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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- -- EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
------------------- ---------------------
Commission file number 1-13883
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CALIFORNIA WATER SERVICE GROUP
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 77-0448994
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(Sate or other jurisdiction (I.R.S. Employer identification No.)
of incorporation or organization)
1720 North First Street, San Jose, CA. 95112
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
1-408-367-8200
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
Not Applicable
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed
since last report)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No ___
Indicate by checkmark whether the Registrant is an accelerated filer (as defined
in rule 12b-2 of the Act) Yes X No __
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. Common shares outstanding as of
August 11, 2003 - 16,932,046.
TABLE OF CONTENTS
Page
PART I Financial Review - Condensed Consolidated Financial Statements
and Management's Discussion and Analysis........................... 3
Item 1 Condensed Consolidated Balance Sheet
June 30, 2003 and December 31, 2002.............................. 4
Condensed Consolidated Statement of Income
For the Three Months Ended June 30, 2003 and 2002................ 5
Condensed Consolidated Statement of Income
For the Six Months Ended June 30, 2003 and 2002.................. 6
Condensed Consolidated Statement of Cash Flows
For the Six Months Ended June 30, 2003 and 2002.................. 7
Notes to Condensed Consolidated Financial Statements............... 8
Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................ 15
Item 3 Quantitative and Qualitative Disclosure about Market Risk.......... 27
Item 4 Controls and Procedures............................................ 27
PART II Other Information
Item 1 Legal Proceedings.................................................. 28
Item 4 Submission of Matters to a Vote of Security Holders................ 29
Item 6 Exhibits and Reports on Form 8-K................................... 29
Signatures......................................................... 30
Index to Exhibits.................................................. 31
2
PART I FINANCIAL INFORMATION
Item 1.
Financial Statements
The financial information presented in this 10-Q filing has been
prepared by management and has not been audited.
3
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED BALANCE SHEET
Unaudited
(In thousands, except per share data)
June 30, December 31,
2003 2002
---- ----
ASSETS
Utility plant:
Utility plant $ 1,054,394 $ 1,001,310
Less accumulated depreciation and amortization 316,121 304,322
----------- -----------
Net utility plant 738,273 696,988
----------- -----------
Current assets:
Cash and cash equivalents 992 1,063
Receivables, net of allowance for doubtful accounts 28,061 23,961
Unbilled revenue 10,039 7,969
Materials and supplies at average cost 2,800 2,760
Taxes and other prepaid expenses 5,571 7,234
----------- -----------
Total current assets 47,463 42,987
----------- -----------
Other assets:
Regulatory assets 52,703 46,089
Other assets 16,825 14,518
----------- -----------
Total other assets 69,528 60,607
----------- -----------
$ 855,264 $ 800,582
=========== ===========
CAPITALIZATION AND LIABILITIES
Capitalization:
Common stock, $.01 par value $ 152 $ 152
Additional paid-in capital 49,984 49,984
Retained earnings 144,416 149,215
Accumulated other comprehensive loss (134) (134)
----------- -----------
Total common stockholders' equity 194,418 199,217
Preferred stock 3,475 3,475
Long-term debt, less current maturities 270,918 250,365
----------- -----------
Total capitalization 468,811 453,057
----------- -----------
Current liabilities:
Current maturities of long-term debt 1,000 1,000
Short-term borrowings 50,058 36,379
Accounts payable 28,550 23,706
Accrued expenses and other liabilities 31,690 30,456
----------- -----------
Total current liabilities 111,298 91,541
Unamortized investment tax credits 2,819 2,774
Deferred income taxes 33,855 31,371
Regulatory and other liabilities 34,015 28,804
Advances for construction 119,549 115,459
Contributions in aid of construction 84,917 77,576
Commitments and contingencies
----------- -----------
$ 855,264 $ 800,582
=========== ===========
See accompanying Notes to Condensed Consolidated Financial Statements
4
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED STATEMENT OF INCOME
(In thousands, except per share data)
Unaudited
For the three months ended: June 30, June 30,
2003 2002
---- ----
Operating revenue $67,994 $69,183
------- -------
Operating expenses:
Operations 45,693 45,330
Maintenance 3,063 2,935
Depreciation and amortization 5,838 5,389
Income taxes 3,314 4,573
Property and other taxes 2,538 2,551
------- -------
Total operating expenses 60,446 60,778
------- -------
Net utility operating income 7,548 8,405
------- -------
Other income and expenses:
Non-regulated income, net 559 508
Gain on sale of non-utility property 958 1,922
------- -------
1,517 2,430
Interest expense:
Long-term debt interest 4,039 3,837
Other interest 441 380
------- -------
Total interest expense 4,480 4,217
Net income $ 4,585 $ 6,618
======= =======
Earnings per share
Basic $ 0.30 $ 0.43
======= =======
Diluted $ 0.30 $ 0.43
======= =======
Weighted average shares outstanding
Basic 15,182 15,182
======= =======
Diluted 15,198 15,185
======= =======
Dividends per share of common stock $0.28125 $0.28000
======== ========
See accompanying Notes to Condensed Consolidated Financial Statements
5
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED STATEMENT OF INCOME
(In thousands, except per share data)
Unaudited
For the six months ended:
June 30, June 30,
2003 2002
---- ----
Operating revenue $119,305 $120,794
-------- --------
Operating expenses:
Operations 83,453 80,032
Maintenance 6,316 5,355
Depreciation and amortization 11,598 10,783
Income taxes 2,761 5,852
Property and other taxes 5,003 5,014
-------- --------
Total operating expenses 109,131 107,036
-------- --------
Net utility operating income 10,174 13,758
-------- --------
Other income and expenses:
Non-regulated income, net 1,169 891
Gain on sale of non-utility property 1,511 1,973
-------- --------
2,680 2,864
Interest expense:
Long-term debt interest 8,217 7,369
Other interest 706 820
-------- --------
Total interest expense 9,037 8,075
Net income $ 3,817 $ 8,547
======== ========
Earnings per share
Basic $ 0.25 $ 0.56
======== ========
Diluted $ 0.25 $ 0.56
======== ========
Weighted average shares outstanding
Basic 15,182 15,182
======== ========
Diluted 15,191 15,185
======== ========
Dividends per share of common stock $ 0.5625 $ 0.5600
======== ========
See accompanying Notes to Condensed Consolidated Financial Statements
6
CALIFORNIA WATER SERVICE GROUP
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(In thousands)
Unaudited
For the six months ended:
June 30, June 30,
2003 2002
---- ----
Operating activities
Net income $ 3,817 $ 8,547
-------- --------
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 11,598 10,783
Deferred income taxes, investment tax credits
regulatory assets and liabilities, net (510) 1,981
Gain on sale of non-utility assets (1,511) (1,974)
Changes in operating assets and liabilities:
Receivables (2,360) (5,707)
Unbilled revenue (2,070) (2,785)
Taxes and other prepaid expenses 1,670 2,430
Accounts payable 4,824 3,210
Other current assets and liabilities 1,193 (2,306)
Other changes, net (1,513) (1,507)
-------- --------
Net adjustments 11,321 4,125
-------- --------
Net cash provided by operating activities 15,138 12,672
-------- --------
Investing activities:
Utility plant expenditures:
Company funded (32,191) (25,124)
Developer advances and contributions in aid of construction (10,092) (6,151)
Acquisitions (7,529) (2,300)
Proceeds from sale of non-utility assets 1,609 2,095
-------- --------
Net cash used in investing activities (48,203) (31,480)
-------- --------
Financing activities:
Net short-term borrowings 13,679 2,000
Net proceeds from long-term debt 19,640 19,855
Advances for construction 6,580 4,352
Refunds of advances for construction (2,371) (2,053)
Contributions in aid of construction 4,082 3,465
Dividends paid (8,616) (8,579)
-------- --------
Net cash provided by financing activities 32,994 19,040
-------- --------
Change in cash and cash equivalents (71) 232
Cash and cash equivalents at beginning of period 1,063 953
-------- --------
Cash and cash equivalents at end of period $ 992 $ 1,185
======== ========
Supplemental disclosure of cash flow information:
Cash paid during the six months:
Interest (net of amounts capitalized) $ 8,836 $ 7,612
Income taxes $ -- $ 1,530
See accompanying Notes to Condensed Consolidated Financial Statements
7
CALIFORNIA WATER SERVICE GROUP
Notes to Condensed Consolidated Financial Statements
June 30, 2003
Note 1. Organization and Operations
California Water Service Group (the Company) is a holding company that
provides water utility and other related services in California,
Washington, New Mexico and Hawaii through its wholly owned subsidiaries.
