES
Accounts payable. . . . . . . . . . . . . . . . . . . . 17,003 67,303
Due to parent company . . . . . . . . . . . . . . . . . 3,244,521 3,558,434
Customer deposits . . . . . . . . . . . . . . . . . . . 9,998 11,403
Income taxes payable. . . . . . . . . . . . . . . . . . 106,731 192,290
Other accrued liabilities . . . . . . . . . . . . . . . 46,594 74,756
- -----------------------------------------------------------------------------------------
Total current liabilities . . . . . . . . . . . . . . . 3,424,847 3,904,186
- -----------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY AND LIABILITIES. . . . . . . $ 932,248 $ 2,598,815
=========================================================================================
During 2003, the Company sold the assets of six of its seven water services
businesses. The Company sold the remaining operation, located in Stuart,
Florida, during October 2004. Due to an expected loss on sale, an impairment
charge on the assets to be sold of approximately $30,000 (net of $16,000 in
taxes) was recorded in September to reflect the assets at their estimated fair
value. The total losses for discontinued operations for the three months ended
September 30, 2004 were $72,000 (net of $40,000 in taxes). For the three months
ended September 30, 2003, losses from the sale of discontinued operations were
$106,000 (net of $58,000 in taxes) and operating losses were $44,000 (net of
$23,000 in taxes). For the nine months ended September 30, 2003, losses from the
sale of discontinued operations were $34,000 (net of $19,000 in taxes) and
operating losses were $278,000 (net of $149,000 in taxes).
Results for all the water dealerships were reclassified to discontinued
operations in accordance with SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets" for all periods presented in the consolidated
income statements and are shown net of tax.
7. EMPLOYEE BENEFIT PLANS
Net periodic benefit costs for the defined benefit pension plan, the executive
excess benefit plan and other post-retirement benefits are shown below:
- ----------------------------------------------------------------------------------------------------------------
OTHER
DEFINED BENEFIT EXECUTIVE EXCESS POST-RETIREMENT
PENSION PLAN BENEFIT PLAN BENEFITS
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 2003 2004 2003 2004 2003
- ----------------------------------------------------------------------------------------------------------------
Service Cost . . . . . . . . . . . . . . $ 81,014 $ 81,342 $ 26,219 $ 26,969 $ 1,339 $ 1,285
Interest Cost. . . . . . . . . . . . . . 175,307 171,059 20,750 20,009 21,720 21,329
Expected return on plan assets . . . . . (232,100) (196,119) - - - -
Amortization of transition amount. . . . (3,776) (3,776) - - 6,964 6,964
Amortization of prior service cost . . . (1,174) (1,174) 696 696 - -
Amortization of net (gain) loss. . . . . - - 4,137 4,669 19,725 16,567
- ----------------------------------------------------------------------------------------------------------------
Net periodic benefit cost. . . . . . . . $ 19,271 $ 51,332 $ 51,802 $ 52,343 $ 49,748 $ 46,145
- ----------------------------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------------------------
OTHER
DEFINED BENEFIT EXECUTIVE EXCESS POST-RETIREMENT
PENSION PLAN BENEFIT PLAN BENEFITS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004 2003 2004 2003 2004 2003
- ----------------------------------------------------------------------------------------------------------------
Service Cost . . . . . . . . . . . . . . $ 250,393 $ 244,025 $ 78,657 $ 80,908 $ 4,016 $ 3,854
Interest Cost. . . . . . . . . . . . . . 528,761 513,179 62,252 60,029 65,162 63,989
Expected return on plan assets . . . . . (703,878) (588,357) - - - -
Amortization of transition amount. . . . (11,328) (11,328) - - 20,894 20,894
Amortization of prior service cost . . . (3,524) (3,524) 2,090 2,090 - -
Amortization of net (gain) loss. . . . . - - 12,411 14,008 59,175 49,703
- ----------------------------------------------------------------------------------------------------------------
Net periodic benefit cost. . . . . . . . $ 60,424 $ 153,995 $ 155,410 $ 157,035 $ 149,247 $ 138,440
- ----------------------------------------------------------------------------------------------------------------
As disclosed in the December 31, 2003 financial statements, no contributions are
expected to be required in 2004 for the defined benefit pension plan. The
executive excess benefit plan and other post-retirement benefit plans are
unfunded. Cash benefits paid under the executive excess plan for the first nine
months of 2004 were $18,825. Benefits paid under other post-retirement benefits
are primarily for medical claims and were $187,000 for the first nine months of
2004.
The Company sponsors two tax-qualified retirement plans: a defined benefit
pension plan (the "Pension Plan") and a defined contribution savings plan (the
"Savings Plan"). The Company also sponsors unfunded, non-qualified defined
benefit and defined contribution plans for certain management employees that
provide for benefits in excess of those permitted by law under the qualified
plans.
Before 1999, Company employees generally participated in both the Pension Plan
and the Savings Plan. Effective January 1, 1999, the Company restructured its
retirement program to compete more effectively with similar businesses. As part
of this restructuring, the Company froze the Pension Plan to new participants.
Employees who participated in the Pension Plan at that time were given the
option of remaining in (and continuing to accrue benefits under) the Pension
Plan or receiving an enhanced matching contribution in the Savings Plan.
Because the Pension Plan is not open to new participants, the number of active
participants in that plan has decreased and is approaching the minimum number
needed for the Pension Plan to maintain its tax-qualified status. To avoid
jeopardizing the tax-qualified status of the Pension Plan, the Company's Board
of Directors ("Board") amended the Pension Plan on September 24, 2004. To ensure
that the Company continues to provide appropriate levels of benefits to the
Company's employees, the Board amended the Pension Plan and the Savings Plan,
effective January 1, 2005, so that Pension Plan participants who are actively
employed by the Company on that date (1) receive two additional years of benefit
service credit to be used in calculating their Pension Plan benefit (subject to
the Pension Plan's limit of 35 years of benefit service credit), (2) have the
option to receive their Pension Plan benefit in the form of a lump sum at the
time it is distributed, and (3) are eligible to receive the enhanced matching
contribution in the Savings Plan. In addition, effective January 1, 2005, the
Board amended the Pension Plan so that participants will not accrue any
additional benefits under that plan. These changes were communicated to the
Company's employees during the first week of November 2004. As a result of the
amendments to the Pension Plan, a gain of approximately $172,000 (after tax) was
recorded during the third quarter of 2004.
In connection with these changes to the Company's retirement program, the Board
also amended the non-qualified defined benefit plan on September 24, 2004 to
reflect the two additional years of benefit service credit and to freeze all
benefit accruals under that plan as of January 1, 2005. However, benefits under
the non-qualified plan will not be payable in the form of a lump sum. As a
result of these amendments, a new actuarial valuation was performed as of
September 30, 2004. A loss of $41,000 (after tax) was recorded in September
2004. Additionally, because the actuarial valuation indicated that the
accumulated benefit obligation exceeded the liability accrued as of September
30, 2004, a minimum pension liability in the amount of $489,000 (after tax) was
recorded as a component of comprehensive income.