California Water Service Company (Cal Water), Washington Water Service
Company (Washington Water), New Mexico Water Service Company (New Mexico
Water) and Hawaii Water Service Company, Inc. (Hawaii Water) provide
regulated utility services under the rules and regulations of their
respective State's regulatory commissions. In addition, these entities and
CWS Utility Services provide non-regulated water utility and
utility-related services.
The Company operates primarily in one business segment providing water
utility services.
Note 2. Summary of Significant Accounting Policies
The interim financial information is unaudited. In the opinion of
management, the accompanying condensed consolidated financial statements
reflect all adjustments that are necessary to provide a fair presentation
of the results for the periods presented. The adjustments consist only of
normal recurring adjustments. The results for interim periods are not
necessarily indicative of the results of the entire year. The condensed
consolidated financial statements should be read in conjunction with the
Company's consolidated financial statements for the year ended December
31, 2002 included in its Form 10-K as filed with the Securities and
Exchange Commission on March 25, 2003.
Note 3. Stock-based Compensation
The Company has a stockholder approved Long-Term Incentive Plan that
allows granting of nonqualified stock options. The Company has adopted the
disclosure requirements of Statement of Financial Accounting Standards
(SFAS) No. 123 "Accounting for Stock-Based Compensation," as amended by
SFAS No. 148 "Accounting for Stock-Based Compensation - Transition
Disclosure - An Amendment of FASB Statement No. 123", and as permitted by
the statement, applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," for its plan. All outstanding
options have an exercise price equal to the market price on the date they
were granted. No compensation expense was recorded for the three and six
month periods ended June 30, 2003 and 2002 related to stock options. No
options were granted during the three and six month periods ended June 30,
2003.
The table below illustrates the effect on net income and earnings per
share as if the company had applied the fair value recognition provision
of SFAS No. 123 to employee compensation.
8
Three Months Ended June 30
--------------------------
(in thousands, except per share data)
2003 2002
---- ----
Net income, as reported $4,585 $6,618
Deduct: Stock-based employee compensation
expense determined under fair value
method for all awards, net of related tax effects 21 21
------ ------
Pro forma net income $4,564 $6,597
====== ======
Earnings per share
Basic - as reported $ 0.30 $ 0.43
Basic - pro forma $ 0.30 $ 0.43
Diluted - as reported $ 0.30 $ 0.43
Diluted - pro forma $ 0.30 $ 0.43
Six Months Ended June 30
------------------------
(in thousands, except per share data)
2003 2002
---- ----
Net income, as reported $3,817 $8,547
Deduct: Stock-based employee compensation
expense determined under fair value
method for all awards, net of related tax effects 42 42
------ ------
Pro forma net income $3,775 $8,505
====== ======
Earnings per share
Basic - as reported $ 0.25 $ 0.56
Basic - pro forma $ 0.25 $ 0.56
Diluted - as reported $ 0.25 $ 0.56
Diluted - pro forma $ 0.24 $ 0.56
Note 4. Seasonal Business
Due to the seasonal nature of the water business, the results for interim
periods are not indicative of the results for a twelve-month period.
Revenue and income are generally higher in the warm, dry summer months when
water usage and sales are greater. Revenue and income are lower in the
winter months when cooler temperatures and increased rainfall curtail water
usage and sales.
9
Note 5. Earnings Per Share Calculations
The computations of basic and diluted earnings per share are noted below.
Options to purchase 107,000 shares of common stock for the three and six
month periods ended June 30, 2002 were excluded from the diluted per share
calculation due to their anti-dilutive effect. No exclusions from the
diluted per share calculation were made for the three and six month periods
ended June 30, 2003.
Three Month Ended June 30
-------------------------
(in thousands, except per share data)
2003 2002
---- ----
Net income $ 4,585 $ 6,618
Less preferred dividends 38 38
------- -------
Net income available for common $ 4,547 $ 6,580
======= =======
Weighted average common shares 15,182 15,182
Dilutive common stock options (treasury method) 16 3
------- -------
Shares used for dilutive computation 15,198 15,185
======= =======
Net income per share - basic $ 0.30 $ 0.43
------- -------
Net income per share - diluted $ 0.30 $ 0.43
------- -------
Six Months Ended June 30
------------------------
(in thousands, except per share data)
2003 2002
---- ----
Net income $ 3,817 $ 8,547
Less preferred dividends 76 76
------- -------
Net income available for common $ 3,741 $ 8,471
======= =======
Weighted average common shares 15,182 15,182
Dilutive common stock options (treasury method) 9 3
------- -------
Shares used for dilutive computation 15,191 15,185
======= =======
Net income per share - basic $ 0.25 $ 0.56
------- -------
Net income per share - diluted $ 0.25 $ 0.56
------- -------
Note 6. Allowance for Doubtful Accounts
Allowance for doubtful accounts was $315,000 and $180,000 at June 30, 2003
and December 31, 2002, respectively.
10
Note 7. Regulatory Assets and Liabilities
The following table presents the components of regulatory assets and
liabilities as of June 30, 2003 and December 31, 2002.
(in thousands)
June 30, 2003 December 31, 2002
----------------- -----------------
Regulatory Assets
Deferred income taxes $31,341 $31,341
Post-retirement benefits other
than pensions 5,615 5,165
Asset retirement obligation 6,164 --
Accrued vacation and workers
compensation insurance 9,583 9,583
----------------- -----------------
Total Regulatory Assets $52,703 $46,089
================= =================
Regulatory Liabilities
Income taxes $16,263 $17,201
================= =================
11
Note 8. Non Regulated Revenue and Income
The following table presents the components of non-regulated income, net
for the three month and six month periods ended June 30 2003 and 2002.
Three Months Ended June 30
(in thousands)
2003 2002
--------------------- --------------------
Revenue Income Revenue Income
------- ------- ------- ------
Operating & maintenance $1,073 $ 254 $ 997 $ 178
Meter reading & billing 325 125 188 61
Leases 288 187 305 149
Water rights -- -- 139 139
Design & construction 169 42 1,593 33
Other 74 (49) 86 (52)
------ ------- ------ -----
Total $1,929 $ 559 $3,308 $ 508
====== ======= ====== =====
Six Months Ended June 30
(in thousands)
2003 2002
---------------------- --------------------
Revenue Income Revenue Income
------- ------- ------- ------
Operating & maintenance $2,100 $ 537 $1,971 $ 389
Meter reading & billing 642 258 457 134
Leases 582 388 536 261
Water rights -- -- 139 139
Design & construction 629 69 2,389 107
Other 177 (83) 99 (139)
------ ------- ------ -----
Total $4,130 $ 1,169 $5,591 $ 891
====== ======= ====== =====
12
Note 9. New Accounting Standards
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Accounting Standards ("SFAS") No. 143, "Accounting for Asset
Retirement Obligations," which applies to legal obligations associated
with the retirement of long-lived assets and the associated asset
retirement costs. The statement was effective for the Company in the first
quarter of 2003. The adoption of SFAS No. 143 did not have a material
impact to the Company's results of operations or cash flows.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." This Statement addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullifies Emerging Issues Task Force (EITF) Issue
No. 94-3, "Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring)." This Statement requires that a liability for costs
associated with an exit or disposal activity be recognized and measured
initially at fair value only when the liability is incurred. The
provisions of this statement are effective for exit or disposal activities
that are initiated after December 31, 2002. The adoption of SFAS No. 146
did not impact the Company's financial position, results of operations or
cash flows.
In November 2002, the FASB issued Interpretation No. 45, "Guarantors'
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others." Interpretation No. 45 requires that
a liability be recognized at the time a company issues a guarantee for the
fair value of the obligations assumed under certain guarantee agreements.
Interpretation No. 45 is effective for guarantees issued or modified after
December 31, 2002. The disclosure requirements of the Interpretation
expand the disclosures required by a guarantor about its obligations under
a guarantee. The adoption of the accounting requirements of Interpretation
No. 45 did not impact the Company's financial position, results of
operations or cash flows.
In January 2003, the FASB issued Interpretation No. 46, "Consolidation of
Variable Interest Entities." Interpretation No. 46 provides guidance for
determining when a primary beneficiary should consolidate a variable
interest entity or equivalent structure that functions to support the
activities of the primary beneficiary. Interpretation No. 46 is effective
for all new variable interest entities created or acquired after January
31, 2003. For variable interest entities created or acquired prior to
February 1, 2003, the provisions of Interpretation No. 46 must be applied
during the first interim or annual period beginning after June 15, 2003.
The adoption of Interpretation No. 46 did not impact the Company's
financial position, results of operations or cash flows.
In April 2003, the FASB issued SFAS No. 149 "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities". The standard impacts the
accounting for certain derivative contracts entered into after June 30,
2003. This standard is effective for quarters beginning after June 15,
2003. The Company currently does not enter into derivative or hedging
contracts. The adoption of SFAS No. 149 is not expected to have an impact
on the Company's financial position, results of operations or cash flows.
13
In May 2003, the FASB issued SFAS No. 150 "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity". The statement establishes standards for the classification and
measurement of certain financial instruments with characteristics of both
liabilities and equity. The statement is effective for financial
instruments entered into after May 31, 2003 and is otherwise effective for
quarters beginning after June 15, 2003. The Company has not issued
financial instruments that have characteristics of both liabilities and
equity. The adoption of SFAS No. 150 is not expected to have an impact on
the Company's financial position, results of operations or cash flows.
Note 10. Subsequent Events
Financing
On July 11, 2003, the Company's shelf registration statement providing for
the issuance from time to time of up to $120,000,000 in common stock,
preferred stock and/or debt securities, became effective. The Company may
issue any of these types of securities until the amount registered is
exhausted, and will add the net proceeds from the sale of the securities
to our general funds to be used for general corporate purposes, which may
include investment in subsidiaries, working capital, capital expenditures,
repayment of short-term borrowings, refinancing of existing long-term
debt, acquisitions and other business opportunities.
On August 4, 2003, the Company announced the issuance of 1,750,000 shares
of common stock from the shelf registration statement. A prospectus
supplement and prospectus were filed with the SEC under rule 424 (b) (2)
on August 5, 2003. The shares were sold at $26.25 per share. The net
proceeds to the Company were approximately $44 million and the transaction
was closed on August 7, 2003. The funds were used to pay down short-term
borrowings and to invest in short-term money market instruments pending
their use for general corporate purposes. Additional information is
incorporated by reference to a Form 8-K filed on August 6, 2003. After
issuance of the 1,750,000 shares, there remains $74,062,500 in securities
under the shelf registration, which are available for future issuance.
14
Item 2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD LOOKING STATEMENTS
This quarterly report, including all documents incorporated by reference,
may contain forward-looking statements. The forward-looking statements are
intended to qualify for "safe-harbor" treatment established by the Private
Securities Reform Act of 1995. Forward-looking statements are based on
currently available information, expectations, estimates, assumptions and
projections, and management's judgment about the company, the water
utility industry and general economic conditions. Words like "expects",
"intends", "plans", "believes", "estimates", "assumes", "anticipates",
"projects", "predicts", "forecasts" or variations of these words or
similar expressions are intended to identify forward-looking statements.
The forward-looking statements are not guarantees of future performance.
They are based on numerous assumptions that we believe are reasonable, but
they are open to a wide range of uncertainties and business risks.
Consequently, actual results may vary materially from what is contained in
a forward-looking statement. Factors which may cause actual results to be
different than expected or anticipated include: governmental and
regulatory commissions' decisions; changes in regulatory commissions'
policies and procedures; the timeliness of regulatory commissions' actions
concerning rate relief; new legislation; electric power interruptions;
increases in suppliers' prices and the availability of supplies including
water and power; fluctuations in interest rates; changes in environmental
compliance and water quality requirements; the ability to successfully
implement business plans; changes in customer water use patterns; the
impact of weather on water sales and operating results; access to
sufficient capital on satisfactory terms; civil disturbances or terrorist
threats or acts, or apprehension about possible future occurrences of acts
of this type; the involvement of the United States in war or other
hostilities; restrictive covenants in or changes to the credit ratings on
our current or future debt that could increase our financing costs or
affect our ability to borrow, make payments on debt or pay dividends; and,
other risks and unforeseen events. When considering forward-looking
statements, you should keep in mind the cautionary statements included in
this paragraph. We assume no obligation to provide public updates of
forward-looking statements.