The assumptions used for the discount rates for the revaluations of the plans
were reviewed by the Company and lowered from 6 percent to 5.5 percent,
reflecting a reduction in the interest rates of high quality bonds and a
reduction in the expected life of the plan, due to the lump sum payment option.
Additionally, the expected return on plan assets for the qualified plan was
lowered from 8.5 percent to 6 percent, due to the adoption of a change in the
investment policy that calls for a higher level of investment in bonds and a
lower level of equity investments. There was no change in the assumed pay rate
increases.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
BUSINESS DESCRIPTION
Chesapeake Utilities Corporation (the "Company" or "Chesapeake") is a
diversified utility company engaged in natural gas distribution and
transmission, propane distribution and wholesale marketing, advanced information
services and other related businesses.
The Company's strategy is to grow earnings from a stable utility foundation by
investing in related businesses and services that provide opportunities for
higher, unregulated returns. This growth strategy includes acquisitions and
investments in unregulated businesses as well as the continued investment and
expansion of the Company's utility operations that provide the stable base of
earnings. The Company continually reevaluates its investments to ensure that
they are consistent with its strategy and the goal of enhancing shareholder
value. The Company's unregulated businesses and services currently include
propane distribution and wholesale marketing, advanced information services and
other related businesses.
Chesapeake sold the assets and operations of six of its seven water dealerships
during 2003. The Company sold the remaining operation in October 2004.
FINANCIAL POSITION, LIQUIDITY AND CAPITAL RESOURCES
The Company's capital requirements reflect the capital-intensive nature of its
business and are principally attributable to its construction program (described
below) and the retirement of outstanding debt. The Company relies on cash
generated by operations and short-term borrowing to meet normal working capital
requirements and to finance, temporarily, capital expenditures. During the first
nine months of 2004, net cash provided by operating activities, net cash used by
investing activities and net cash used by financing activities were
approximately $17.7 million, $11.7 million and $8.2 million, respectively.
The Board of Directors has authorized the Company to borrow up to $35.0 million
of short-term debt from various banks and trust companies. As of September 30,
2004, Chesapeake had five unsecured bank lines of credit with three financial
institutions, totaling $65.0 million, for short-term cash needs to meet seasonal
working capital requirements and to fund, temporarily, portions of its capital
expenditures. Two of the bank lines, totaling $15.0 million, are committed. The
remaining three lines are subject to the banks' availability of funds. In the
first nine months of 2004, cash provided by operations was adequate to fund
capital expenditures and repay the $3.5 million of short-term debt that was
outstanding at December 31, 2003. At September 30, 2004, the Company had
outstanding an irrevocable letter of credit in the amount of $694,000 issued to
one of the Company's insurance providers. The letter of credit reduced the
available borrowing under the short-term lines.
During the nine-month periods ended September 30, 2004 and 2003, capital
expenditures (net of retirements) were approximately $12.1 million and $7.7
million, respectively. Chesapeake has budgeted $20.8 million for capital
expenditures during 2004. This amount includes $15.8 million for natural gas
distribution and transmission, $4.1 million for propane distribution and
marketing, $285,000 for advanced information services and $614,000 for other
operations. Through September 30, 2004, the natural gas segment had spent $9.6
million, the propane segment $2.6 million, the advanced information services
segment $35,000 and the other operations $266,000 on capital items. The natural
gas distribution and transmission expenditures are for expansion and improvement
of facilities. The propane expenditures are to support customer growth and for
the replacement of equipment. The advanced information services expenditures are
for computer hardware, software and related equipment. The other operations
budget includes general plant, computer software and hardware expenditures.
Financing for the capital expenditure program for the balance of 2004 is
expected to be provided from short-term borrowing and cash provided by operating
activities. The capital expenditure program is subject to continual review and
modification. Actual capital requirements may vary from the above estimates due
to a number of factors including acquisition opportunities, changing economic
conditions, customer growth in existing areas, regulation, availability of
capital and new growth opportunities.
The Company has budgeted $170,000 for capital expenditures in 2004 related to
environmental remediation projects, and expects to make additional expenditures
in future years. Management does not expect any such expenditures or financing
to have a material adverse effect on the financial position or capital resources
of the Company (see Note 3 to the Condensed Consolidated Financial Statements).
As of September 30, 2004 common equity represented 52.5 percent of total
capitalization, compared to 51.2 percent as of December 31, 2003. Combining
short-term financing with total capitalization, the equity component would have
been 51.4 percent and 48.8 percent at September 30, 2004 and December 31, 2003,
respectively. The Company remains committed to maintaining a sound capital
structure and strong credit ratings in order to provide the financial
flexibility needed to access the capital markets when required. This commitment,
along with adequate and timely rate relief for the Company's regulated
operations, is intended to ensure that the Company will be able to attract
capital from outside sources at a reasonable cost.
Interest expense for the first nine months of 2004 decreased approximately
$334,000, or 8 percent, versus the same period in 2003. Interest on long-term
debt accounted for $255,000 of the decrease. The average long-term debt balance
in the first nine months of 2004 was $71.7 million compared to $75.8 million for
the first nine months of 2003. The average interest rate was 7.2 percent during
both periods. Additionally, interest on short-term debt decreased $59,000 during
the first nine months of 2004, compared to the same period during 2003. This
decrease was the result of a decline in the average balance of short-term debt
from $3.4 million during the first nine months of 2003 to $207,000 for the first
nine months of 2004.
OFF-BALANCE SHEET ARRANGEMENTS AND CONTRACTUAL OBLIGATIONS
As noted in the Company's 2003 Annual Report on Form 10-K, the only off-balance
sheet arrangements are corporate guarantees to certain vendors of its propane
wholesale marketing subsidiary and a letter of credit issued to its main
insurance carrier. See Note 3 to the Condensed Consolidated Financial Statements
for further information.
There have been no material changes in the contractual obligations presented in
the Company's 2003 Annual Report on Form 10-K, except for commodity purchase
obligations and forward contracts entered into in the ordinary course of the
Company's business. Below is a summary of the commodity and forward contract
obligations at September 30, 2004. None of the commodity or forward contracts
extend beyond 2005.
- --------------------------------------------------------------------
PAYMENTS DUE BY PERIOD
-------------------------------------
CONTRACTUAL OBLIGATIONS: 2004 2005 TOTAL
- --------------------------------------------------------------------
Commodities (1) . . . . . . . $ 2,983,050 $ 2,479,635 $ 5,462,685
Forward contracts propane (2) 6,172,530 - 6,172,530
- --------------------------------------------------------------------
Total . . . . . . . . . . . . $ 9,155,580 $ 2,479,635 $11,635,215
====================================================================
(1) In addition to the obligations noted above, the natural gas distribution
and propane distribution operations have agreements with commodity
suppliers that have provisions which allow the Company to reduce or
eliminate the quantities purchased. There are no monetary penalties for
reducing the amounts purchased; however, the propane contracts allow the
suppliers to reduce the amounts available in the winter season if the
Company does not purchase specified amounts during the summer season. Under
these contracts, the commodity prices will fluctuate with a market-based
index.