CRITICAL ACCOUNTING POLICIES
We maintain our accounting records in accordance with accounting
principles generally accepted in the United States of America and as
directed by the regulatory commissions to which we are subject. The
process of preparing financial statements requires the use of estimates on
the part of management. The estimates used by management are based on
historical experience and an understanding of current facts and
circumstances. Management believes that the following accounting policies
are critical because they involve a higher degree of complexity and
judgement and can have a material impact on our results of operations and
financial condition.
15
Revenue Recognition
Revenue from metered customers includes billings to customers based on
monthly meter readings plus an estimate for water used between the
customer's last meter reading and the end of the accounting period. The
unbilled revenue amount is recorded as a current asset on the balance
sheet under the caption "Unbilled Revenue." At June 30, 2003, the unbilled
revenue amount was $10.0 million and at December 31, 2002 the amount was
$8.0 million. The unbilled revenue amount is generally higher during the
summer months when water sales are higher. The amount recorded as unbilled
revenue varies depending on water usage in the preceding period, the
number of days between meter reads for each billing cycle, and the number
of days between each cycle's meter reading and the end of the accounting
cycle.
Flat rate customers are billed in advance at the beginning of the service
period. The revenue is prorated so that the portion of revenue applicable
to the current accounting period is included in that period's revenue. The
portion related to a subsequent accounting period is recorded as unearned
revenue on the balance sheet and recognized as revenue when earned in the
subsequent accounting period. The unearned revenue liability was $1.9
million at June 30, 2003 and $1.7 million at December 31, 2002. This
liability is included in "accrued expenses and other liabilities" on the
balance sheet.
Revenues from non-regulated activities are recognized when services have
been rendered, when title has transferred to the buyer or ratable over the
term of agreement for lease contracts. For construction and design
services, revenue is generally recognized on the complete contract method,
as most projects are completed in less than three months. One construction
and design project spans multiple years and revenue is recognized using
the percentage-of-completion method based on a zero profit margin until
project completion.
Expense Balancing and Memorandum Accounts
Expense-balancing accounts and memorandum accounts (offsetable expenses)
represent costs incurred, but not billed to our customers. The amounts
included in these accounts relate to rate increases charged to us by
suppliers of purchased water and purchased power, and increases in pump
taxes. We do not record expense-balancing or memorandum accounts in our
financial statements as revenue, nor record a receivable until the
California Public Utilities Commission ("CPUC") has authorized recovery of
the higher costs and customers have been billed. The accounts are only
used to track the higher costs. The cost increases, which are beyond our
control, are referred to as "offsetable expenses" because under certain
circumstances they are recoverable from customers in future offset rate
increases.
Historically, offset rate increases enabled water utilities to recover as
a pass-through, cost increases for offsetable expenses that were not known
or anticipated when customer rates were established and were beyond the
utility's control. In December 2002, the CPUC issued a decision that
designated certain offsetable expenses as frozen. These were offsetable
expenses incurred prior to November 29, 2001. In May 2003, we received a
decision from the CPUC allowing recovery of $5.4 million of offsetable
expenses, of which $3.6 million will be collected from May 2003 through
May 2004 and $1.8 million will be collected from May 2004 through May
2005. Partially offsetting this amount will be a refund of $0.8 million to
one district that will be processed from June 2003 through June 2004.
Certain other amounts totaling approximately $0.7 million were not allowed
and will be incorporated into future rate case filings.
16
In June 2003, the CPUC issued a decision allowing water utility companies
to request recovery of "balancing-type memorandum accounts", which are
primarily comprised of higher electricity cost incurred between November
29, 2001 and December 31, 2002. Unlike the recovery of such costs prior to
November 29, 2001, certain limitations will apply. The primary limitation
is recovery will not be allowed if a district earned more than its
authorized rate of return for that year. We intend to file requests for
approximately $6 million in the third quarter of 2003. We cannot predict
the amount that will be authorized. We expect a decision prior to the end
of 2003.
A net $0.4 million of expense balancing account recovery was recognized in
revenue for the quarter ended June 30, 2003. At June 30, 2003, the amount
included in the offsetable expense accounts not yet recovered was $10.2
million, which reflects adjustments from the decisions noted above and
reductions for amounts recovered through customer billings.
Regulated Utility Accounting
Because we operate extensively in a regulated business, we are subject to
the provisions of Statement of Financial Accounting Standards (SFAS) No.
71, "Accounting for the Effects of Certain Types of Regulation."
Regulators establish rates that are expected to permit the recovery of the
cost of service and a return on investment. In the event a portion of our
operations were no longer subject to the provisions of SFAS No. 71, we
would be required to write off related regulatory assets and liabilities
that are not specifically recoverable and determine if other assets might
be impaired. If a regulatory commission determined that a portion of our
assets was not recoverable in customer rates, we would be required to
determine if we had suffered an asset impairment that would require a
write-down in the assets' valuation. There have been no such asset
impairments as of June 30, 2003.
Income Taxes
Significant judgment by management is required in determining the
provision for income taxes. The preparation of consolidated financial
statements requires the estimation of income tax expense. The process
involves the estimating of current tax exposure together with assessing
temporary differences resulting from different treatment of certain items,
such as depreciation, for tax and financial statement reporting. These
differences result in deferred tax assets and liabilities, which are
reported in the consolidated balance sheet. We must also assess the
likelihood that deferred tax assets will be recovered in future taxable
income, and to the extent recovery is unlikely, a valuation allowance
would be recorded. If a valuation allowance were required, it could
significantly increase income tax expense. In management's view, a
valuation allowance is not required as of June 30, 2003.
Pension Benefits
We incur costs associated with our pension and postretirement health care
benefits plans. To measure the expense of these benefits, management must
estimate compensation increases, mortality rates, future health cost
increases and discount rates used to value related liabilities and to
determine appropriate funding. Different estimates used by management
could result in significant variances in the cost recognized for pension
benefit plans. The estimates used are based on historical experience,
current facts, future expectations and recommendations
17
from independent advisors and actuaries. We use an investment advisor to
provide expert advice in managing the plan's investments. We anticipate
any increase in funding for the pension and postretirement health care
benefits plans will be recovered in future customer rates.
RESULTS OF SECOND QUARTER 2003 OPERATIONS
Second quarter net income was $4.6 million, equivalent to $0.30 per common
share on a diluted basis compared to the $6.6 million or $0.43 per share on
a diluted basis earned in the second quarter of 2002.
Operating Revenue
Operating revenue decreased $1.2 million or 2% to $68.0 million. Weather
had a significant influence on customer water usage. Temperatures were
approximately the same as the prior year for our markets. However,
precipitation was much higher compared to the prior year, (greater than 3
times last year's amount), which had a negative influence on usage. The
month of April in particular had significantly higher precipitation. The
factors that impacted the operating revenue decrease for the second quarter
of 2003 are presented in the following table:
Decreased usage by existing customers ($4,546,000)
Rate increases 1,895,000
Usage by new customers 1,462,000
------------
Net operating revenue decrease ($1,189,000)
============
Operating revenue from rate increases includes step rate increases
effective in January 2003, increases from 2 advice letters for the
Bakersfield plant, increases for Washington Water and increases for
balancing accounts. Usage by new customers includes $454,000 for New
Mexico Water as these operations were acquired in July 2002, and $508,000
for Hawaii Water, which was acquired on April 30, 2003.
Total Operating Expenses
Total operating expenses were $60,446,000 for the three months ended June
30, 2003 versus $60,778,000 for the same period in 2002, a 1% decrease.
This category is comprised of operations expense, maintenance,
depreciation/amortization, income taxes and property/other taxes.
Operations expense increased $363,000 or 1% from the prior year. A major
component of this expense is water production costs. Water production
costs consists of purchased water, purchased power and pump taxes. It
represents the largest component of operations expense. During the current
quarter, these costs accounted for 57% of total operations expense. Water
costs decreased 4% compared to last year. Water production quantities
decreased 6% due to the lower water usage by existing customers and was
partially offset by sales to new customers. Well production provided 51%
of the water supply, 48% was purchased from wholesale suppliers and 1% was
developed through our surface water treatment plants. The components of
water production costs and changes from the second quarter of last year
are shown in the table below:
18
Second Quarter
2003 Cost Change
----------- ------------
Purchased water $19,298,000 ($764,000)
Purchased power 5,360,000 26,000
Pump taxes 1,576,000 (269,000)
----------- ------------
Total $26,234,000 ($1,007,000)
=========== ============
Purchased water and pump taxes were lower due to the decreased usage by
customers. Purchased power, which is used mainly for pumping equipment at
wells and distribution lines, increased due to higher rates that were
partially offset by lower usage.
Other costs included in operations expense are wages, benefits, water
treatment, water supply, customer services costs and general corporate
expenses. Wages for union employees increased 1% effective January 1, 2003.
Overall labor costs increased 5% due to replacing personnel at higher
salaries and adding labor related to New Mexico Water and Hawaii Water.
Payroll costs charged to operations expense increased by $238,000. Benefit
costs increased $929,000 for pension costs and higher medical claim costs.
Part of the agreement with union employees included a change in the pension
plan for the minimum payment amounts. This change increased pension cost
substantially, increasing 68% from the prior year. At June 30, 2003 there
were 810 employees and at June 2002 there were 788 employees.
Other major items driving the increase in operations expenses were water
treatment/water quality expenses ($215,000) for increased testing and
customer service expenses ($166,000) caused by increases in bad debts.
Maintenance expense was $128,000 higher in the quarter ended June 30, 2003
due to additional maintenance required for mains, service line, meters and
tank repairs. Depreciation/amortization expense increased $449,000 because
of the increase in utility plant assets.
Federal and state income taxes decreased $1,259,000 due to the decrease in
taxable income. The effective tax rate was 42% in the current quarter and
41% for the same quarter in the prior year.
Other Income and Expense
Other income and expense was $1,517,000 net income compared to $2,430,000
net income in 2002, a decrease of $913,000. The decrease was driven by
lower sales of surplus real property that was partially offset by increases
in income from operating/maintenance arrangements, meter reading/billing
services and rental income from cellular antenna leases.
Interest Expense
Total interest expense increased $263,000 with long-term debt interest
increasing $202,000 and short-term interest expense increasing $61,000.
19
Long-term debt interest has three components. Interest increased a net
$482,000 because of the additional $40 million in senior notes issued. Our
refinancing program resulted in reduced interest cost on approximately $60
million of debt that produced savings of $315,000. This savings is
embedded in the net interest cost increase. Debt amortization increased
$30,000 due to the new debt and the program to refinance certain long-term
debt with lower-cost senior notes. Partially offsetting the interest
increase from new senior notes was the increase of $310,000 for
capitalization of interest related to construction projects in progress.
The amount of construction in progress has increased, driven by large
projects such as the Bakersfield treatment plant.
Borrowings under our short-term bank credit agreement were higher during
the second quarter of this year compared to the same quarter in 2002. The
average interest rate on short-term debt was approximately 2.8% in 2003
compared to approximately 3.1% during the second quarter in 2002. The
higher borrowings caused short-term interest expense to increase by
$61,000.
RESULTS OF SIX MONTHS ENDED JUNE 30, 2003
Net income for the six months ended June 30, 2003 was $3.8 million,
equivalent to $0.25 per common share on a diluted basis compared to the
$8.5 million or $0.56 per share on a diluted basis earned in 2002.
Operating Revenue
Operating revenue decreased $1.5 million or 1% to $119.3 million. Weather
had a significant influence on customer water usage. Temperatures were
approximately the same as the prior year for our markets. However,
precipitation was much higher, over two times the prior year comparable
period and had a negative influence on usage. The factors that impacted
the operating revenue decrease for the six months ended June 30, 2003 are
presented in the following table:
Decreased usage by existing customers ($6,433,000)
Rate increases 2,742,000
Usage by new customers 2,202,000
------------
Net operating revenue decrease ($1,489,000)
============
Operating revenue from rate increases includes step rate increases
effective in January 2003, increases from 2 advice letters for the
Bakersfield plant, increases for Washington Water and increases for
balancing accounts. Usage by new customers includes $788,000 for New
Mexico Water as these operations were acquired in July 2002, and $508,000
for Hawaii Water, which was acquired on April 30, 2003.
Total Operating Expenses
Total operating expenses were $109,131,000 for the six months ended June
30, 2003 versus $107,036,000 for the same period in 2002, a 2% increase.
This category is comprised of operations expense, maintenance,
depreciation/amortization, income taxes and property/other taxes.
20
Operations expense increased $3,421,000 or 3% from the prior year. A major
component of this expense is water production costs. Water production
costs consists of purchased water, purchased power and pump taxes. It
represents the largest component of operations expense. For the six
months, these costs accounted for 54% of total operations expense, down
from 57% in the prior year. Water costs decreased 1% compared to last
year. Water production decreased 5% due to the lower water usage by
existing customers and was partially offset by sales to new customers.
Well production provided 50% of the water supply, 49% was purchased from
wholesale suppliers and 1% was developed through our surface water
treatment plants. The components of water production costs and changes
from the six-month period of last year are shown in the table below:
Six Months
2003 Cost Change
----------- ----------
Purchased water $33,700,000 ($252,000)
Purchased power 8,991,000 50,000
Pump taxes 2,504,000 (293,000)
----------- ----------
Total $45,195,000 ($495,000)
=========== ==========
Purchased water and pump taxes were lower due to the decreased usage by
customers. Purchased power, which is used mainly for pumping equipment at
wells and distribution lines increased due to higher rates and were
partially offset by lower usage.