(2) The Company has also entered into forward and future sale contracts of $9.9
million. See the "Quantitative and Qualitative Disclosures about Market
Risk" section of the Management's Discussion and Analysis of Financial
Condition and Results of Operations portion of this report for Further
information.
RESULTS OF OPERATIONS FOR THE QUARTER ENDED SEPTEMBER 30, 2004
CONSOLIDATED OVERVIEW
The Company improved its results from continuing operations by $126,000 during
the third quarter of 2004. Chesapeake experienced a seasonal loss from
continuing operations of $584,000 or $0.10 per share (fully diluted), compared
to a seasonal net loss from continuing operations of $710,000 or $0.13 per share
(fully diluted) for the third quarter of 2003. Chesapeake's Delmarva natural gas
distribution and propane distribution operations typically experience losses
during the third quarter, because heating customers do not require gas in the
summer months. Losses from discontinued operations decreased $78,000 during the
quarter, reflecting the sales of six of the seven water service businesses
during the second half of 2003. The Company amended its qualified and
supplemental defined benefit pension plans and froze all benefit accruals
effective December 31, 2004. As a result, a net gain of $218,000 (pre-tax) was
recorded in the third quarter of 2004. The Company's Florida service territory
was impacted by three hurricanes during August and September of 2004. See Note 3
to the Condensed Consolidated Financial Statements for information on the
incurred and expected future effects from the hurricanes.
In the fourth quarter of 2003, the Company restated its quarterly financial
statements for prior periods to reflect the results of its Delaware and Maryland
natural gas divisions on the accrual revenue recognition method rather than the
"as billed" method. See Note 1 to the Condensed Consolidated Financial
Statements. Additional information regarding this restatement can also be found
in the Company's report on Form 10-K for the year ended December 31, 2003.
- ------------------------------------------------------------------------------------
. 2004 2003
FOR THE THREE MONTHS ENDED SEPTEMBER 30, RESTATED CHANGE
- ------------------------------------------------------------------------------------
Operating Income
Natural Gas Distribution & Transmission $ 1,759,680 $ 1,555,282 $ 204,398
Propane . . . . . . . . . . . . . . . . (1,547,622) (1,596,707) 49,085
Advanced Information Services . . . . . 44,698 99,495 (54,797)
Other . . . . . . . . . . . . . . . . . 25,982 94,565 (68,583)
- ------------------------------------------------------------------------------------
Operating Income. . . . . . . . . . . . . 282,738 152,635 130,103
Other Income. . . . . . . . . . . . . . . 38,357 (24,869) 63,226
Interest Charges. . . . . . . . . . . . . 1,325,397 1,419,887 (94,490)
Income Taxes. . . . . . . . . . . . . . . (420,131) (582,328) 162,197
- ------------------------------------------------------------------------------------
Net Loss from Continuing Operations . . . $ (584,171) $ (709,793) $ 125,622
====================================================================================
The following discussions of segment results include use of the term "gross
margin." Gross margin is determined by deducting the cost of sales from
operating revenue. Cost of sales includes the purchased gas cost for the natural
gas and propane segments and the cost of labor spent on direct revenue-producing
activities for advanced information services segment. Gross margin should not be
considered an alternative to operating income or net income, which are
determined in accordance with Generally Accepted Accounting Principles ("GAAP").
Chesapeake believes that gross margin, although a non-GAAP measure, is useful
and meaningful to investors as a basis for making investment decisions. It
provides investors with information that demonstrates the profitability achieved
by the Company under its allowed rates for regulated operations and under its
competitive pricing structure for non-regulated segments. Chesapeake's
management uses gross margin in measuring certain performance goals and has
historically analyzed and reported gross margin information in its public
filings and presentations. Other companies may calculate gross margin in a
different manner.
NATURAL GAS DISTRIBUTION AND TRANSMISSION
The natural gas distribution and transmission segment earned operating income of
$1,647,000 for the third quarter of 2004 compared to $1,555,000 for the
corresponding period last year, an increase of $92,000.
- ------------------------------------------------------------------------------------
. 2004 2003
FOR THE THREE MONTHS ENDED SEPTEMBER 30, RESTATED CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $18,942,975 $17,196,008 $ 1,746,967
Cost of gas . . . . . . . . . . . . . . . 10,066,381 8,873,560 1,192,821
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 8,876,594 8,322,448 554,146
Other Operating Expenses:
Operations & maintenance. . . . . . . . 4,976,464 4,801,957 174,507
Depreciation & amortization . . . . . . 1,375,472 1,287,227 88,245
Other taxes . . . . . . . . . . . . . . 764,978 677,982 86,996
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 7,116,914 6,767,166 349,748
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $ 1,759,680 $ 1,555,282 $ 204,398
====================================================================================
Gross margin for the Delaware and Maryland distribution divisions increased
$162,000 from 2003. The increase resulted from an increase of 2,423 in the
number of residential customers in the third quarter of 2004, an 8 percent
increase compared to the third quarter of 2003. The customer growth was
primarily the result of new housing construction. The Company estimates that
each residential customer added contributes $372 annually to gross margin and
requires an additional cost of $104 for operations and maintenance expenses.
Gross margin for the Florida operations increased by $289,000, due to an
increase of 8 percent in the number of residential customers and growth in the
industrial gross margin. The natural gas transmission gross margin increased by
$93,000 resulting from an increase in transportation services. Other operating
expenses, primarily payroll, pension, insurance and customer service costs, were
higher primarily as a result of customer growth. Depreciation was also higher,
reflecting the continued investment in plant assets.
PROPANE
During the third quarter of 2004, the propane segment experienced a reduction of
$31,000 in operating loss compared to the third quarter of 2003. An increase of
$371,000 in gross margin was largely offset by an increase of $340,000 in other
operating expenses.
- ------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 2003 CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $ 4,719,959 $ 3,636,283 $ 1,083,676
Cost of sales . . . . . . . . . . . . . . 2,993,237 2,280,092 713,145
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 1,726,722 1,356,191 370,531
Other Operating Expenses:
Operations & maintenance. . . . . . . . 2,752,409 2,422,607 329,802
Depreciation & amortization . . . . . . 391,099 385,151 5,948
Other taxes . . . . . . . . . . . . . . 130,836 145,140 (14,304)
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 3,274,344 2,952,898 321,446
- ------------------------------------------------------------------------------------
Total Operating Loss. . . . . . . . . . . $(1,547,622) $(1,596,707) $ 49,085
====================================================================================
The Delmarva distribution operations experienced an increase in gross margin of
$102,000 that was more than offset by an increase in other operating expenses of
$291,000. The Florida propane distribution operations experienced a decrease in
operating losses of $103,000. An increase of $109,000 in gross margin was
slightly offset by an increase of $5,000 in other operating expenses. The
improvement in Florida's gross margin occurred due to a reduction in service
department costs caused by terminating house piping service offerings at certain
locations.