Other costs included in operations expense are wages, benefits, water
treatment, water supply, customer services costs and general corporate
expenses. Wages for union employees increased 1% effective January 1,
2003. Overall labor costs increased 6% due to replacing personnel at
higher salaries and adding labor related to New Mexico Water and Hawaii
Water. Payroll costs charged to operations expense increased by $671,000.
Benefit costs increased $1,806,000 for pension costs and higher medical
claim costs. Part of the agreement with union employees included a change
in the pension plan for the minimum payment amounts. This change increased
pension cost substantially, increasing 73% from the prior year. At June
30, 2003 there were 810 employees and at June 2002 there were 788
employees.
Other major items driving the increase in operations expenses were water
treatment/water quality expenses ($501,000) for increased testing and
customer service expenses ($280,000) caused by increases in bad debts.
Maintenance expense was $961,000 higher in the six-month period ended June
30, 2003 due to additional maintenance required for mains, service line,
meters and tank repairs. Depreciation/amortization expense increased
$815,000 because of the increase in utility plant assets.
Federal and state income taxes decreased $3,091,000 due to the decrease in
taxable income. The effective tax rate was 42% for the six month period
and 41% for the same period in the prior year.
21
Other Income and Expense
Other income and expense was $2,680,000 net income compared to $2,864,000
net income in 2002, a decrease of $184,000. The decrease was driven by
lower sales of surplus real property that was partially offset by
increases in income from operating/maintenance arrangements, meter
reading/billing services and rental income from cellular antenna leases.
Interest Expense
Total interest expense increased $962,000 with long-term debt interest
increasing $848,000 and short-term interest expense increasing $114,000.
Long-term debt interest has three components. Interest increased $947,000
because of the additional $40 million in senior notes issued. Our
refinancing program resulted in reduced interest cost on approximately $60
million of debt that produced savings of $467,000. This savings is
embedded in the net interest cost increase. Debt amortization increased
$61,000 due to the new debt and the program to refinance certain long-term
debt with lower-cost senior notes. Partially offsetting the interest
increase from new senior notes was the increase of $160,000 for
capitalization of interest related to construction projects in progress.
The amount of construction in progress has increased, driven by large
projects such as the Bakersfield treatment plant.
Borrowings under our short-term bank credit agreement were higher during
the first six months of this year compared to the same period in 2002.
Average interest rates on short-term debt was approximately 2.9% in 2003
compared to a 3.4% rate in 2002. The higher borrowings caused short-term
interest expense to increase by $114,000.
REGULATORY MATTERS
Rate Case Proceedings
California Water 2001 General Rate Case (GRC) Applications - This filing
was submitted in July 2001. A Draft of Proposed Decision (DPD) was issued
in January 2003 authorizing a $12.8 million annual revenue increase, which
is less than the initial filing. In addition, the DPD decision authorizing
a return on equity of 9.7% on 51.5% equity capitalization (equity divided
by equity and long term debt). In April 2003, the CPUC issued a decision
to establish April 3, 2003 as the effective date for the 2001
applications. This is favorable to us, as revenues will not continue to be
permanently lost due to the delays in GRC decisions by the CPUC. Past GRC
applications took approximately 10 months to receive a decision. The 2001
GRC filing is currently 26 months old. We are unable to predict when the
final decision will be issued, their composition or their financial impact
on 2003 net revenues.
Washington Water 2002 GRC Applications - Washington Water received
approval on its application effective April 2002 for $1 million of
increased rates annually to cover higher operating costs and capital
expenditures.
California Water 2002 GRC Applications - In November 2002, applications
were filed for rate increases of $1.3 million on an annual basis relating
to three districts. Due to the delays by the CPUC decision-making process,
we are unable to predict when the final decisions and rulings will be
issued, their composition or their financial impact on 2003 net revenues.
22
California Water 2003 GRC Applications - In January 2003, applications
were filed for rate increases of $8.2 million on an annual basis relating
to four districts. In July, 2003 we submitted a preliminary GRC filing and
the application is expected to be filed in September 2003. Due to the
delays by the CPUC in the decision-making process, we are unable to
predict when the final decisions and rulings will be issued, their
composition or their financial impact on 2003 net revenues.
California Water Advice Letters - Advice letters are used to request rate
increases for specific capital expenditures. The process for receiving
decisions on advice letters is less involved than for GRC applications.
Decisions by the CPUC on advice letters have been timely and much faster
compared to GRC applications. In June 2002, the CPUC authorized increased
rates for our Bakersfield district of $800,000 on an annual basis. In
April 2003, the CPUC authorized increased rates of $1.8 million. These
increases are for the new Bakersfield treatment plant that became
operational in the second quarter of 2003. We expect to make an additional
advice letter application in the second half of 2003 for Bakersfield for
approximately $4 million. These rate increases reflect additional
expenditures related to the new treatment plant with a total project cost
of approximately $49 million.
Other rate increases - The City of Hawthorne granted an increase of
$200,000 effective July 2003. This arrangement is not governed by the
CPUC.
Legislative Initiative
Regulatory delays in obtaining GRC decisions have been costly to
California regulated water utilities. In recent years, we have experienced
significant revenue losses due to regulatory delays. We normally file our
general rate case applications in July. The CPUC's stated rate case
processing plan provides for a decision within ten months. In the past,
when decisions were not issued in a timely manner, we lost revenue and did
not recover costs during the period the decisions were delayed.
Assembly Bill 2838 became effective on January 1, 2003. It is designed to
preserve the cash flow of regulated water utilities by providing interim
rate relief if the CPUC has not issued a decision for a requested GRC rate
increase within its established ten month processing period. The interim
rate relief is subject to adjustments based on the CPUC's final decision
in the GRC proceeding. For the six months ended June 30, 2003, Assembly
Bill 2838 did not have an impact on us in granting interim rate relief.
The CPUC interpreted the provisions of the bill to apply only to GRC
applications subsequent to January 1, 2003 and the CPUC is reviewing their
internal processing period.
LIQUIDITY
Short-term and Long-term Debt
Short-term bank borrowings were $50,058,000 at June 30, 2003 and
$36,379,000 at December 31, 2002. We have a $55 million agreement for
California Water Service Company, which expires in April 2005. The amount
is reduced to $45 million after
23
December 31, 2003. An amendment was executed which revised the date of
reduction from June 30, 2003 to December 31, 2003. The agreement has a
30-day out-of-debt compliance period that must be met by December 31,
2004. A $10 million credit facility exists for California Water Service
Group, CWS Utility Services and New Mexico Water Service Company. The
agreement has a 30-day out-of-debt compliance period that must be met by
December 31, 2003. New Mexico Water Service Company has a $2.9 million
facility that was renewed in January 2003 and expires May 2004 and does
not have an out-of-debt compliance period. Washington Water Service
Company has a $0.1 million credit facility that is currently unused.
We initiated a program in 2002 to refinance a portion of our outstanding
first mortgage bonds. This program has been continued in 2003. On May 1,
2003, we issued $10 million, 5.54%, 20-year series I Senior Notes and $10
million, 5.44%, 15 year series J Senior Notes. Both notes are unsecured.
The proceeds from these borrowings were used to redeem EE First Mortgage
bonds that had an interest rate of 7.9%. The principal, call premiums and
transaction costs were approximately $20 million. We will continue to
pursue refinancing opportunities when economic conditions are favorable.
The entire refinancing program is expected to impact approximately $100
million of debt and is expected to save approximately $1.8 million on an
annual basis.
Debt Credit Ratings
California Water Service Company is rated by Moody's Investors Service
("Moodys") and Standard & Poor's ("S&P"). The rating by Moodys is A1 and
S&P is A+. The ratings were unchanged from the revised ratings issued in
the fourth quarter of 2002.
Shelf Registration Statement
On July 11, 2003, we filed a shelf registration statement providing for
the issuance from time to time of up to $120,000,000 in common stock,
preferred stock and/or debt securities, became effective. We may issue any
of these types of securities until the amount registered is exhausted, and
will add the net proceeds from the sale of the securities to our general
funds to be used for general corporate purposes, which may include
investment in subsidiaries, working capital, capital expenditures,
repayment of short-term borrowings, refinancing of existing long-term
debt, acquisitions and other business opportunities.
On August 4, 2003, we announced the issuance of 1,750,000 additional
shares of common stock from the shelf registration statement. A prospectus
supplement and prospectus were filed with the SEC under rule 424 (b) (2)
on August 5, 2003. The shares were sold at $26.25 per share. The net
proceeds to us were approximately $44 million and the transaction was
closed on August 7, 2003. The funds were used to pay down short-term
borrowings and to invest in short-term money market instruments pending
their use for general corporate purposes. Additional information is
incorporated by reference to a Form 8-K filed on August 6, 2003. After
issuance of the 1,750,000 shares, there remains $74,062,500 in securities
under the shelf registration, which are available for future issuance.
24
Dividends, Book Value and Share Holders
The second quarter common dividend was paid on May 16, 2003, at $0.28125
per share compared to a quarterly dividend in 2002 of $0.28. This was our
234th consecutive quarterly dividend. Annualized, the 2003 dividend rate
is $1.125 per common share compared to $1.12 in 2002. Based on the
12-month earnings per share at June 30, 2003, the dividend payout ratio is
118% of net income. For the full year 2002, the payout ratio was 90% of
net income. On a long-term basis, our goal is to achieve a dividend payout
ratio of about 60% of net income.
At their July 23, 2003 meeting, the Board declared the third quarter
dividend of $0.28125 payable August 15, 2003 to stockholders of record on
August 1, 2003. This will be the 235th consecutive quarterly dividend.
About 4% of the outstanding shares participate in a reinvestment program
under the Company's Dividend Reinvestment and Stock Purchase Plan
("Plan"). Shares required for the dividend reinvestment and stock purchase
option of the Plan were purchased on the open market. Shares are also
purchased on the open market to fulfill the requirements of our sponsored
Employee Savings Plan (401K). Purchases for this plan are made on a
biweekly basis.
Book value per common share was $12.81 at June 30, 2003 compared to $13.12
at December 31, 2002.
We have approximately 4,200 stockholders of record of our common stock.
Utility Plant
During the six months ended June 30, 2003, capital expenditures totaled
$42.3 million. $32.2 million was from company funded projects and $10.1
was from of third party funded projects. The 2003 Company funded
construction budget is $51.7 million. Third party funded projects are not
determined by us and, therefore, we are unable to estimate the amount of
such projects for 2003.
At June 30, 2003, construction work in progress was $73.3 million compared
to $48.6 million at December 31, 2002. Work in progress includes projects
that are under construction, but not yet complete and in service. A main
reason for the increase in work in progress is the $49.5 million expended
to date on the Northeast Bakersfield Treatment Plant. This amount is
included in work in progress at June 30, 2003. This project is the largest
construction project ever undertaken by the Company. The Northeast
Bakersfield Treatment Plant began service to customers in May 2003.
WATER SUPPLY
Based on information from water management agencies and internally
developed data, we believe that our various sources of water supply are
sufficient to meet customer demand for the remainder of the year.
Historically, about half of the water source is purchased from wholesale
suppliers with the other half pumped from underground wells. A small
portion is developed through three local surface treatment plants.
25
To safeguard our water supply and facilities, we have heightened security
at our facilities and taken added safety precautions for our employees and
the water we deliver to our customers. While we do not make public
comments on our security programs, we have been in contact with federal,
state and local law enforcement agencies to coordinate and improve water
delivery systems security. We have assigned a high priority to completing
work necessary to comply with new Environmental Protection Agency
requirements concerning security of water facilities. This effort
encompasses all of our district operations.
ACQUISITIONS
Rio Grande Utility Corporation
On July 1, 2002, after receiving state regulatory commission approval, we
acquired certain assets of Rio Grande Utility Corporation (Rio Grande)
through New Mexico Water. The purchase included the water and wastewater
assets of Rio Grande, which serves 2,400 water and 1,700 wastewater
customers about 30 miles south of Albuquerque. The purchase price was $2.3
million in cash, plus assumption of $3.1 million in outstanding debt. Rate
base for the system is approximately $5.4 million. Revenues for 2002 were
$1.6 million.
The Rio Grande purchase price was allocated to the fair value of net
assets acquired, including utility plant, water rights and assumed
liabilities. The allocation of fair value is based on management's
estimate of the fair value for purchase accounting purposes at the date of
acquisition. Our results of operations for the three-month and six-month
periods ended June 30, 2003 include the operating results of New Mexico
Water. These were not material to the Company.
Kaanapali Water Corporation
On April 30, 2003, we acquired the Kaanapali Water Corporation for an
initial payment of $7.5 million in cash. In July 2003, the purchase price
was adjusted due to adjustments in rate base for deferred taxes.
Approximately $1.5 million was refunded to the Company resulting in a net
purchase price $6.0 million. The purchase price was allocated to the fair
value of net assets acquired, including utility plant, water rights,
receivables and assumed liabilities. The allocation of fair value is based
on management's estimate of the fair value for purchase accounting
purposes at the date of acquisition and is subject to adjustments as new
information is available up to one year after the acquisition date. After
completing the acquisition, the entity's name was changed to Hawaii Water
Service Company, Inc. Hawaii Water provides water utility services to 500
customers in Maui, Hawaii. It had 2002 revenues of $3.0 million, and has
net plant excluding contributions in aid of constructions of approximately
$5.7 million and current assets of $0.3 million. The Hawaii Public
Utilities Commission ("HPUC") approved the acquisition in March 2003. The
final purchase price will be determined after certain events have
occurred, principally the resolution of determining rate base after filing
for a general rate case with the HPUC. At that time, the purchase price
could be adjusted. Preliminary estimates of the amount of adjustment are
between 0 and 5% of the purchase price.