The Company's propane wholesale marketing operation increased operating income
$117,000 compared to the third quarter of 2003. Gross margins improved $160,000
but were partially offset by an increase of $43,000 in other operating expenses.
ADVANCED INFORMATION SERVICES
The advanced information services business contributed operating income of
$45,000 for the third quarter of 2004, a decrease of $55,000 compared to the
third quarter of last year.
- ------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 2003 CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $ 3,002,825 $ 2,661,472 $ 341,353
Cost of sales . . . . . . . . . . . . . . 1,733,059 1,281,096 451,963
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 1,269,766 1,380,376 (110,610)
Other Operating Expenses:
Operations & maintenance. . . . . . . . 1,083,639 1,130,888 (47,249)
Depreciation & amortization . . . . . . 32,690 47,256 (14,566)
Other taxes . . . . . . . . . . . . . . 108,739 102,737 6,002
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 1,225,068 1,280,881 (55,813)
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $ 44,698 $ 99,495 $ (54,797)
====================================================================================
The advanced information services segment increased its revenue by $341,000;
however, the cost of sales increased by $452,000, resulting in a decrease in
gross margin. The 2003 results included the sale of rights to an
internally-developed software product. The product development costs were
expensed as incurred, therefore, there was no associated cost of sales in 2003.
The sale added $284,000 to operating income for the third quarter of 2003.
Operations expenses in 2004 included costs to enhance the Lightweight
Association Management Processing System (LAMPS) software product. Version 2.0
of LAMPS was released on October 7, 2004. These costs were offset by reduced
incentive compensation costs.
OTHER BUSINESS OPERATIONS AND ELIMINATIONS
Other operations and eliminating entries contributed operating income of
$149,000 for the third quarter of 2004 compared to operating income of $83,000
for the third quarter of last year. Other operations consist primarily of
subsidiaries that own real estate leased to other Company subsidiaries.
Eliminations are entries required to eliminate activities between business
segments from the consolidated results.
- ------------------------------------------------------------------------------------
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2004 2003 CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $ 154,623 $ 174,529 $ (19,906)
Cost of sales . . . . . . . . . . . . . . - - -
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 154,623 174,529 (19,906)
Other Operating Expenses:
Operations & maintenance. . . . . . . . 68,694 18,573 50,121
Depreciation & amortization . . . . . . 51,263 59,529 (8,266)
Other taxes . . . . . . . . . . . . . . 16,723 13,656 3,067
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 136,680 91,758 44,922
- ------------------------------------------------------------------------------------
Operating Income - Other. . . . . . . . . 17,943 82,771 (64,828)
Operating Income - Eliminations . . . . . 8,039 11,794 (3,755)
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $ 25,982 $ 94,565 $ (68,583)
====================================================================================
DISCONTINUED OPERATIONS
In 2003, Chesapeake decided to exit the water services business. Six of seven
water dealerships were sold during 2003 and the remaining operation in October
2004. During the third quarter of 2004 the Company recorded an asset impairment
of approximately $30,000 (after-tax) based on the preliminary sales agreement.
The results of the water companies' operations for all periods presented in the
consolidated income statements have been reclassified to discontinued operations
and shown net of tax. For the third quarter of 2004 discontinued operations
experienced a loss from operations of $42,000 (in addition to the $30,000
expected impairment noted above), compared to a loss of $44,000 in the third
quarter of 2003.
INCOME TAXES
The Company's income tax benefit for the third quarter of 2004 was lower than
2003 due to a lower loss. The federal income tax rate was consistent from year
to year.
INTEREST EXPENSE
Interest for the third quarter of 2004 decreased approximately $94,000, or 7
percent, over the same period in 2003. The decrease resulted from the scheduled
repayments of principal of long-term debt and lower short-term borrowing.
The average long-term debt balance in the third quarter of 2004 was $71.5
million, compared to $75.5 million in the second quarter of 2003. The average
interest rate was 7.2 percent during both periods. The average borrowing against
the Company's short-term credit facilities during the third quarter of 2004 was
$27,000, compared to $2.6 million in the third quarter of 2003.
RESULTS OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004
CONSOLIDATED OVERVIEW
The Company's net income from continuing operations was $5.8 million or $1.00
per share (fully diluted), for the first nine months of 2004, a decline of $1.1
million compared to net income from continuing operations of $6.9 million, or
$1.21 per share (fully diluted) for the corresponding period in 2003. The
decrease principally reflects a decline in operating income caused by warmer
temperatures on the Delmarva Peninsula. Management estimates that warmer weather
negatively impacted margins by $1.1 million. The natural gas segment was able to
partially offset the impact of warmer weather through customer growth.
Additionally, the Company has incurred approximately $331,000 of expenses
through September 30, 2004 related to compliance with section 404 of the
Sarbanes Oxley legislation. These costs include incremental audit fees,
expansion of the Internal Audit Department and hiring an outside consultant. The
Company estimates that the total incremental cost of these compliance efforts
will be approximately $500,000 in 2004. The Company's Florida service territory
was impacted by three hurricanes during August and September of 2004. See Note 3
to the Condensed Consolidated Financial Statements for information on the
incurred and expected future effects from the hurricanes.
In the fourth quarter of 2003, the Company restated its quarterly financial
statements for prior periods to reflect the results of its Delaware and Maryland
natural gas divisions on the accrual revenue recognition method rather than the
"as billed" revenue recognition method. See Note 1 to the Condensed Consolidated
Financial Statements. Additional information regarding this restatement can also
be found in the Company's report on Form 10-K for the year ended December 31,
2003.
- ------------------------------------------------------------------------------------
. 2004 2003
FOR THE NINE MONTHS ENDED SEPTEMBER 30,. . RESTATED CHANGE
- ------------------------------------------------------------------------------------
Operating Income
Natural Gas Distribution & Transmission $11,674,347 $11,829,156 $ (154,809)
Propane . . . . . . . . . . . . . . . . 892,459 2,898,743 (2,006,284)
Advanced Information Services . . . . . 376,533 326,129 50,404
Other & eliminations. . . . . . . . . . 201,500 271,302 (69,802)
- ------------------------------------------------------------------------------------
Operating Income. . . . . . . . . . . . . 13,144,839 15,325,330 (2,180,491)
Other Income. . . . . . . . . . . . . . . 215,051 63,289 151,762
Interest Charges. . . . . . . . . . . . . 3,980,395 4,314,742 (334,347)
Income Taxes. . . . . . . . . . . . . . . 3,578,614 4,212,031 (633,417)
- ------------------------------------------------------------------------------------
Net Income from Continuing Operations . . $ 5,800,881 $ 6,861,846 $(1,060,965)
====================================================================================
The following discussions of segment results include use of the term "gross
margin." Gross margin is determined by deducting the cost of sales from
operating revenue. Cost of sales includes the purchased gas cost for the natural
gas and propane segments and the cost of labor spent on direct revenue-producing
activities for advanced information services segment. Gross margin should not be
considered an alternative to operating income or net income, which are
determined in accordance with Generally Accepted Accounting Principles ("GAAP").