National Utilities Corporation
In June 2002, NMWSC signed an agreement to purchase National Utilities
Corporation and related parties for approximately $1,100,000. National
Utilities serves 700 water customers located adjacent to the Rio Grande
water system and another 900 water customers located
26
150 miles south of Albuquerque, New Mexico. The purchase will entitle
NMWSC to purchase up to 2,000 acre-feet of water annually as required for
its operations. The purchase is subject to the approval of the New Mexico
Public Regulation Commission. Regulatory approval is expected in the third
quarter of 2003 and the transaction is expected to close in the fourth
quarter.
National Utilities had 2001 revenue of $575,000 and total assets of
$1,425,000. Its net utility plant in service at December 31, 2001 was
$1,143,000.
ACCOUNTING PRONOUNCEMENTS
See Note 9 to the Condensed Consolidated Financial Statements
Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We do not hold, trade in or issue derivative financial instruments and
therefore are not exposed to risks these instruments present. Our market
risk to interest rate exposure is limited because the cost of long-term
financing and short-term bank borrowings, including interest costs, is
covered in consumer water rates as approved by the commissions. We do not
have foreign operations; therefore, we do not have a foreign currency
exchange risk. Our business is sensitive to commodity prices and is most
affected by changes in purchased water and purchased power costs.
Historically, the commission's balancing account or offsetable expense
procedures allowed for increases in purchased water and purchased power
costs to be passed on to consumers. Over 95% of our net income and cash
flows come from California operations; therefore the CPUC actions have a
significant impact on our business. See Item 2, Expense Balancing and
Memorandum Accounts and Regulatory Matters.
Item 4.
CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
We carried out an evaluation, under the supervision of and with the
participation of our management, including our principal executive and
principal financial officer, of the effectiveness of the design and
operation of our disclosure controls and procedures as of the end of the
period by this report, pursuant to Rule 13a-15(b) under the Securities
Exchange Act of 1934. Based on their review of our disclosure controls and
procedures, the principal executive officer and principal financial
officer have concluded that our disclosure controls and procedures are
effective in timely alerting us to material information that is required
to be included in periodic SEC filings.
27
(b) Changes to Internal controls
There were no changes in our internal controls over financial reporting
that occurred during our last fiscal quarter that have materially
affected, or are reasonably likely to materially affect, such controls.
PART II OTHER INFORMATION
Item 1.
LEGAL PROCEEDINGS
(a) In March 2003, we were served with a lawsuit in state court, as one of
several defendants, for damages and injuries related from alleged
contamination in our drinking water supply in the Marysville district.
The suit did not specify a dollar amount. In June 2003, all other
defendants, who were governmental entities, were dismissed, and the
plaintiff was granted leave to amend his complaint against us. Based on
plaintiff's previously filed complaints, we doubt the amended complaint
will allege any facts under which we may be held liable. We intend to
vigorously defend the suit. In 2000 and 2002, the same plaintiffs in
this action brought suits against us in federal court with similar
allegations concerning drinking water supply contamination. All federal
claims were dismissed with prejudice; however, the Federal Court
refused to hear the state claims. Our insurance carrier is paying for
legal defense costs, and we believe that our insurance policy will
cover all costs related to this matter.
(b) Cal Water is required to report each water system acquisition to the
CPUC and obtain CPUC authorization before charging rates. In February
2003, the CPUC`s Office of Ratepayer Advocates recommended that the
Company be fined up to $9,600,000 and refund $470,000 for failure to
report and obtain CPUC authorizations on two acquisitions. One
acquisition was completed on March 12, 1997 prior to adoption of the
reporting requirement by the CPUC; the other was inadvertently not
reported. Cal Water purchased the two water systems (Indian Springs and
Country Meadows), which serve 283 customers, for approximately
$140,000. The staff's recommendation does not challenge the level of
service provided or amounts charged for water service to the customers
but our failure to obtain authorization to charge rates set forth in
the purchase agreements and our failure to report the acquisitions to
the CPUC in accordance with a previously executed memorandum of
understanding. Cal Water and the Office of Ratepayer Advocates (ORA)
have filed their briefs in the matter and are awaiting the
Administrative Law Judge's issuance of a proposed ruling. We believe
that ORA's recommendation is extraordinarily harsh given the nature of
the infractions and that any penalty will be substantially reduced when
this matter is considered by the full CPUC.
28
On May 7, 2002, the Cal Water filed Advice Letters 1514 and 1515
notifying the CPUC of its acquisition of the water systems and
requesting authorization to charge the rates filed and include the
Indian Springs and Country Meadows water systems in its Salinas
District. Additionally, on June 26, 2002, Cal Water filed Advice Letter
1517 notifying the CPUC of its acquisition of the Olcese Water District
water system and to include this system in its Salinas district. On
July 10, 2003, the CPUC issued Resolution W-4390. In this resolution
the Commission staff raised the issue of the legality of the contracts
entered into by Cal Water to acquire the Indian Springs and Country
Meadows water systems and whether Cal Water complied with legal
requirements prior to charging rates to the Olcese Water District
customers. The resolution grants the Company's request to consult with
the CPUC Water Division with the goal of resolving issues within 120
days, at which time, the CPUC will then consider if additional action
is warranted. We are working with Water Division to reconstruct the
contracts. At this time, we cannot estimate the amount of the penalty
or the timing of the resolution of these issues.
Item 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) Disclosure of matters to a vote of security holders was provided in our
Form 10-Q for the first quarter of 2003. This relates to matters voted
on by security holders at our April 23, 2003 shareholders meeting.
Item 6.
EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits required to be filed by Item 601 of Regulation S-K.
The exhibit list required by this Item is incorporated by reference to
the Exhibit Index attached to this report.
(b) Reports on Form 8-K
On July 24, 2003, we filed a current report on Form 8-K pursuant to
Item 12, "Disclosure of Results of Operations and Financial Condition,"
attaching our press release dated July 23, 2003 announcing earnings
results for the second quarter of 2003.
On August 6, 2003, we filed a current report on Form 8-K pursuant to
item 5, "Other Events" attaching the Underwriting Agreement, the Terms
Agreement and the legality opinion of counsel relating to the sale of
1,750,000 shares of common stock, par value $.01 per share.
29
SIGNATURES
Pursuant to the requirement 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.
CALIFORNIA WATER SERVICE GROUP
------------------------------
Registrant
August 13, 2003
By: /s/ Richard D. Nye
Richard D. Nye
Vice President, Chief Financial Officer
and Treasurer
30
Exhibit Index
Exhibit Description
10.24 Amendment dated June 25, 2003 to agreement with.................. 32
Bank of America dated February 28, 2003.
31.1 Chief Executive Officer certification of financial statements.... 34
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2 Chief Financial Officer certification of financial statements.... 36
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32 Chief Executive Officer and Chief Financial Officer.............. 38
pursuant to 18 U.S.C. Section 1350, as adopted pursuant
to Section 906 of the Sarbanes-Oxley Act of 2002.
31