Chesapeake believes that gross margin, although a non-GAAP measure, is useful
and meaningful to investors as a basis for making investment decisions. It
provides investors with information that demonstrates the profitability achieved
by the Company under its allowed rates for regulated operations and under its
competitive pricing structure for non-regulated segments. Chesapeake's
management uses gross margin in measuring certain performance goals and has
historically analyzed and reported gross margin information in its public
filings and presentations. Other companies may calculate gross margin in a
different manner.
NATURAL GAS DISTRIBUTION AND TRANSMISSION
The natural gas distribution and transmission segment earned operating income of
$11.6 million for the first nine months of 2004 compared to $11.8 million for
the corresponding period last year, a decrease of $267,000.
- ------------------------------------------------------------------------------------
. 2004 2003
FOR THE NINE MONTHS ENDED SEPTEMBER 30,. . RESTATED CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $86,441,192 $78,843,729 $ 7,597,463
Cost of gas . . . . . . . . . . . . . . . 52,596,322 46,486,758 6,109,564
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 33,844,870 32,356,971 1,487,899
Other Operating Expenses:
Operations & maintenance. . . . . . . . 15,715,467 14,491,058 1,224,409
Depreciation & amortization . . . . . . 4,078,568 3,851,059 227,509
Other taxes . . . . . . . . . . . . . . 2,376,488 2,185,698 190,790
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 22,170,523 20,527,815 1,642,708
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $11,674,347 $11,829,156 $ (154,809)
====================================================================================
Gross margin for the Delaware and Maryland distribution divisions increased
$158,000 over 2003 due to an increase in customers that offset the negative
impact of warmer temperatures. Delaware and Maryland experienced an increase of
2,237 in the number of residential customers during the nine months ended
September 30, 2004, a 7.0 percent increase compared to the first nine months of
2003. The increase was primarily the result of new housing construction. The
Company estimates that each residential customer added contributes $372 annually
to gross margin and requires an additional cost of $104 for operations and
maintenance expenses. This growth offset a temperature decline of 9 percent (303
heating degree-days) for the first nine months of 2004 compared to the same
period of 2003. Management estimates that warmer temperatures negatively
impacted margins by $545,000. Temperatures were 4 percent colder (103 heating
degree-days) than the 10-year average. The Company estimates that, on an annual
basis, each heating degree-day changes gross margin on gas sales by $1,800.
Gross margin for the Florida distribution operations increased by $798,000, due
to an increase of 6.7 percent in the number of residential customers and growth
in the industrial gross margin. The natural gas transmission gross margin
increased by $517,000. Firm transportation services increased $449,000 due to
firm customers adding capacity. Additionally, interruptible transportation
increased $65,000 over 2003.
The gross margin increases were offset by higher operating expenses primarily
due to customer growth. Payroll, benefits and facilities costs were up.
Depreciation was also higher, reflecting the continued investment in plant
assets.
PROPANE
During the nine months ended September 30, 2004, the propane segment experienced
a decrease of $2.0 million in operating income compared to the same period in
2003, reflecting a gross margin decrease of $1.8 million and an increase in
operating expenses of $217,000.
- ------------------------------------------------------------------------------------
FOR THE NINE MONTHS ENDED SEPTEMBER 30,. . 2004 2003 CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $28,934,622 $29,420,717 $ (486,095)
Cost of sales . . . . . . . . . . . . . . 17,558,053 16,236,221 1,321,832
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 11,376,569 13,184,496 (1,807,927)
Other Operating Expenses:
Operations & maintenance. . . . . . . . 8,789,573 8,579,532 210,041
Depreciation & amortization . . . . . . 1,145,062 1,143,516 1,546
Other taxes . . . . . . . . . . . . . . 549,475 562,705 (13,230)
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 10,484,110 10,285,753 198,357
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $ 892,459 $ 2,898,743 $(2,006,284)
====================================================================================
The Delmarva distribution operations experienced a drop in gross margin of
$993,000, caused primarily by warmer temperatures. Retail volumes sold decreased
957,000 gallons, or 6 percent, for the first nine months of 2004 compared to
2003. Management estimates that the negative impact of weather on gross margin
was $512,000. Temperatures in the first nine months of 2004 were 9 percent
warmer than the first nine months of 2003 (303 heating degree-days) but 4
percent colder than the 10-year average (103 heating degree-days). The Company
estimates that on an annual basis, each heating degree-day generates gross
margin of $1,691. Additionally, there was a reduction caused by the closing of a
poultry processing plant in the fourth quarter of 2003 and by an outbreak of
avian influenza on the Delmarva Peninsula in the first quarter or 2004. The
plant is not expected to reopen. The influenza outbreak was contained. The
Florida propane distribution operations experienced a decrease in gross margin
of $54,000. The decrease was due primarily to a one-time service project that
contributed $192,000 to the 2003 gross margin, partially offset by a reduction
of service department costs during 2004.
The Company's propane wholesale marketing operation contributed $241,000 to
operating income; however, this was a decrease of $539,000 compared to the same
period in 2003. This reflects a conservative strategy taken in the wholesale
marketing operation, due to the high level of energy prices.
ADVANCED INFORMATION SERVICES
The advanced information services business contributed operating income of
$377,000 for the nine months ended September 30, 2004 compared to $326,000 for
the same period last year, an increase of $50,000.
- ------------------------------------------------------------------------------------
FOR THE NINE MONTHS ENDED SEPTEMBER 30,. . 2004 2003 CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $ 9,463,855 $ 9,148,067 $ 315,788
Cost of sales . . . . . . . . . . . . . . 5,276,546 5,043,257 233,289
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 4,187,309 4,104,810 82,499
Other Operating Expenses:
Operations & maintenance. . . . . . . . 3,313,835 3,239,012 74,823
Depreciation & amortization . . . . . . 106,365 146,127 (39,762)
Other taxes . . . . . . . . . . . . . . 390,576 393,542 (2,966)
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 3,810,776 3,778,681 32,095
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $ 376,533 $ 326,129 $ 50,404
====================================================================================
During the first nine months of 2004 gross margin grew by $82,000. Other
operating expenses increased primarily as a result of development work to
enhance the LAMPS software product. Version 2.0 of LAMPS was released on October
7, 2004. The 2003 results included a one-time sale of rights to a software
product that increased operating income by $284,000.
OTHER BUSINESS OPERATIONS AND ELIMINATIONS
Other operations and eliminating entries contributed operating income of
$308,000 for the nine months ended September 30, 2004 compared to income of
$248,000 for the same period last year. Other operations consist primarily of
subsidiaries that own real estate leased to other Company subsidiaries.
Eliminations are entries required to eliminate activities between business
segments from the consolidated results.
- ------------------------------------------------------------------------------------
FOR THE NINE MONTHS ENDED SEPTEMBER 30,. . 2004 2003 CHANGE
- ------------------------------------------------------------------------------------
Revenue . . . . . . . . . . . . . . . . . $ 492,755 $ 527,100 $ (34,345)
Cost of sales . . . . . . . . . . . . . . - - -
- ------------------------------------------------------------------------------------
Gross margin. . . . . . . . . . . . . . . 492,755 527,100 (34,345)
Other Operating Expenses:
Operations & maintenance. . . . . . . . 110,343 58,907 51,436
Depreciation & amortization . . . . . . 158,401 178,589 (20,188)
Other taxes . . . . . . . . . . . . . . 46,629 41,260 5,369
- ------------------------------------------------------------------------------------
Other operating expenses. . . . . . . . . 315,373 278,756 36,617
- ------------------------------------------------------------------------------------
Operating Income - Other. . . . . . . . . 177,382 248,344 (70,962)
Operating Income - Eliminations . . . . . 24,118 22,958 1,160
- ------------------------------------------------------------------------------------
Total Operating Income. . . . . . . . . . $ 201,500 $ 271,302 $ (69,802)
====================================================================================
DISCONTINUED OPERATIONS
In 2003, Chesapeake decided to exit the water services business. Six of seven
water dealerships were sold during 2003 and the remaining operation was sold
October 2004. At September 30, 2004, the Company recorded an expected asset
impairment of $30,000 (after tax), based on the preliminary agreement. The
results of the water companies' operations for all periods presented in the
consolidated income statements, have been reclassified to discontinued
operations and shown net of tax. For the first nine months of 2004 the
discontinued operations experienced an operating loss of $58,000 (in addition to
the $30,000 asset impairment noted above), compared to a loss of $278,000 for
the same period in 2003.
INCOME TAXES
The Company's income tax cost for the nine months ended September 30, 2004 was
lower than 2003 due to lower income. The federal income tax rate was consistent
from year to year.
INTEREST EXPENSE
Interest for the nine months ended September 30, 2004 decreased approximately
$334,000, or 8 percent, over the same period in 2003. The decrease resulted from
the scheduled repayments of principal of long-term debt and lower short-term
borrowing.
The average long-term debt balance for the first nine months of 2004 was $71.7
million compared to $75.8 for the same period in 2003. The average interest rate
was 7.2 percent for both periods. The average short-term borrowing for the first
nine months of 2004 was $207,000 compared to $3.4 million for 2003.
ENVIRONMENTAL MATTERS
As more fully described in Note 3 to the Condensed Consolidated Financial
Statements, Chesapeake has completed its responsibilities related to one former
gas manufacturing plant site and is currently participating in the
investigation, assessment or remediation of two other former gas manufacturing
plant sites. The Company continues to work with federal and state environmental
agencies to assess the environmental impact and explore options for corrective
action at these sites. The Company believes that future costs associated with
these sites will be recoverable in rates or through sharing arrangements with,
or contributions by, other responsible parties. The Company is in discussions
with the Maryland Department of the Environment regarding a fourth former gas
manufacturing plant site located in Cambridge, Maryland. The outcome of this
matter cannot be determined at this time.
OTHER MATTERS
REGULATORY MATTERS
The Delaware, Maryland and Florida Public Service Commissions regulate the
Company's natural gas distribution operations, while its natural gas
transmission operation is regulated by the Federal Energy Regulatory Commission
("FERC").
On April 1, 2003, Eastern Shore filed an application before the FERC requesting
authorization for the following: (1) Phase I - upgrade of Parkesburg Metering &
Regulating Station; (2) Phase II - construct and operate 2.7 miles of 16-inch
mainline looping in Pennsylvania; and (3) Phase III - construct and operate 3.0
miles of 16-inch mainline looping and a pressure control station in Delaware.
The purpose of this construction is to enable Eastern Shore to provide
additional daily firm transportation capacity of 15,100 dekatherms on Eastern
Shore's system phased in over a three-year period commencing November 1, 2003.
Phase I of this expansion was completed and placed into service on November 1,
2003. Bids for Phase II construction were received and a contract awarded.
Construction for Phase II started in July 2004 with a projected completion and
in-service date of November 2004. Phase III is expected to be constructed during
2005.
In October 2002, Eastern Shore filed an application with the FERC for recovery
of gas supply realignment costs associated with the implementation of FERC Order
No. 636. The costs totaled $196,000 (including interest). At that time, the FERC
would not review Eastern Shore's filing because the FERC wished to settle a
related matter with another transmission company first. The other transmission
company submitted a filing on December 5, 2003. Eastern Shore is preparing to
resubmit its transition cost recovery filing.
Eastern Shore, on February 9, 2004, filed with the FERC a Plan and Schedule for
Standards of Conduct Compliance as directed by the FERC's Order No. 2004, issued
on November 25, 2003. Such Standards of Conduct govern the relationship between
transmission providers such as Eastern Shore and their energy affiliates. Order
No. 2004 revises and conforms the current gas and electric standards by
broadening the definition of an energy affiliate covered by such standards of
conduct and applies them uniformly to natural gas pipeline and electric
transmission providers. Further, the standards will assure that transmission
providers cannot extend their market power over transmission to other energy
markets by giving their energy affiliates unduly preferential treatment. The
standards also help ensure transmission providers offer service to all customers
on a non-discriminatory basis. The deadline for compliance with the Standards of
Conduct was September 22, 2004. Eastern Shore performed the necessary training
required by FERC and completed the posting of required information as described
in Order 2004.
Eastern Shore is also following the FERC's recent rulemaking pertaining to
creditworthiness standards for interstate natural gas pipelines. Eastern Shore
will evaluate its current tariff creditworthiness provisions and make any
necessary revisions to conform to the FERC's rules relating to such standards.
On November 19, 2001, the Florida division filed a petition with the Florida
Public Service Commission ( the "Florida PSC") for approval of certain
transportation cost recovery rates. The Florida PSC approved the rates on
January 24, 2002, which provide for the recovery, over a two-year period, of the
Florida division's actual and projected non-recurring expenses incurred in the
implementation of the transportation provisions of the tariff as approved in a
November 2000 rate case. The Florida division filed a petition on February 4,
2004, to dispose of a minor under-recovery of the actual expenses incurred to
implement the tariff provisions. The petition was approved by the Florida PSC at
its March 23, 2004 agenda conference.
On November 5, 2002, the Florida PSC authorized a pilot program under which the
Florida division converted all remaining sales customers to transportation
service and exited the gas merchant function. Implementation of Phase One of the
Transitional Transportation Service ("TTS") program was completed in November
2002, and the Florida division is now actively providing the administrative
services as approved by the Florida PSC, including billing, collection service,
payment tracking, non-pay disconnects, various account reports and related
administrative activities.
On July 15, 2003, the Florida PSC approved a rate restructuring proposed by the
Florida division. The restructuring created three new low volume rate classes,
with customer charge levels that ensure that all customers receive benefits from
the TTS program.
On January 4, 2004, the Florida PSC authorized the Florida division to refund
the remaining balance in its over-recovered purchased gas costs account,
totaling $246,000, as a final step in its exit of the gas merchant function. The
refund was completed in March 2004.
On May 3, 2004, the Florida division filed its Conservation Program Cost
Recovery True-up for the calendar year 2003 with the Florida PSC. The Florida
PSC audited the program's revenues and expenditures and recommended a minor
adjustment to the amounts. The Florida division accepted the Florida PSC
findings and the 2005 conservation rates were approved by the Florida PSC on
November 4, 2004.
On August 25, 2004, the Florida division filed with the Florida PSC a petition
for authorization to restructure rates and establish new customer
classifications. The filing would allow the Florida division to collect a
greater percentage of revenues from fixed charges, rather than variable charges
based on consumption. The Florida PSC is expected to rule on this request in the
first quarter of 2005.
On September 1, 2004, the Delaware division filed its annual Gas Sales Service
Rates ("GSR") application that will be effective for service rendered on and
after November 1, 2004, with the Delaware Public Service Commission (Delaware
"PSC"). Along with the GSR application, the Delaware division also filed a
proposed natural gas commodity procurement plan, developed by an independent
consultant retained by the division and the Delaware PSC staff. The Delaware PSC
approved the GSR charges, subject to full evidentiary hearings and a final
decision by the Commission, on September 14, 2004.
In September, the Maryland division filed a proposed quarterly GSR charge to
become effective October 1, 2004, subject to review during the annual gas cost
proceeding. The quarterly filings allow the division to set gas cost recovery
rates at a level that closely reflects the current market rate for natural gas
commodities. The Maryland PSC issued new proposed code of conduct and affiliate
transaction regulations on May 10, 2004. The proposed regulations do contain a
clause that allows the Commission to waive any of the regulations for a utility
because of "good cause" shown. The final regulations are not expected to be
effective until the end of 2004 or the beginning of 2005, due to the time needed
for a review by the Governor's office, publication in the Maryland Register and
a comment period.
COMPETITION
The Company's natural gas operations compete with other forms of energy
including electricity, oil and propane. The principal competitive factors are
price, and to a lesser extent, accessibility. The Company's natural gas
distribution operations have several large volume industrial customers that have
the capacity to use fuel oil as an alternative to natural gas. When oil prices
decline, these interruptible customers convert to oil to satisfy their fuel
requirements. Lower levels in interruptible sales occur when oil prices are
lower relative to the price of natural gas. Oil prices, as well as the prices of
electricity and other fuels are subject to fluctuation for a variety of reasons;
therefore, future competitive conditions are not predictable. To address this
uncertainty, the Company uses flexible pricing arrangements on both the supply
and sales sides of its business to maximize sales volumes. As a result of the
transmission business' conversion to open access, this business has shifted from
providing competitive sales service to providing transportation and contract
storage services.
The Company's natural gas distribution operations located in Delaware, Maryland
and Florida offer transportation services to certain industrial customers. In
2001, the Florida operation extended transportation service to commercial
customers and, in 2002, to residential customers. With transportation service
now available on the Company's distribution systems, the Company is competing
with third party suppliers to sell gas to industrial customers. As it relates to
transportation services, the Company's competitors include the interstate
transmission company if the distribution customer is located close enough to the
transmission company's pipeline to make a connection economically feasible. The
customers at risk are usually large volume commercial and industrial customers
with the financial resources and capability to bypass the distribution
operations in this manner. In certain situations, the distribution operations
may adjust services and rates for these customers to retain their business. The
Company expects to continue to expand the availability of transportation service
to additional classes of distribution customers in the future. The Company
established a natural gas sales and supply operation in Florida in 1994 to
compete for customers eligible for transportation services.
The Company's propane distribution operations compete with several other propane
distributors in their service territories, primarily on the basis of service and
price, emphasizing reliability of service and responsiveness. Competition is
generally from local outlets of national distribution companies and local
businesses, because distributors located in close proximity to customers incur
lower costs of providing service. Propane competes primarily with electricity
and heating oil as energy sources. Since natural gas has historically been less
expensive than propane, propane is generally not distributed in geographic areas
serviced by natural gas pipeline or distribution systems.
The propane wholesale marketing operation competes against various marketers,
many of which have significantly greater resources and are able to obtain price
or volumetric advantages.
The advanced information services business faces significant competition from a
number of larger competitors having substantially greater resources available to
them than does the Company. In addition, changes in the advanced information
services business are occurring rapidly, which could adversely impact the
markets for the products and services offered by these businesses. This segment
competes on the basis of technological expertise, reputation and price.
RECENT PRONOUNCEMENTS
On January 12, 2004, the Financial Accounting Standards Board ("FASB") released
FASB Staff Position No. Statement of Financial Accounting Standards ("SFAS")
106-1 "Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003" ("the Act"). On
May 19, 2004, the FASB released FASB Staff Position No. SFAS 106-2 which
superseded SFAS 106-1. SFAS No. 106-2 provides guidance on the accounting for
the effects of the Act and requires certain disclosures regarding the effect of
the federal subsidy provided by the Act. It is effective for the first interim
or annual period beginning after June 15, 2004. Adoption of SFAS No. 106-2 is
not expected to have a material impact on the Company's post-retirement benefit
obligation.
The Emerging Issues Task Force ("EITF") of the FASB issued EITF No. 03-6 on
February 9, 2004. It requires that earnings used to calculate earnings per share
be allocated between common shareholders and other securities holders based on
their respective rights to receive dividends. This requirement was effective for
the second quarter of 2004. It had no impact on the Company's calculation of
earnings per share.
INFLATION
Inflation affects the cost of labor, products and services required for
operations, maintenance and capital improvements. While the impact of inflation
has remained low in recent years, natural gas and propane prices are subject to
rapid fluctuations. Fluctuations in natural gas prices are passed on to
customers through the gas cost recovery mechanism in the Company's tariffs. To
help cope with the effects of inflation on its capital investments and returns,
the Company seeks rate relief from regulatory commissions for regulated
operations while monitoring the returns of its unregulated business operations.
To compensate for fluctuations in propane gas prices, the Company adjusts its
propane selling prices to the extent allowed by the market.
CAUTIONARY STATEMENT
Chesapeake has made statements in this report that are considered to be
forward-looking statements. These statements are not matters of historical fact.
Sometimes they contain words such as "believes," "expects," "intends," "plans,"
"will," or "may," and other similar words of a predictive nature. These
statements relate to matters such as the sale of the water businesses, customer
growth, changes in revenues or gross margins, capital expenditures,
environmental remediation costs, regulatory approvals, market risks associated
with the Company's propane wholesale marketing operation, competition, inflation
and other matters. It is important to understand that these forward-looking
statements are not guarantees, but are subject to certain risks and
uncertainties and other important factors that could cause actual results to
differ materially from those in the forward-looking statements. These factors
include, among other things:
o the temperature sensitivity of the natural gas and propane businesses;
o the effect of spot, forward and futures market prices on the Company's
distribution, wholesale marketing and energy trading businesses;
o the effects of competition on the Company's unregulated and regulated
businesses;
o the effect of changes in federal, state or local regulatory and tax
requirements, including deregulation;
o the effect of accounting changes;
o the effect of compliance with environmental regulations or the
remediation of environmental damage;
o the effects of general economic conditions on the Company and its
customers;
o the ability of the Company's new and planned facilities and
acquisitions to generate expected revenues; and
o the Company's ability to obtain the rate relief and cost recovery
requested from utility regulators and the timing of the requested
regulatory actions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk represents the potential loss arising from adverse changes in market
rates and prices. Long-term debt is subject to potential losses based on the
change in interest rates. The Company's long-term debt consists primarily of
fixed rate senior notes, first mortgage bonds and convertible debentures, none
of which was issued for trading purposes. The carrying value of long-term debt
at September 30, 2004 was $71.4 million, with a fair value of $77.6 million,
based mainly on current market prices or discounted cash flows using current
rates for similar issues with similar terms and remaining maturities. The
Company is exposed to changes in interest rates due to the use of fixed rate
long-term debt to finance the business. Management continually monitors
fluctuations in interest rates and debt markets to assess the benefits of
changing the mix of long and short-term debt or refinancing existing debt.
The Company's propane distribution business is exposed to market risk as a
result of propane storage activities and entering into fixed price contracts for
supply. The Company can store up to approximately 4 million gallons (including
leased storage) of propane during the winter season to meet its customers' peak
requirements and to serve metered customers. Decreases in the wholesale price of
propane will cause the value of stored propane to decline. To mitigate the
impact of price fluctuations, the Company has adopted a risk management policy
that allows the propane distribution operation to enter into fair value hedges
of its inventory. At September 30, 2004 the Company had entered into a "put"
contract for 1.1 million gallons of propane to protect against a drop in the
inventory value. The "put" expires in January 2005.
The Company's propane wholesale marketing operation is a party to natural gas
liquids ("NGL") forward contracts, primarily propane contracts, with various
third parties. These contracts require that the propane wholesale marketing
operation purchase or sell NGL at a fixed price at fixed future dates. At
expiration, the contracts are settled by the delivery of NGL to the Company or
the counter party or booking out the transaction. (Booking out is a procedure
for financially settling a contract in lieu of the physical delivery of energy.)
The propane wholesale marketing operation also enters into futures contracts
that are traded on the New York Mercantile Exchange. In certain cases, the
futures contracts are settled by the payment or receipt of a net amount equal to
the difference between the current market price of the futures contract and the
original contract price; however, they may also be settled for physical receipt
or delivery of propane.
The forward and futures contracts are entered into for trading and wholesale
marketing purposes. The propane wholesale marketing business is subject to
commodity price risk on its open positions to the extent that market prices for
NGL deviate from fixed contract settlement prices. Market risk associated with
the trading of futures and forward contracts are monitored daily for compliance
with the Company's Risk Management Policy, which includes volumetric limits for
open positions. To manage exposures to changing market prices, open positions
are marked up or down to market prices and reviewed by oversight officials on a
daily basis. Additionally, the Risk Management Committee reviews periodic
reports on market and the credit risk of counter-parties, approves any
exceptions to the Risk Management Policy (within limits established by the Board
of Directors) and authorizes the use of any new types of contracts. Quantitative
information on forward and futures contracts at September 30, 2004 is presented
in the following table. All of the contracts mature within twelve months.
- --------------------------------------------------------------------------
QUANTITY ESTIMATED WEIGHTED AVERAGE
AT SEPTEMBER 30, 2004 IN GALLONS MARKET PRICES CONTRACT PRICES
- --------------------------------------------------------------------------
FORWARD CONTRACTS
Sale. . . . . . . . . 12,537,000 $0.8350 - $0.8600 $0.7907
Purchase. . . . . . . 7,980,000 $0.8350 - $0.8550 $0.7735
FUTURES CONTRACTS
Sale. . . . . . . . . 420,000 $0.8375 - $0.8400 $0.7950
- --------------------------------------------------------------------------
Estimated market prices and weighted average contract prices are
in dollars per gallon.
ITEM 4. CONTROLS AND PROCEDURES
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
The Chief Executive Officer and Chief Financial Officer of the Company, with the
participation of other Company officials, have evaluated the Company's
"disclosure controls and procedures" (as such term is defined under Rule
13a-15(e) and 15d-15(e) promulgated under the Securities Exchange Act of 1934,
as amended) as of September 30, 2004. Based upon their evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
During the quarter ended September 30, 2004, there was no change in the
Company's internal control over financial reporting that has materially
affected, or is reasonably likely to materially affect, the Company's internal
control over financial reporting.
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The Company is involved in certain legal actions and claims arising in the
normal course of business. The Company is also involved in certain legal
and administrative proceedings before various government agencies
concerning rates. In the opinion of management, the ultimate disposition of
these proceedings and claims will not have a material effect on the
consolidated financial position, results of operations or cash flows of the
Company.
ITEM 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY
SECURITIES
The Company did not repurchase any of its shares of common stock during the
three month period ended September 30, 2004. Chesapeake has no publicly
announced plans or programs to repurchase its shares.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits:
- Exhibit 31.1 - Certificate of Chief Executive Officer of
Chesapeake Utilities Corporation pursuant to Rule 13a-14(a) under
the Securities Exchange Act of 1934, dated November 9, 2004
- Exhibit 31.2 - Certificate of Chief Financial Officer of
Chesapeake Utilities Corporation pursuant to Rule 13a-14(a) under
the Securities Exchange Act of 1934, dated November 9, 2004
- Exhibit 32.1 - Certificate of Chief Executive Officer of
Chesapeake Utilities Corporation pursuant to 18 U.S.C. Section
1350, dated November 9, 2004
- Exhibit 32.2 - Certificate of Chief Financial Officer of
Chesapeake Utilities Corporation pursuant to 18 U.S.C. Section
1350, dated November 9, 2004
(b) Reports on Form 8-K: August 5, 2004 furnishing the Company's earnings
press release for the quarter ended June 30, 2004 (Items 7 and 12).
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.
Chesapeake Utilities Corporation
/s/ Michael P. McMasters
- ---------------------------
Michael P. McMasters
Vice President and Chief Financial Officer
Date: November 9, 2004